Insurance World

In his spring Budget the Chancellor Gordon Brown announced swinging measures to tackle the use of Trusts being used to avoid Inheritance Tax. The immediate reaction amongst the financial and legal fraternity amounted to panic and confusion. Within ten days of the budget speech the estimates of the numbers of people that could be hit by the new anti-trust provisions hit 4.5 million.

Then, following the publication of the draft Finance Bill, the estimates fell to 1 million people. So, with specific reference to life insurance policies written in trust, what’s happening?

Well firstly before we go any further, we have to make the point that this article is commentating on the position based on the first draft of the Finance Bill – and it’ll be early July 2006 before that bill becomes law. As I write, the legislation still has to pass through parliament and it’s possible that the situation could change yet again. If it does I will keep you informed.

Within weeks of the budget speech, the Government retreated from its previously held position that all life policies written in trust are caught by the new legislation. The current position is that if your life insurance policy was written in trust before budget day 2006, then the money in the trust remains totally free of tax and fees. The legislation is not now to be retrospective. That’s one headache dispensed with.

However, if your policy was written in trust after the Spring Budget Day in 2006, then the new tax rules do apply.

For most people, the purpose of writing a life insurance policy in trust is to ensure that the policy pays out quickly and directly to where you want the money to go – often to a mortgage provider to repay the mortgage or to beneficiaries in the family to allow them to spend straight away as they like and tax free. These trusts that break upon death, are not now affected by the new regulations. That’s because only trusts that continue to hold money after the policyholders’ death are targeted by the new rules.

New life insurance policies written in trust will now be caught by a tax charge if the policy’s payout makes the deceased’s estate exceed the Inheritance Tax Threshold (IHT) of Ј285,000 and the policy is written in a type of trust known as an “interest-in-possession” trust.

Interest-in-possession trusts have been used to hold and invest the money paid out from a life insurance policy and pay the trust’s income to the spouse. The capital then passes to the children on the death of the spouse. Following the budget, these arrangements will be subject to a 40% IHT charge when then money passes into the trust for your spouse - plus a 6% tax charge every ten years and an “exit fee”. These taxes can be avoided if the you give your spouse significant control over the trust, which many people may perhaps not want to do especially if they are in a second marriage with children from previous relationships. The alternative is to use a bare trust as this type of trust is not caught by the new regulations. However, if you do use a bare trust, the money automatically goes to your children when they reach the age of 18.

If you are buying a new life insurance policy and want to use it to pay off a mortgage or provide immediate money for your family if you were to die, then you should still consider writing our policy in trust. However, it becomes more important than ever to buy the policy through a broker who is fully versed in the current requirements for trusts and can ensure you get exactly the type of trust you need.

Life settlements can be a viable option for seniors willing to exchange their life insurance policy for immediate cash. A life settlement is the sale of an existing life insurance policy for a lump sum of money. It allows policyholders to access the fair market value of their life insurance by selling their policies and receiving payments greater than the cash surrender value.

Technically, a life settlement contract allows you to sell your insurance policy to a third party in exchange for a reduced amount of the face value. This is possible because a life insurance policy is actually property, like a car, house, stocks and bonds that can be legally sold. A life settlement essentially lets you extract value today from an asset that is generally thought to only have a benefit when you die. Typically, life settlement transactions involve life insurance policies of a large face amount; “key-person” coverage or corporate-owned life insurance; or policies representing excess coverage that is no longer needed.

Here’s how a life settlement works: When a life settlement company buys your life insurance policy, it pays you a percentage of the policy’s face value. Then the life settlement company becomes the new beneficiary of the policy at maturation. As such, it is responsible for all paying all future premiums and collects the entire death benefit when the insured dies.

A Growing Industry
With a life settlement, you can receive a large sum of cash in exchange for your insurance policy while you’re still alive. This eliminates premium payments, accommodates the changing needs of your dependents and provides greater financial flexibility.

Life settlements can also be used for charitable giving. Complex estate and tax planning strategies can apply when using life settlements in a planned giving program. But here’s how this works in simplest terms: You donate your life insurance policy to a charitable organization, which immediately sells the policy for a lump sum of cash via a life settlement.

These and other benefits are making life settlements an attractive option for seniors with unwanted/unneeded insurance policies. Consequently, the life settlement industry has seen significant growth in recent years. A study by Conning & Co. Research found that senior citizens owned approximately $500 billion worth of life insurance in 2003, of which $100 billion was owned by seniors eligible for life settlements. Since 2003, more and more of these eligible senior clients have sold their policies and helped the market increase.

Separate research by the University of Pennsylvania’s business school found that life settlement providers paid approximately $340 million to consumers for their underperforming life insurance policies, an opportunity that was not available to them just a few years before. “We estimate that life settlements, alone, generate surplus benefits in excess of $240 million annually for life insurance policyholders who have exercised their option to sell their policies at a competitive rate,” according to the research.

Selling Your Policy
You could be a prime candidate if you are of retirement age, have paid off your mortgage and other debts, and no longer require the financial protection of life insurance. The amount you receive will depend on your age, health, death benefit, and the number of years your policy has been in force.

Seniors with the greatest chance of selling their policies are those that are older than 65 years of age, have a calculated life expectancy of more than two years (but less than 10 years) and may have experienced a health change that has led to their insurance premiums increasing. Depending on the policy holder’s life expectancy, just about any type of policy can be sold, including universal life, whole life and convertible term contracts. However, policies generally must be valued at least $100,000.

Determining whether to sell your life insurance policy is a purely personal decision. You might consider a life settlement under the following circumstances:

• Your employment status has changed.

• You need additional funds to pay medical/long-term care expenses.

• Your insurance premiums are too expensive and you can no longer afford them.

• You would like to implement a charitable or family gifting plan.

• You are facing bankruptcy.

Consulting with an Advisor
Before you decide to sell your insurance policy, you should examine all the available options, advises the American Council of Life Insurers, a Washington D.C.- based trade group. And instead of going it alone, consult with a financial advisor who is familiar with life settlements. This could include account/CPA, lawyer (especially elder law attorney), financial/estate planner, certified senior advisor or charitable trust officers.

Additionally, you might consider working with a broker—although your financial advisor can submit your case to the life settlement company directly. However, in an industry where market value for life insurance policies may be unfamiliar, brokers typically do the best job of getting fair market value for policies. They submit life settlement cases and bids to multiple companies, which can facilitate negotiations between high bidders.

Keep in mind that life settlement companies are essentially investors that fund many transactions each year. They hold purchased policies as portfolio assets, rather than making them available to outside investors. They also have in-house compliance departments to carefully review transactions, and they are backed by institutional funds from a major bank.

Steps to Life Settlement Transactions
Wondering what happens during life settlement transactions? Here are the steps involved in the typical transaction:

• Step 1: You consult with an advisor and decide to sell your policy.

• Step 2: You and your advisor select a broker.

• Step 3: The broker submits your case (and you provide a release for your medical information) to various companies.

• Step 4: If your policy is eligible for a life settlement, providers send offers to the broker.

• Step 5: You accept an offer and then complete the company’s closing package.

• Step 6: The life settlement company places a cash payment in escrow and submits change of ownership forms to the insurance carrier.

• Step 7: Once the paperwork is verified, the funds are transferred to you.