It’s an unfortunate reality that nearly seven out of 10 seniors will require long-term care at some point in their lives. More concerning is that cost of long-term care — which can total $100,000 a year or more — isn’t covered by traditional health insurance, including Medicare. That means most families, outside of the extremely wealthy, cannot afford the medical costs associated with a terminal or chronic illness. Sadly, even pricey long-term care insurance often falls short, thanks to caps on lifetime payouts and elimination periods during which the insurer won’t cover costs.
A viatical settlement is a viable financial solution for chronically or terminally ill patients who have life insurance. The settlement involves selling the life insurance policy to a third-party investor in return for a lump sum of cash. Those cash proceeds can then be used to pay for care.
This arrangement gained popularity in the 1980s at the peak of the AIDS epidemic — when the life expectancy following diagnosis was relatively short, but treatment costs were very high. Those conditions fueled demand on both sides of the transaction. Policyholders needed to raise cash quickly and investors were willing to supply that cash to take ownership of life insurance assets.
While viatical settlements arise from very unfortunate circumstances, they are fundamentally solid investments. The investor purchases the policy at a discount from its face value, keeps the policy in force by paying the premiums, and, ultimately, collects the death benefit. Most of the factors that influence the investor’s return are known, including the initial investment or sale price of the policy, the amount of the death benefit, and the incremental cost of annual premiums. The unknown factors are how long the investor will hold the policy until the insured passes away and how much the investor will pay in total premiums.
Read on for a deeper explanation of viatical settlements, what types of policies qualify, how viatical settlements differ from life settlements, how to invest in a viatical settlement, and the pros and cons of viatical settlements as investments.
What is a viatical settlement?
A viatical settlement is the legal sale of a life insurance policy by a terminally ill or chronically ill policyholder to an investor. The process begins when the insured connects with a viatical settlement company or broker to market the policy. A broker prepares the policy for sale and presents it to investors, who submit their best price. If the seller accepts an offer, the bid amount goes into an escrow while the paperwork is completed. That paperwork includes documents instructing the insurance company to change the owner and the beneficiary on the policy. Once the insurance company verifies that the policy has been updated, the cash is released from escrow and transferred to the seller, less any fees.
Viatical settlements are typically not taxable for the seller, but sellers should consult with a tax advisor on their unique situation.
Who is a viatical settlement for?
Terminally ill and chronically ill policyholders qualify for viatical settlements. They generally use the cash proceeds to pay for services from hospitals, treatment centers, nursing homes, home care professionals, or assisted living facilities.
Differences between life settlements and viatical settlements
The terms “life settlement” and “viatical settlement” are often used interchangeably, but these are two different types of transactions. Both involve the sale and transfer of a life insurance policy to an investor, though they differ in the characteristics of the policyholder and in the market value of the policy relative to its face value.
Viatical settlements are reserved for terminally or chronically ill policyholders. A life settlement is done when the insured is a senior whose projected life expectancy is longer than two years. This scenario presents more uncertainty for the investor relative to a viatical settlement, because there’s potentially a much longer timeline for holding the policy until the death benefit is paid. That uncertainty negatively affects the policy’s market value. Both life settlements and viatical settlements do command sale prices higher than the policy’s surrender value, but the viatical settlement will sell for a higher percentage of the policy’s face value.
Life settlements are also partially taxable for the seller, while viatical settlements usually are not.
How do people invest in viatical settlements?
Investment options for viatical settlements are more limited than they are for life settlements. Accredited investors can purchase a book of life insurance policies from brokers or from providers who receive cases from life insurance agents. The selling policyholder does provide access to medical records, which can be used by a medical underwriter to estimate lifespan. Viatical settlement investors are able to review the policy details, medical information, and lifespan estimate before making an offer.
Since viatical settlements deal with fairly short lifespans, the payouts are higher and the transaction times are shorter relative to life settlements. While a life settlement might take two to four months to complete, a viatical settlement can close in just a few weeks. That allows the money to get into the hands of the insured quickly.
Can anyone invest in a viatical settlement?
Viatical settlements are regulated transactions, available only to accredited investors. Accredited investors are defined under Rule 501 of Regulation D of the Federal Securities Act of 1933. To be an accredited investor, a person must have an annual income of $200,000 or $300,000 for joint income over the last two years with the expectation to continue earning this amount or more in the current year. Alternatively, someone can be considered an accredited investor if they have a net worth (individually or joint with a spouse) in excess of $1 million. To learn other ways a person or entity can be considered an accredited investor, view the full details from the SEC.
Pros and cons of investing in viatical settlements
Viatical settlements are an interesting investment that even experienced finance experts may not have too much experience with. To help you understand this investment option, we’ve provided the pros and cons of viatical settlements as an investment.
Pros of investing in viatical settlements
Viatical settlements are attractive as investments because they offer high returns and low risk. They also funnel cash to ill policyholders who desperately need it, while providing investors with a guaranteed payout.
1. High returns
Investors pay more upfront to the policyholder in a viatical settlement, but the yield opportunity is still quite strong. The length of time the investor must hold the policy is a major factor in the return potential — not only because of the time value of money, but also because the investor must continue paying the premiums. Relative to life settlements, viatical settlements have much shorter holding periods, which keeps premium costs low and supports higher returns.
2. Low risk
The value of an insurance policy is not affected by external factors, such as interest rates or trends in the financial markets. The payout and terms are clearly defined — as long as the premiums are paid, the investor will receive the stated death benefit on that policy.
3. Urgent cash for policyholders and guaranteed payout for investors
Both policyholders and investors benefit from a viatical settlement. Policyholders who are terminally or chronically ill typically pursue viatical settlements because they need funds for medical expenses. The sale of their life insurance can be a quick solution for that liquidity shortage, and a means of protecting their quality of life. The viatical settlement investor supports that need while providing an acceptable rate of return.
Cons of investing in viatical settlements
The disadvantages of viatical settlement investments include heavy regulation at the state level, plus a lack of liquidity and an uncertain holding period.1. Highly regulated
Viatical settlements are regulated at the state level. That means the regulations and restrictions placed on sellers and investors vary from state to state. Most states do generally follow the National Association of Insurance Commissioners Viatical Settlement Model, which specifies disclosures and reporting requirements, and defines prohibited practices, advertising guidances, and fraud prevention measures.
2. Lack of liquidity and uncertain timeline
A life insurance policy purchased in a viatical settlement is not a liquid asset. Once a viatical settlement is complete, the investor must continue paying the policy premiums until the insured passes away. There is no mechanism for pulling the invested cash out early. As well, the length of time the viatical settlement investor must hold the policy and the cumulative amount of premiums that will be required are unknown.
Get started investing in viatical settlements
Viatical settlement investments are alternative assets that don’t correlate to the financial markets. As such, they’re appropriate for investors looking to diversify and hedge against volatile economic or stock market conditions. The returns are attractive and somewhat more predictable than other alternative assets such as collectibles, wine, cryptocurrency, or even real estate. Also, the invested cash goes towards a good cause; it funds end-of-life medical and care expenses for very sick insureds. Because viatical settlement investments are not liquid, they’re best suited for investors who have ample cash on hand.
Accredited investors can connect with a reputable broker to bid on viatical settlements. Harbor Life Settlements’ sister company, Harbor Life Brokerage, has revolutionized the viatical settlement bidding and review process with its easy-to-use online auction platform. The system makes it easier than ever for investors to analyze and price a wide range of vetted, high-quality policies. Investors can, for example, filter available policies based on life expectancy or projected returns. To learn more, contact Harbor Life Brokerage at 512-377-1594 or online here.