Many American seniors-typically those 65 years of age or older-are discovering that life insurance policies that once seemed appropriate no longer meet their needs. Unfortunately, the life insurance companies that sold them the policies in question may not offer real advice or solutions.

The insurance companies do allow their customers to "surrender" their policies, which means the policyholder will be offered a mere fraction (typically 3-5%) of the policy's face value. A life settlement is the sale of an existing life insurance policy for more than its cash surrender value but less than its net death benefit. Such transactions, usually undertaken for the purposes of estate or financial planning, put choice in the hands of consumers.

As this paper will show, life settlements represent an important option for a growing number of people who thought they had no options. Rather than continuing to pay premiums on a policy that no longer serves it original purpose, life settlements offer payoffs that can be significantly greater than surrendering a policy. Life Settlements offer a reasonable and profitable exit strategy that addresses the financial objectives of policyholders.

In Search of Options and Opportunities

Changing priorities or dissatisfaction with life insurance policies have driven many policyholders to discontinue their existing life insurance policies. While policy owners have had a legally protected right to sell (or "assign") a life insurance policy for almost a century, very few have taken advantage of this opportunity until recently.

Here are some of the factors encouraging insured individuals to reconsider the value and necessity of their current policies:

• Paradigm shift in consumer thinking. Americans have an extraordinary amount of choice in most products and services. Similarly, they have come to expect the same amount of freedom to maximize value in the realm of life insurance. They are recognizing that life insurance is merely one asset within an estate or financial portfolio that should be managed for optimum outcomes. They are no longer willing to treat life insurance as an "untouchable" product that must always be held until death.

• Guidance. As the poor performance or under-performance of certain life insurance (particularly universal life) policies becomes increasingly clear over time, financial advisors are exploring options with their clients. Life Insurance agents, who are increasingly attuned to the changing needs and priorities of their customers over time, may suggest alternatives. Many Independent insurance agents have an inside perspective on how individual policies have performed, and are in a position to discuss options with their clients.

• Feathering the empty nest. As Americans enter their senior years, they often experience unexpected changes that alter their priorities. Policies that once made sense no longer do under new circumstances. For instance, decisions that seemed appropriate when policyholders had children in the house may no longer seem appropriate. These life changes may drive some seniors to decide that a given life insurance policy is no longer relevant and that other steps should be taken to achieve full financial empowerment.

• Dissatisfaction with existing policies. Whether the motivation is changing circumstances, better financial options or the availability of superior policies that render old ones obsolete, many seniors may find themselves dissatisfied with existing policies. Indeed, quality improvements in insurance polices over the years are driving individuals to abandon policies they consider to be outdated.

• Escalating policy premiums. Many people are not prepared for the steep escalation in premiums that accompanies ownership of many policies. Moreover, they may be hit with these policy increases right at the time when they are experiencing mounting health care costs and other financial concerns. Under such circumstances, a policy may seem to be a lower priority than it might have been in the past.

These factors have created demand for alternatives among many who now hold life insurance policies. Such alternatives are now becoming visible to consumers.

Policyholders Have Unanswered Questions.

Increasingly, policyholders have questions for their life insurance companies: Are there more attractive alternatives than to surrender a policy? Is it possible to recover money necessary to make new investments and more effectively manage the financial estate? If new policies that offer lower premiums and better guarantees are now available, is there a way to transition to a new policy without incurring financial punishment? If life circumstances change, is there a way to sell the policy and still realize a fair settlement? What are the available options?

Unfortunately, the life insurance companies offer no real answers to these questions. Customers do have the option to "surrender" their policies, which means the policyholder will be offered a mere fraction of the policy's face value. Insurance companies are requiring life settlement companies to inform seniors about the accelerated death benefit option for terminally ill policyholders. However, they are not informing seniors of the option for a life settlement.

Reasons for Abandoning a Life Insurance Policy

There area many reasons that life insurance policyholders might begin to question whether it is prudent to continue to hold and pay premiums on existing policies. Among them:

• The policy is no longer needed or wanted. As the circumstances of life change over time, so do insurance needs. Policies that may have made sense at one point may no longer serve a useful purpose at a later date. Perhaps a spouse or another beneficiary for whom the policy was purchased is now deceased.

