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Before your client lapses that life insurance policy, consider the alternatives

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More than 100 years ago, in its landmark Grigsby v. Russell decision, the U.S. Supreme Court ruled that life insurance is personal property and can be bought and sold like any other property you own. That means your client’s life insurance policy has value to his or her family right now, not just when he or she passes away. Unfortunately, the vast majority of your clients are unaware of this simple fact.

The problem arises when the policy owner concludes they just can’t afford those premiums anymore, perhaps because they’re now in their retirement years and living on a fixed income. Or maybe they decide they just don’t need the death benefit anymore now that their kids are grown, have steady jobs and built families of their own.

So, in the absence of knowledge about any other alternatives, most policy owners in that situation just lapse or surrender the policy back to the insurance company, accepting whatever small amount of cash surrender value is available.

Research available to the Life Insurance Settlement Association indicates that more than 710,000 policies are lapsed or surrendered each year — with a combined face value of more than $57 billion — by American seniors over the age of 70.

It’s important that advisors exercise their trusted voices with clients who have decided to lapse or surrender a life insurance policy. You need to speak up and inform them of their options; in fact, many advisors to whom we’ve spoken with industry conferences have said they feel it’s their fiduciary responsibility to make their clients aware of alternatives to lapsing or surrendering a policy.

But aside from the fiduciary issue, there is a common-sense test: if a client could lapse a policy for its nominal cash surrender value of $20,000 or they could sell that same policy to an investor for $150,000, shouldn’t they be entitled to this information?

So, if a client has decided they no longer need or can afford a life insurance policy, what are the alternatives to lapsing the policy and surrendering it back to the insurance company?

Here are the primary options that your clients should know exist to them:

  • Maintain the policy through loans, using the policy or its cash surrender value as collateral;

  • Seek an accelerated death benefit, if possible;

  • Convert the policy to a long-term care health insurance policy, if possible;

  • Assign the policy to someone else as a gift or to a non-profit organization as a charitable contribution;

  • If it is a “term” policy, attempt to convert it to permanent insurance;

  • Reduce the death benefit (a lower “face value”) and the premiums; and

  • Sell the policy to a third-party investor through a life settlement.

As with any financial planning decision, there is no “one size fits all” answer to which of these options is best. The one that makes the most sense for your clients will depend on the unique needs and desires of the policy owner — and that is where you, as the trusted advisor, can play an invaluable role to guide your clients to the wisest decision.

If the motivating consideration for your client is to obtain cash in their hands — for retirement needs, health care expenses or simply to invest into other assets — then a life settlement is likely the best alternative. When they enter into a life settlement, life insurance policy owners realize an average of seven times the amount of the policy’s cash surrender value, based on an analysis of a 2010 survey by the U.S. Government Accountability Office. Perhaps that’s why 90 percent of seniors who have lapsed a policy would have considered selling it if they had known a life settlement was an option, according to a survey prepared for the Insurance Studies Institute.

Our new website includes a dedicated Consumers Advisors section that serves as a free information resource for financial advisors, insurance agents, accountants, attorneys and other professionals who are in a position of providing counsel to seniors and their family members regarding important financial planning decisions. These resources can help advisors determine which clients may be good candidates for life settlements and which clients may be better served with other solutions.

Regardless of what your clients choose to do, just make sure that they are informed of all options before they lapse that policy.

See also:

Life settlements and insurable interest: the historical basis 

$112 billion in life insurance lapses by seniors – shame on all of us!