Need Money in Retirement? You Could Sell Your Life Insurance Policy

A life insurance policy is your personal property. That means you can sell it like any other asset. But should you?

Here’s everything you need to know.

What Is a Life Settlement?

Selling your life insurance policy to a third party is known as a life settlement.

It’s an option for older adults who no longer need their life insurance policy or who can no longer afford the policy’s monthly premiums.

As you might have guessed, there’s a catch. A few actually.

Transaction costs can be high and your heirs won’t receive any money from the policy when you die. You’ll never receive the full death benefit amount when you sell your policy either.

Still, for seniors on fixed incomes, pursuing a life settlement can create much-needed cash flow in retirement.

How Do Life Settlements Work?

When you sell an existing life insurance policy to a third party in exchange for an immediate lump-sum payment, the third party buyer becomes the new owner and continues to pay premiums.

They also receive the policy’s death benefit when you die.

As the seller, you typically receive more than the cash surrender value of the policy but much less than the death benefit amount.

Who Can Sell a Life Insurance Policy?

Life settlements are targeted toward older adults with high-value life insurance policies.

You’ll need at least a $100,000 policy and be at least 65 or 70 years old to sell your policy.

Younger people with a chronic or terminal illness may also qualify to sell their policy.

Universal life — a type of permanent life insurance policy — is most desirable for buyers, though term life and whole life policies can also be sold.

You also generally need to own your policy for at least two years before you can sell it. Some states have longer waiting periods.

Selling life insurance policies isn’t as common as you might think. Only about 3,000 policies were sold on the secondary market in 2021, according to the Life Insurance Settlement Association.

How Life Expectancy and Age Affect Your Payout

Life settlements are targeted to policyholders who are expected to pass away in two to ten years. In fact, life settlement companies will often pay more if you have a significant health issue that lowers your life expectancy.

Basically, the older and sicker you are, the larger your potential payout.

Why?

Because a buyer doesn’t want to spend decades paying premiums on a policy before they get a return on their investment.

As the Financial Industry Regulatory Authority (FINRA) puts it: “When you sell your life insurance policy, whoever buys it is acquiring a financial interest in your death.”

Pretty morbid, right?

Maybe, but selling and buying life insurance on the secondary market is big business.

And some types of policies are more valuable than others.

How the Type of Life Insurance Plays in

The majority of life insurance policies sold on the secondary market are universal life insurance policies.

“These policies are more appealing to third-party buyers because premiums are flexible,” said Barry Flagg, president and founder of Veralytic, an independent life insurance research company in Tampa, Florida.

Universal life policies accumulate a cash value that can be used later to cover premium payments. Investors like that because it means they spend less money on premiums after purchasing your policy, thus increasing their final profit, Flagg said.

Whole life insurance policies and term life insurance policies, in contrast, don’t offer this premium flexibility.

A term life insurance policy can also be sold, but typically only if it can be converted into a universal life policy first, Flagg said.

Not all term life policy contracts have this language, and some conversion rights expire after a certain period of time (usually at or before age 70), according to Flagg.

It’s possible to settle a non-convertible term life policy, but experts say your life expectancy would need to be much shorter.

Why Do People Sell Their Life Insurance Policies?

Money is the driving force behind selling a life insurance policy. Policyowners may find it difficult to afford the premium payments or simply need cash.

Many older adults need extra income in retirement. Selling a life insurance policy you can no longer afford is one way to free up cash. That’s why life settlements are also called senior settlements.

People also sell their policies because their life circumstances have changed. Maybe a spouse has died and your children have grown up, so the death benefit from a life insurance policy isn’t as important as it used to be.

Before entering a life settlement, make sure you and your family no longer need the protection your policy provides.

Life Settlement vs. Letting Your Policy Lapse

If you own a life insurance policy you no longer want or need, you generally have two options: Surrender the policy for its cash value or let it lapse.

When you stop paying your premiums, you lose your life insurance coverage completely, and your heirs won’t receive any money you’ve paid into the policy. That’s called letting it lapse.

Permanent life insurance policies build up a reserve of money known as a cash value. If you cancel a permanent life insurance policy, the insurance company will send you a check for the cash value amount. (It will be much less than the policy’s death benefit.)

Life settlements provide a third option: Sell your policy to someone other than the insurance company that issued it.

Just like surrendering your policy, you’ll get much less than the death benefit amount. But industry trade groups say you can get five to 10 times more money than the cash surrender amount by selling your life insurance policy instead.

How to Sell Your Life Insurance Policy

There are two ways to sell your life insurance policy.

1. Shop around and pick a life settlement company. Be prepared to directly contact multiple life insurance settlement providers to get quotes.
2. Hire a broker to find a buyer/settlement provider for you. You can also speak to an insurance agent or financial advisor, who can find and contact a broker on your behalf.

