Life settlements: What producers should know about fair market value

Life settlement brokers have been keystone players due to their role in sourcing and supplying large volumes of policies. Life settlement brokers have been keystone players due to their role in sourcing and supplying large volumes of policies.

It’s a fact.  The life settlement industry is in growth mode.  As a result, insurance professionals nationwide are seeing a flurry of marketing campaigns offering to facilitate the purchase of their clients’ life insurance policies.

This is a good thing.  Increased messaging about the benefits of a life settlement can only help to establish greater consumer awareness for a product that, for some, may be the most sensible option for unwanted policies.  Unfortunately, many Americans who own policies that are on the verge of lapse or surrender are leaving billions of dollars on the table, as noted in Warren Hersch’s recent article, “Forfeited life insurance benefits pegged at $112 billion.”

Agents familiar with the life settlement marketplace recognize that the life settlement broker has traditionally played a key role over the years in creating the secondary market arbitrage (bidding war) that ultimately establishes each policy’s “fair market value.”

But, to those agents who believe they are being targeted with marketing messages directly from providers/funders, it may appear as though the provider/funder is leapfrogging the familiar agent-broker-provider/funder model. 

Many agents, especially those who are new to handling life settlement transactions for their clients, may not fully understand the role of each player and the dynamics of the marketplace.  Some agents who are being approached by both brokers and providers/funders may become overwhelmed or confused as it relates to the correct approach.

Their primary goal is to help their clients make the right decision while feeling confident that the offer they have received represents the policy’s fair market value. However, that is difficult to accomplish by working directly with only one or two providers/funders.

Determining fair market value 

Life settlement brokers have been keystone players in the marketplace due to their role in sourcing and supplying large volumes of policies that match the pricing guidelines and portfolio objectives of the providers’ investors. Settlement brokers who employ compliance and underwriting staff also help identify any red flags over licensure issues before the cases proceed through the review process and reach the provider’s desk.

Over the past 20 years, market forces in the life settlement industry have caused the industry to grow, contract, and now grow again.  The industry’s volatility during the recent economic downturn caused some participants to close up shop, and for some providers/funders to morph into a hybrid business model that both sources and services product flow.

Today, we operate in a marketplace where clear boundaries over roles have changed. From the agent’s vantage point, marketing campaigns indicate the function of the life settlement broker has blurred relative to role of the provider/funder in delivering the highest possible offer for their clients’ policies.

Regardless of shifting market dynamics and the blurring of roles, certain truths remain:

  1. Policy sellers are entitled to receive the fair market value for their life insurance asset

  2. Determining the fair market value of the policy typically occurs as a result of an auction process where the life settlement broker creates a bidding war among multiple providers/funders who compete to purchase the policy. 

Secondary market bidding wars

As the secondary market auction begins, the life settlement broker represents the policy seller in pursuit of the highest possible offer.  The provider represents the interests of investors to purchase policies at the greatest possible discount. 

Let’s assume the settlement broker presents a life settlement case to 10 providers licensed to do business in the state where the policy owner resides.  Let’s further assume that each of these 10 providers has five institutional money sources with different investment parameters. 

By presenting this case to 10 providers, the life settlement broker has exposed the case to 50 potential pricing models. Result: an exponential increase in the likelihood the transaction will receive an offer that reflects its fair market value. But while brokers may submit a case to 10 providers, on average only five providers may actually bid on the policy.

To give readers an inside perspective of a typical bidding war, we created an infographic of the life settlement bidding process that contains three different case profiles. These actual case examples, brokered by Asset Life Settlements, illustrate the bidding activity that occurs over a period of weeks until the highest offer has been obtained   

In case profile #2 from the infographic (above), five providers/funders are engaged in bidding for a $1 million policy.  It is instructional to note that the lowest, single bid came from one provider (Provider A).  The highest bid came in at $190,000 (Provider E). 

This case example leaves one to ponder what would have occurred had the agent not used a life settlement broker, but instead was motivated by a marketing campaign to work directly with Provider A, and then accepted the $20,000 from Provider A.  In such a scenario, the agent’s client would have left $170,000 on the table.  This chart makes the light bulb go on for many producers who want to be sure that their client is receiving the highest possible offer.

