A new study funded by insurers says that policyholders who are seeking the best economic value for their life insurance policies should understand the costs associated with life settlements.

The study, “The Life Settlements Market–An Actuarial Perspective on Consumer Economic Value,” looks at options for contract holders: surrendering the contract for a cash surrender value, selling the policy in a life settlement transaction and retaining the policy until death.

The report finds that life settlement values are higher than cash surrender values but lower than the intrinsic economic value of retaining the policy until death.

Life settlements, according to the study, have a risk profit component that represents 30% of the economic value of the contract and 70% that represent transaction costs.

Transaction costs were broken out as follows: expense profit, 5%; taxes, 26%; selling commission, 14%; servicer, 7%; provider, 7%; and, broker, 11%.

The study compares transaction costs with other types of investments and finds a .01%-1% cost for stocks; 1-2% for bonds; 0-5% for mutual funds; 3-5% for gold; 4-8% for residential real estate; 10-15% for art; and 50%-67% for life settlements.

The report examined the face amount of life insurance contracts in New York between 2000 and 2003. As a percent of the face amount on New York schedule 8 filing, total death benefits for that period had an average of 64% with a range of 56%-77%. The life settlement values for the selected contracts had an average of 20% as a percent of face amount. The range for life settlement values was between 17%-33% as a percent of face amount.

The report, prepared by Deloitte Consulting LLP and the University of Connecticut, indicates that the lost economic value–the difference between the death benefit ratio and the life settlement value ratio–was 44%. The range for lost economic value was 38%-49%.

Massachusetts Mutual Life Insurance Company, Springfield, Mass., was among the insurers that sponsored the study.

Consumers should know that life settlement transactions are very expensive, says John Skar, a MassMutual senior vice president and chief actuary. The option of holding a policy until death should be noted in life settlement marketing materials, he says.

Skar challenges the notion that insurers are concerned that the life settlement business will cause more policies to be kept in force resulting in greater costs at some point in the future. “I’m saying that people should retain their policies,” he says.

Policyholders, according to Skar, are being convinced to sell their policies because they are being shown a comparison of cash surrender values and life settlement values and not being told about the greater values possible by holding a contract until death.

By their own analysis, insurers ought to be doing better than they have, responds Doug Head, executive director of the Viatical and Life Settlement Association of America, Orlando, Fla. They ought to be offering better cash surrender values, he adds.

“The insurance industry is well-positioned to help by competing for policies that are sold and driving up values. They have not done so,” Head says. “Why aren’t they offering more or going into the settlement business. Why are they not bringing capital in?”

Bryan Freeman, VLSAA president, says that 95% of life settlements are UL purchases, but one assumption of the actuarial model in the study is based on whole life premiums with level premiums payable for life.

On the issue of disclosure, Freeman says it is “self-evident” that someone can keep a policy in force until death and life settlement companies would not have an issue with that. However, he continues, if life settlement companies have to make disclosures, companies, including MassMutual, also should have to make disclosures before customers surrender contracts informing them that there is a life settlement option that could benefit them.

He says that over time, a customer’s insurance needs can change and currently, there is not the flexibility within contracts to provide for these changes. In such cases, according to Freeman, people have to lapse a policy and purchase a new contract. A life settlement offers such consumers another option to get the coverage that they need, he continues.

Scott Page, president and CEO of The Lifeline Program, a life settlement company in Tucker, Ga., says, “There are no light bulb moments in this study.”

The data relies on contracts in New York and is “flawed,” he says, because New York requires the regulation of viatical contracts, those whose contract holders have a life expectancy of 24 months or less, not of life settlement contracts.

Page also notes that life settlement companies have many disclosures with which they have to comply. Life insurers, he continues, should disclose before a lapse that there is the option of a life settlement. Life settlements pay more than surrender values or there would be no life settlement marketplace, he says. Indeed, Page says he believes life insurers have a “fiduciary responsibility” to inform contract holders who are going to lapse their policies of the life settlement option.

New study compares costs surrendering, retaining a life contract or doing a life settlement