The Financial Accounting Standards Board has released a ruling that could help U.S. companies invest more of their own cash in life settlements.
In the past, U.S. companies have had trouble using their own money and cash from other U.S. investors to buy life insurance policies because accounting rules required them to treat the purchased policies as assets with a value less than or equal to the cash surrender value.
Cash surrender values are typically much lower than life settlement policy purchase prices, settlement firms say.
Now FASB, Norwalk, Conn., has released a FASB Staff Position, in FASB Technical Bulletin 85-4-1, that lets purchasers of life insurance policies use either the investment method or the fair value method to value purchased policies.
“We like the FASB decision,” says Doug Head, executive director of the Life Insurance Settlement Association, Orlando, Fla.
The U.S. life settlement market has been growing about 50% per year. The FASB ruling could lead to even faster growth, by increasing institutional investors’ confidence in the market and permitting U.S. purchasers to use the true market value of purchased life policies when reporting life settlement assets, Head says.
Brian Pardo, chairman of Life Partners Holdings Inc., Waco, Texas, a publicly traded life settlement company, agrees that the FASB ruling will increase investor interest in the life settlement market.
“By its adoption of these new rules, FASB has recognized the significance of life settlements as an emerging alternative asset class,” Pardo says.
The new FASB ruling lets companies choose whether to use the investment method or the fair value method on a policy by policy basis.
Purchasers that use the investment method can “recognize the initial investment at the transaction price plus all initial direct external costs.” When the insured dies, the investor can recognize in earnings the difference between the carrying amount of the life settlement contract and the life insurance proceeds paid on the underlying life insurance policy, FASB says.
Purchasers that use the fair value method can recognize the initial investment at the transaction price, then recognize estimated changes in the fair value for each accounting period.
A company must report assets recorded using the fair value method separately from the assets recorded using the investment method.
Companies subject to the new guidelines will have to report the number of life settlement contracts held using each valuation method, the carrying value of those contracts, and the face value of the life insurance policies behind the life settlement contracts, FASB says.