• Opportunities to obtain a superior insurance policy. There have been dramatic changes in the insurance market in recent years. As a result, policyholders may determine that they can obtain better, more expansive coverage with lower premium payments in the current market.

• Premium payments have become unaffordable. In many cases, large or escalating premium payments can prove to be a tremendous financial burden for policyholders, particularly in their elder years. They may need to get out from under the burden of making these payments in order to sustain a good quality of life.

• Changes in estate planning needs. The financial markets have created powerful new opportunities for smart investors in recent years. As financially adept consumers seek to maximize the value of their assets and estates, they may find investment vehicles that offer a superior return to existing life insurance policies.

• Rising healthcare costs or mounting financial concerns. Health problems and other unforeseen difficulties can create circumstances that increase financial burdens and needs. Under such circumstances, existing life insurance policies may not be considered as relevant as more immediate concerns.

Whether policyholders possess term policies, universal life policies or whole life policies, they can easily find themselves in circumstances where their existing policies no longer make sense. Indeed, a growing number of individuals have come to that conclusion.

Life Insurance Companies Offer No Viable Exit Strategy

There are countless scenarios that might encourage a policyholder to seek alternatives to existing life insurance arrangements. The problem is that insurance companies merely offer their customers two choices: lapse or surrender. If the policy lapses, then the contract becomes null and void and the customer loses all of their investment. If the customer chooses to surrender the policy, then the payout is typically only 3-5% of the policy's face value.

There is absolutely no reason to hold onto an unattractive policy when higher guarantees and higher coverage at lower premiums are a market option. Why accept highly invasive surgery- and months of rehabilitation - when you can have a high-tech, minimally invasive procedure performed instead? Why rent an old phone from Ma Bell - and pay $3 a minute to call your grandchildren - when you can own a wireless phone and pay 10 cents a minute?

Obviously, markets drive innovation, change and quality improvements. They offer us all an endless parade of choice.

Historical Overview: The Evolution of a Secondary Market

In 1911, the U.S. Supreme Court decided that life insurance policies are freely assignable for value. The court found that a life insurance policy is a form of property and that policy owners are free to sell and transfer ownership to other parties.

After World War II, the American economy and the insurance industry boomed. New forms of policies, such as universal life, became popular. Life insurance policies became a familiar consumer product - often purchased outright or incorporated into a corporate benefits package.

It wasn't until the 1990s that a market for viatical settlements arose. Such settlements became a popular option for terminally or chronically ill policy owners who wanted to sell their policies to third-party investors.

In the late 1990's, life settlements emerged from the viatical industry. Since then, the value and the volume of the life settlements industry have increased dramatically. A secondary market for life insurance has provided consumers with financial empowerment to manage their life insurance assets more effectively, providing an alternative to lapse or surrender.

In recent years, the secondary market has continued to grow. Recognized financial leaders have provided capital funding and the number of experienced brokers has grown.

Over the past decade, regulatory and legal statutes have afforded consumers new protections in most states -though not all. Some states have enacted statutes addressing the sale of life insurance policies for all policyholders and some have only enacted laws that regulate the sale of life insurance policies for terminally ill individuals. Still other states do not regulate the transaction at all.

The Life Settlement Solution

Consumers have an alternative to lapsed or surrendered policies. Policyholders have a choice available to them that will help them realize the full market value of their existing policies, should they decide to abandon them. When concerns about the value of relevance of an existing life insurance policy arise, it may be time to explore life settlements -an option and an opportunity enabling a policyholder to receive a fair and reasonable settlement when selling a life insurance asset.

Significantly Higher Value

What makes life settlements so attractive to the policy seller -the consumer -is that the proceeds from the policy sale are always greater than the cash surrender value that would otherwise be offered by the insurance company. In fact, they can produce returns that are three to four times an insurance carrier's cash surrender value.

When to Sell?