Assigning responsibility

So whose duty is it to make sure the client receives the policy’s fair market value? While all entities involved in the secondary market may express a commitment to achieve the highest possible offer for the client’s policy, the originating entity (agent/producer) closest to the client (policy owner), has the strongest motivation because of their relationship and loyalty to their clients.   As we examine the role of each of the three entities that are typically involved in a life settlement transaction, we gain a deeper understanding of how the life settlement marketplace works, and the critical role played by the life settlement broker. 

  1. The agent/producer:  Agents who originate a life settlement transaction are aligned with their clients in wanting the highest possible offer for their insurance asset.  To do this, most agents prefer to outsource the bidding process to an experienced life settlement broker who has the knowledge and skill to negotiate with funders.  While some agents may bypass the life settlement broker and work directly with a single provider who offers to purchase a policy, the question remains as to whether the client received the highest offer.

  2. The life settlement broker: The life settlement broker has a pulse on the funders operating in the secondary market, understands the types of policies they prefer to purchase, and has built professional relationships with each funder.  Experienced settlement brokers possess sharp negotiation skills and understand how to create secondary market competition for the policies they shop.     In short, the broker’s primary goal is to represent the agent/client in receiving the highest offer by creating a bidding war among the providers/funders.

The more experienced life settlement brokerage firms provide valuable back office services to minimize the agent’s time and involvement, while maximizing the outcome of the client’s case by delivering the highest offer.

In the best run shops, the goal is to provide the agent and client with an optimal experience in the pursuit of the policy’s fair market value.  The brokerage firms do this by streamlining the entire process — from case intake through contract management and review. 

  • Providing the agent and client with preliminary pricing for the client’s policy

  • Acquiring and assembling the necessary client records for medical underwriting

  • Purchasing life expectancy reports before shipping the case file to each provider/funder

  • Identifying and targeting the appropriate providers/funders to begin the bidding process

  • Narrating the client’s “story” to each provider/funder to maximize buyer interest

  • Providing hands-on case management throughout the bidding process

  • Leveraging case volume with providers/funders to negotiate the best offer for each policy

  • Delivering the highest offer to the agent, navigating the agent through the contract review process and streamlining the client’s execution of numerous and sometimes complicated legal documents. 

(3) The provider:  At the top of the supply chain, providers have a duty to their institutional investors to purchase a steady flow of policies as cheaply as possible.  Each provider has approximately three to five institutional investors, each with its own investment criteria based on life expectancy, cost of premiums to maturity, and internal rate of return.

That said, agents determine which approach to take to obtain the fair market value of their policy.  But as stated earlier, obtaining the highest offer (fair market value) for a client’s policy is highly unlikely by shopping the case to only or two providers/funders.

The life settlement ecosystem

In most situations, each policy sold in the secondary market will be handled by three sources: the originating agent, the life settlement broker, and the provider/funder.  All three contribute value and play a vital role in helping the client obtain the highest offer. 

  • Without the agent originating policies for the broker to shop in the secondary market, the broker’s function would cease to exist.   
  • Without the broker sourcing large numbers of policies to providers and creating a bidding auction, product flow would dry up for the providers and establishing fair market value for each policy would be impossible. 
  • Without the provider/funder purchasing policies on behalf of institutional investors, investors would pull their money out of the market and the secondary market for life insurance would cease to exist.    

Summary

As the life settlement industry continues on a growth curve, more needs to be done to educate consumers and agents regarding the product and the marketplace dynamics that help to determine fair market value.  Of all the players involved in the secondary market for life insurance, the originating agent/producer plays a pivotal role in deciding the best approach to pursuing the highest possible offer for their client’s policy.

The intent of this article is to help producers better understand the marketplace dynamics, the critical role of the life settlement broker in helping to determine the policy’s fair market value, and why accepting an offer directly from only one or two providers/funders may not be to their client’s advantage.

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