05 Dec Viatical Settlements – Do They Really Make Sense?
Viatical Settlement May Be the Answer When Facing Terminal Illness?
Traditionally, life insurance benefits are used to protect family finances upon the death of a breadwinner. However, there is a harsh reality for many individuals facing life-threatening illnesses—eventually, they may lack the financial resources to pay for even basic health care. In recognition of this dilemma, companies have been created with the specific purpose of purchasing a terminally ill individual’s life insurance policy. The cash from the purchase can then be used by the terminally ill individual to help pay for mounting medical expenses. This transaction is called a viatical settlement. Although, on the surface, a viatical settlement may seem like the “only alternative” for many terminally ill individuals, it may not be the best course of action. Before action is taken, it is important to gain a basic understanding of what a viatical settlement is, its limitations, and its potential pitfalls.
A viatical settlement (from the Latin word viaticum, meaning “provisions for a journey”) enables a person facing terminal illness to sell his or her life insurance policy for cash at a discount from its face value. Under such an arrangement, a viatical settlement company buys the policy from the terminally ill policy-owner / insured, maintains the premium payments, becomes the owner and beneficiary of the policy, and receives the death benefit upon the individual’s death. Viatical settlements are usually available for those with life expectancies of less than three years.
If an individual seriously considers selling his or her policy to a viatical settlement company, there are a number of questions that need to be considered before making a decision:
- Why was the policy originally purchased, and does that need still exist?
Typically, a life insurance policy is purchased to help maintain a family’s financial security in the event of an untimely or unexpected death. Policy proceeds are used to help ensure adequate education funding, cover a mortgage liability, supplement a spouse’s retirement, and / or pay estate taxes. An insured will need to weigh the benefit of selling his or her policy versus the potentially negative impact that the lack of a life insurance death benefit could have on his or her family.
- What percentage of the policy’s death benefit will a viatical settlement company pay?
Viatical settlement companies pay between 50% and 80% of the policy’s death benefit (less any outstanding loans). Generally, the amount depends on the insured’s life expectancy. Shorter life expectancies (less than six months) generally pay the highest percentage. Thus, economics will play an important part in determining the overall benefit of accepting a viatical settlement.
- Will the acceptance of a viatical settlement create any adverse financial consequences?
It is possible that the proceeds of a viatical settlement could nullify eligibility for government assistance programs (e.g., Medicaid). Also, a viatical settlement may be considered income for tax purposes. Finally, a viatical settlement may be subject to the claims of creditors. On the other hand, a life insurance policy’s death benefit proceeds are generally not income taxable, nor subject to the claims of creditors.
- Have all alternatives been properly explored?
Permanent life insurance policies generally have a cash value component. The cash value can be borrowed against, or used to secure a loan from a lending institution. In addition, some policies may pay a portion of the policy’s death benefit under certain circumstances. Under all of these alternatives, the insured retains ownership of the policy, which may add comfort and security for beneficiaries.
A Cautious Approach is Best
The emotional and physical toll that a terminal illness can have on an individual is difficult to comprehend and affects people in different ways. At the same time, the economic impact a terminal illness can have on an individual’s or a family’s financial situation can make matters all the worse. With this in mind, it is important to recognize that there are options. In this respect, a viatical settlement may carry some appeal. However, familiarity with the potential pitfalls is essential before taking action. For this reason, it is important to consult with a qualified insurance, legal, and tax professional to make the best decision under already difficult circumstances.