When should one consider engaging in a life settlement? While there are many situations in which a life settlement might prove a sensible option, it is most useful in situation where an individual is thinking of letting a policy lapse or surrendering the policy back to the original insurance company.

Changing circumstances -such as the retirement of someone who held a "key-man" policy or shifting financial portfolio -can lead a policyholder to seek a life settlement. They death of a beneficiary, which takes away a policy's initial purpose, might be another reason. Sometimes, the key reason for abandoning a policy and seeking a life settlement is the escalation of policy premiums, which might diminish the policyholder's quality of life. However, the single most common reason for seeking a life settlement -representing 40% of all such transactions -is tied to the desire to obtain a different policy on more attractive terms.

The Secondary Market

Life settlement providers competitively bid on the purchase of an existing policy, taking into account the insured's current age, state of health, and the overall economic environment. In other words, if they qualify, those wishing to cash in their polices can now get a competitive market quote based on several bids -creating superior outcomes for the policy seller.

Life settlements are typically supported by solid and recognized institutional funding sources. Financial capital presently is supercharging the development of the life settlement industry. Brokers, who represent the policy sellers, solicit multiple bids from life settlement providers, who derive their financial backing from institutional funders such as prominent investment banks and hedge funds.

As a maturing industry, life insurance has opened the door to life settlements as a secondary market. Life insurance, after all, is recognized by law, as an "assignable," or transferable, asset. Like other consumer products, it can be purchase, owned, and thus sold on the open market.

Market value -as opposed to the insurance company's valuation of a policy -is the ultimate determinant of how policyholders are compensated on the secondary market. Competition enables consumers to receive a fair and attractive settlement, as more and more institutional investors are attracted to the strong returns that the life settlement market represents. Indeed, today's market could be considered a "seller's market," exceedingly favorable to policyholders. They can easily "shop" their policies for multiple, competing bids.

The existence of this increasingly competitive secondary market also enables the streamlined transfer of the product from seller to buyer. When the transaction is completed, policy ownership is transferred to the life settlement provider (typically a licensed entity) -who assumes premium payments. The policy seller receives a lump-sum cash payment within a matter of days and is free to begin taking the steps that encouraged the individual to engage in a life settlement in the first place.

The life settlement industry is a highly funded, highly capitalized industry with money from dozens of companies that represent the capital markets. The buyer aggressively competes to provide the policy seller with the best possible offer. And considering that there is more capital committed to life settlements than policies to sell, sellers are in a very strong position.

The Benefit of a Life Settlement

Life settlements provide a host of benefits to consumers. They also address the key challenges that now lead to dissatisfaction and disappointment among life insurance policyholders. Here are some of the key benefits to consider.

Provides an Exit Strategy for Unwanted Polices

Life settlements give policyholders and opportunity to generate return that can be three to four times cash surrender value. The cash payments they receive enable them to abandon existing polices and make decisions that would otherwise not be open to them.

Addresses Life Changes

Lives, expectations, priorities, concerns and needs all tend to change over time. The National Association of Insurance Commissioners (NAIC) acknowledges this truth on its website when it encourages policyholders for home, auto and health to annually review their policies to ensure that their coverage matches their family and personal needs. Such life changes may also have implications for owners of life insurance products. Life settlements enable consumers to address the changes in their lives -moving monies from unwanted life insurance policies to more valued investments or activities.

Enables Individuals to Purchase Better Performing Policies

Life settlements enable policyholders to obtain the cash payments necessary to purchase replacement policies. In some cases, they may even be able to purchase policies with their life settlements that eliminate the necessity of making premium payments thereafter. Others choose to purchase replacement policies and "cash out" part of the value of their existing policies and use the money for other purposes.

Provides Freedom and Flexibility

Consumers now have the freedom and flexibility to take the proceeds from a life settlement and use them as they see most appropriate. They may want to give cash gifts to family members. They may want to use the money to engage in charitable giving. Some may even want to remove a policy form an estate due to a reduction in size of their assets.

