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Life Health > Life Insurance

Settling A Life Policy That's Held In A Trust

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Selling a life insurance policy on the secondary market can be a complex transaction with many factors playing a role in determining what a policy is worth. However, whether or not the policy has been held in a trust is not one of those factors, according to industry experts.

“The form of ownership doesn’t really matter” in terms of the sale price itself, said Michael Bonasera, an attorney specializing in trusts and estates in the Columbus, Ohio office of the law firm Buckingham, Doolittle & Burroughs, LLP. “It really doesn’t make a difference to the market.”

The use of trusts in keeping life insurance policies is a “very common planning tool,” particularly among high net worth individuals who would expect to be facing estate tax issues, according to Bonasera.

While the end result may be largely unchanged, selling a policy held in trust can add work to the process of bringing a policy to the secondary market.

“There are some issues,” although in general “the answer is different depending on the trust,” said George Sanders, co-founder of Murray, Utah-based Safe Haven Financial Center, Inc. However, many of those differences, he said, are in the dealings with the trust, as the transaction itself wouldn’t be any different.

According to Bonasera, a major factor can be if the trust was set up as a revocable or an irrevocable trust. If the trust is revocable, and the grantor is also the trustee, he said, selling a policy would be “no big deal” because the beneficiaries in a revocable trust do not have a vested interest and the trustee has no duty to them. However, in an irrevocable trust the vested interest does exist, creating a fiduciary duty to the policy beneficiaries for the trustee. Those beneficiaries, Bonasera said, might prefer to collect larger death benefit than whatever the policy could garner on the secondary market. “You’re going to need to get their consent,” he added.

Sometimes, however, the management of a trust, or mistakes therein, can lead to the decision to sell. Under an irrevocable life insurance trust, Sanders noted, whenever funds are gifted into the trust, such as for paying premiums, the trustee is required to notify the beneficiaries of the new funds. These letters, often referred to as “Crummey letters” after the court case that established the principle, are designed to notify the beneficiaries of their option to simply take their share of the new funds or keep it in the trust.

This requirement, Sanders said, has been at the root of many “irreparably compromised” trusts. In these cases, by failing to send the letters, the trust is compromised and the face value of the policy would then be calculated as part of the estate upon the insured’s demise. “Often we’ve seen life insurance trusts where there’s not been a single letter,” he said. “Sometimes it’s cleaner to sell the policies in the trust” and start anew.

Once the decision to sell a trust-held policy has been made, the most important thing an agent bringing the policy to a life settlement broker or provider can do is to provide them with the documentation relating to the trust as well as the policy.

William Scott Page, president and CEO of the Lifeline Program, an Atlanta-based life settlement broker, said that while providing trust documentation may sound like a basic requirement, it is often among the most problematic of the process.

“It always seems to be a nightmare” to get trust documents, he said. “It seems people are more willing to give out their Social Security numbers and medical records.”

Going over trust documents makes for a “much more labor intensive” due diligence process, he said, but doing so is crucial to ensure that the transaction does not run into any roadblocks.

“They identify who’s authorized to act and make decisions regarding the trust,” he said. “Do they have the authority to sell an asset, and is an insurance policy one of the assets they can sell?”

Additionally, Page said a broker would need to see if there were any unique provisions in the trust. “Some trusts are very boiler-plate,” he said, “but some are very specialized.”

Page said a broker also “has to evaluate why the trust was created,” in terms of whether it was created solely to hold the life policies or if there are other assets involved. Examining that can also determine if there are any potential insurable interest issues, he said. If the trust was established prior to the life insurance policies being purchased, he said, that helps demonstrate valid insurable interest as it shows the trust was not created solely for maintaining the life policies. Page added that it would “raise a red flag” if a trust were recently established with the date of the trust’s creation and that of the policy, the same or close, and no other insurable interest can be identified. His company would shy away from such deals.

However, he also noted that there are players in the market who will buy recently issued policies, known as “wet ink” policies.

“There is a market,” he said. “There are people who will buy ‘wet ink’ ” policies that are still within the contestable period.

For those who sell such policies, he said, it is important they “go in with their eyes open” and be aware of the consequences of the deal, most notably on the limits of their insurability. “Once they reach that limit, they’re not going to get any more coverage.”

Despite the added work for a broker or provider, Page said that in the current market a seller would receive the same amount for a policy whether it is held in trust or not. “They get the same,” he said.

For an agent looking to sell a policy, Page said getting the full documentation to the broker or provider is crucial. “Collecting those documents seems to be the biggest time delay,” he said.

Additionally, he said, “sometimes we get redacted trusts” where trustees, beneficiaries or the agent bringing the policy seek to keep other assets in the trust confidential. That, he said, will not meet the requirements of a provider and their underwriters who would craft a bid for the policy. “They need to review the trust,” he said, and will be wary of dealing with anything that is incomplete.

“The sooner they get this information and send it to the life settlement provider,” he said, “the sooner the underwriting process can begin.”

Sanders said they should make sure that it truly isn’t needed, and that it won’t affect the seller’s ability to get coverage down the road. “You’ve got to make sure you can meet all your estate needs before you start unloading policies,” he advised.

Once the sale is made, Sanders said the taxation of proceeds will depend on how the policy is held. In many cases, he said, the taxes would be paid by the trust itself, but that could change depending on where the proceeds of the sale end up.

Whether the taxes are paid by the trust itself, the trustee or the initial purchaser of the policy, Bonasera said, will depend on where the proceeds from the sale ultimately end up. “The government is going to follow the money.”


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