Whether you work with a broker or sell directly to a provider, you’ll need to complete an application and provide information about your insurance policy.

You’ll also need to provide consent to release your medical records so that an underwriter can assess your health status and estimate your life expectancy.

Buyers can then make offers on your policy based on your health and your policy’s value.

The entire life settlement process can take 30 to 90 days to complete.

Finding a Life Settlement Provider on Your Own

You can avoid paying a high commission to a broker by selling your policy directly to a life settlement provider.

Just remember: Life settlement providers also charge a commission. (The advantage is you’ll pay only one commission instead of two.)

It requires more work on your part though. You’ll need to shop around and get multiple offers before selling your policy.

You can find licensed life settlement providers through the Life Insurance Settlement Association’s membership directory.

“Get an appraisal in advance, so you know when a buyer is underbidding,” Flagg said. “It’s protection against being cheated out of the full fair-market value of your policy.”

Life Settlement Brokers

Most settlement sales are handled by brokers.

A life settlement broker will take your application and medical information to multiple buyers and companies — for a hefty commission, of course.

Commissions vary from broker to broker, but can be as high as 50% of what the policy sells for.

“Always insist on a disclosure of all fees and costs in advance from a broker or any third-parties,” Flagg said.

If you decide to hire a broker, ask them these questions:

• What can you do to improve the offers I get?
• What is your commission structure and is it negotiable?
• Can I get a full disclosure of your fees?
• How will you protect my privacy?
• Are you licensed in my state?

How Much Cash Can You Get From Selling Your Life Insurance Policy?

You can expect to receive anywhere from 10% to 35% of your policy’s face value (or death benefit) if you sell it on the secondary market.

So if you sell a $100,000 life insurance policy, you could receive $10,000 to $35,000.

The exact amount you receive from selling your policy depends on several factors, including your age, health and the terms and conditions of your policy.

You’ll never get the full death benefit amount when you sell your policy. Both brokers and settlement companies take their cut, so you won’t get the full value of the selling price either.

“Regulations allow buyers to bid as low as possible and buyers have financial incentives to pay as little as possible,” Flagg cautioned.

If you’re young or relatively healthy, you may not be able to find a buyer for your policy at all.

You can receive funds from your cash settlement as a one-time lump sum payment, or you may be able to structure the payout as an annuity that provides guaranteed payments until you pass away.

Are Life Insurance Settlements Taxable?

Some of the money you receive from a life settlement may be taxed at either your ordinary income rate or the capital gains tax rate.

Here’s how it works.

The amount received from a life settlement is tax-free up to the premiums you’ve already paid into the policy. This is called your cost basis.

Let’s say you’ve paid $10,000 in premiums since you bought your policy. If you sell it for $20,000, the first $10,000 of that sale isn’t taxable.

After that, the amount up to your policy’s cash surrender value is taxed at your ordinary income rate. The rest is taxed at the capital gains tax rate.

“Because cash surrender values are usually less than the cost basis and often near $0, most sales proceeds are taxed at capital gains rates,” Flagg said.

The settlement won’t be taxed at all if proceeds are less than the cost basis.

Generally, viatical settlements are spared from taxation. A viatical settlement is a specific type of sale only available to terminally ill policy owners who have less than two years to live.

If you receive IRS Form 1099-LTC after selling your policy, the proceeds are usually tax-free.

Pros and Cons of Life Settlements

Selling something you no longer need for thousands of dollars may sound great, but life settlements have plenty of drawbacks.

Here are the pros and cons of selling your life insurance policy.

Pros

• You no longer have to make premium payments.
• Life settlement proceeds can be used to cover medical expenses, long-term care and other retirement costs.
• It’s better than letting your policy lapse and getting nothing in return.

Cons

• Payouts are significantly lower than the death benefit.
• Your heirs won’t receive any money from the life insurance policy when you die.
• You will likely have to pay taxes after the sale.
• The money from the sale may disqualify you from Medicaid, SNAP or other government financial assistance programs.
• Your creditors may be able to go after the money.

Alternatives to Selling Your Life Insurance Policy

If you need cash, you may have other options besides selling your policy.

Call your insurance agent or insurance company and ask if your policy has any cash value. If so:

1. You might be able to take out a policy loan up to the amount of the cash value.
2. You might be eligible for an accelerated death benefit. An accelerated death benefit allows someone with a long-term, catastrophic or terminal illness to receive benefits on his or her life insurance policy prior to death.
3. You might be able to lower your monthly insurance premiums by reducing the death benefit amount. This could be a good option if you want to keep your policy in place but can’t afford the premiums.

Rachel Christian is a Certified Educator in Personal Finance and a senior writer for The Penny Hoarder.