Life Settlement Scenarios

To gain a better understanding of the experiences that might encourage someone to abandon a life insurance policy and the benefits that one might derive from a life settlement, it's useful to consider some common scenarios. These examples demonstrate the changes and choices that people face when they engage in a life settlement, but also some of the opportunities they are able to seize. Here are some typical scenarios based on real-life cases and experiences.

Replacing Multiple Insurance Policies to Realize Big Savings. One 80-year-old retired business owner held multiple insurance policies with $5 million in death benefits. His annual premiums were $426,113. His objective was to obtain the same death benefit while reducing his substantial annual premiums. Through a life settlement, he sought the money to fund a single $5 million policy. Based on the highest offers available to him, he was able to obtain life settlement proceeds of $950,000. Those proceeds enabled him to fund a new policy with the same coverage; however, annual savings in premium payments will total $125,312.

Eliminating Premiums through a New Policy. A 75-year-old woman held a life policy for $2.5 million. However, her annual premiums of $85,130 were becoming far too costly. Moreover, one of the beneficiaries for which she held the policy preceded her in death. Considering the changing circumstances in her life, she sought a different policy. Having received a life settlement offer of $779,000, she used the proceeds to purchase a new single premium policy with a $1,300,000 death benefit. As a result, this individual was able to completely eliminate annual premiums -saving $85,130 a year.

Salvaging a Policy from Lapse to Protect a Home. One 78-year-old man was unable to keep up with his premiums for a $250,000 policy and was in danger of losing his home due to mounting bills and unpaid loans. He had experienced unexpected health problems that were not covered by Medicare. He had also provided money to a grandchild for college tuition. Now, he found himself in difficult financial straits. He was unable to pay his escalating life insurance premiums and was prepared to let the policy lapse. He was even facing foreclosure on his house. Then a friend told him about life settlements. As a result, the $70,000 payment he received within a week of seeking bids and a day of selling his policy helped him pay off some troubling debts and keep his home.

Funding Replacement Coverage with Lower Premiums. This case involved an 83-year-old woman with a $1 million universal life policy with premium payments of $42,321. However, her insurance carrier offered a cash surrender value of only $46,567. She wanted to maintain her coverage, but needed to lower her monthly premiums to reduce expenses and maintain her quality of life. Through a life settlement she was able to obtain $310,000. The proceeds were then used to purchase a new $1 million policy with significantly lower premiums.

Creating Financial Security and Peace of Mind. One 76-year-old man developed financial problems after his wife passed away and realized he could no longer afford to pay the premiums for a $2.5 million survivorship universal life policy. He was prepared to cash it in for just $55,544 when his broker referred him to a specialist in life settlements. Having received $785,000 as a top bid, he was able to secure his future years and told his broker that this had changed his life.

As these scenarios suggest, there are far-reaching -even life-changing -benefits to be realized through life settlements. They represent smart money management in many cases -a financial tool to maximize the value of one's life insurance assets. In other cases, they represent a means of addressing mounting problems and gaining financial security. In every case, life settlements offer superior value to the individuals who choose to take advantage of them.

The Life Settlement Process

As discussed, a vibrant and highly regulated secondary market for life insurance policies has emerged in recent years as companies have raised pools of capital. These companies competitively bid on the purchase of an existing policy based on the insured's current age, state of health and the overall economic environment. Those who qualify can now get a competitive market quote based on several bids. Here are the nine key steps associated with the life settlement process.

1. Need Realized. Consumer realizes a need or an advisor signals the option that he can sell his policy to the consumer.

2. Application. Policy owner completes settlement application and provides necessary documentation.

3. Documentation. Settlement provider acquires supporting documentation, verifying insurance and medical status.

4. Review. Settlement provider's insurance and medical experts review the file, determining its ultimate viability, including a review for potential fraud.

5. Policy Match. Settlement provider determines suitability for sale, and matches policy for appropriate funding. At this point, the settlement company may also determine that the settlement does not qualify, which ends the process.

6. Offer. Settlement provider relays the offer to client advisor. If the offer is declined, the policyholder can seek other offers with other settlement providers.

7. Closing Package. If the offer is accepted, a closing package is delivered to the advisor for review and signatures.

8. Notification. Upon written verification of change of ownership, settlement funds are transferred to the selling policy owner from Trustee's Escrow Account.

When the transaction is complete, the buyer - or like settlement provider - becomes the new owner of the life insurance policy, pays future premiums and collects the death benefit when the insured dies. The proceeds of the sale an be used in any manner the seller sees fit.

What to Look for in a Life Settlement

When considering a life settlement, policy owners have several issues they should keep in mind. The first point to remember is that any steps in this direction should be discussed and examined in association with a professional who is knowledgeable in life settlements and who will give professional advice in order to ensure the best possible outcomes.

Life settlements are a smart money management tool, a key consideration in estate and financial planning efforts. Therefore, you should assess them in association with your financial advisors and estate planners. Also, recognize that regulations will vary by state. You should find out what regulations - if any - apply to your state with regard to like settlements. The key regulations tend to concern licensing rules.

Evaluating Brokers

The next consideration - assuming life settlements remain a compelling option - is to work with a life settlement broker who understands the life settlement process. These brokers can then solicit multiple, competitive bids on the insured's behalf. The ultimate goal is to obtain the best possible settlement on the best terms.

When assessing a life settlement broker, key criteria to consider are professional reputation, years of experience in the industry and past performance with settlements.

Professional reputation is a mark of how a particular individual broker or firm is perceived within the industry. Are there customers satisfied? Are they licensed in a significant number of jurisdictions? Have they obtained references and testimonials? Do they belong to a recognized industry trade association who holds them in good standing? Has any insurance department taken any adverse regulatory action against the individual or firm?

The most critical element is past performance. How many settlements handled in a typical year and, more importantly, what amounts have been acquired for clients. Ask the broker to walk you through past cases that are similar to your own and show the results.

Relevant Disclosures

Finally, it is important to ensure that relevant disclosures are presented for mutual consideration and signature. Whatever the particular state's regulations on such matters, there are certain industry-standard practices that all brokers should follow and certain disclosures that should be make to the policy seller.

Among the key disclosures pertaining to the life settlement application process that might be drawn from the model regulations of the National Association of Insurance Commissioners NAIC) are:

• The policy seller has the right to rescind a life settlement contract for fifteen (15) calendar days after the receipt of the life settlement proceeds from the provider.

• Funds will be sent to the policy seller within three (3) business days after the life settlement provider has received the insurer or group administrator's acknowledgement that ownership of the policy or interest in the certificate has been transferred and the beneficiary has been designed.

However, it's also important to note that disclosures should sufficiently warn policy sellers about other factors of concern. One relevant disclosure: "Some or all of the proceeds of a life settlement may be taxable under federal income tax and state franchise and income taxes. Assistance should be sought from a professional tax advisor". Another: "Proceeds of the life settlement could be subject to the claims of creditors". If the seller is within two years of death, there is also the possibility of obtaining "accelerated death benefits" from a life insurance company.

Clearly, policy owners should engage in life settlements with their eyes wide open. Understanding all the implications of making a life settlement will ensure the most satisfactory and successful outcomes.

After a life settlement provider's bid has been accepted, one should expect a different set of disclosures at the time of contract in the closing package. Among the key disclosures:

• State the affiliation, if any, between the life settlement provider and the insurer of the insurance policy that is being settled.

• State the name, business and telephone number of the independent third-party escrow agent, and the fact that the policy seller may inspect or receive copies of the relevant escrow or trust agreements or documents.

Such disclosures ensure the policy seller is protected should any problems occur in the final process of policy transfer or the handling of escrowed funds.

It's important to recognize that the broker has a fiduciary role to represent the seller by law. While the broker is most likely to receive a commission based on the amount of the life settlement, the bottom line is that the broker's job is to fully represent the interests of the policy seller.

As mentioned, one key way to ensure that brokers and providers are reputable is to check their affiliation with recognized trade groups who sign a code of ethics and follow its Standard Operating Practices.