Life insurance serves many purposes, from income replacement to financial security in retirement. But estate planning, specifically creating a tax-free inheritance for loved ones, is the most recognized and popular feature of life insurance. The policy’s death benefit, paid to your designated beneficiary after your death, makes it possible.
That payment is called a “settlement” of your policy and it can take different forms. Your beneficiary could receive the death benefit in a single lump sum, for example, or as a stream of payments for life. Typically, you as the policyholder would choose the life insurance settlement structure, but your policy may allow your beneficiary to change it later.
Life insurance settlement options are notoriously confusing, especially when you’re trying to compare them. Evaluating a lump-sum payment relative to an annuity, for example, can seem like an “apples to oranges” comparison, unless you’re a trained statistician. Fortunately, you don’t need any special number-crunching skills to identify which settlement option best suits your situation. all you have to do is review this detailed guide we created to help people just like you make an informed decision about a life insurance settlement.
Keep reading for an overview of the six most common life insurance payment options. By the end, you’ll have a working knowledge of lump sum payments, interest income payments, accrual of interest, paying a fixed period and a fixed amount, and the life settlement, also known as an annuity.
1. lump sum payment
The lump sum payment is the simplest and most common type of life insurance settlement. Once the life insurance claim is received and validated by the insurance company, your beneficiary will be paid the death benefit in one tax-free payment. As with all life insurance deals, there are no restrictions on how the money is used. the beneficiary could pay off the debt, invest, or spend the entire death benefit on boats and cars.
Please note that if the money is invested in any way, the earnings on that investment will be considered taxable income.
See also : New York State of Health | Language Support
As you might guess, lump sum payments are best suited for payees you trust to be responsible. If you’re concerned that your beneficiary may spend the funds too quickly, look for a different type of settlement that provides a series of smaller payments instead.
2. only interest
With an interest-only agreement, the insurance company retains the principal of the death benefit and pays any earnings on that amount to the beneficiary. You can think of this settlement format as a savings account that you fund for your loved one. Your beneficiary will receive regular interest payments and will be able to make larger withdrawals of the principal if requested. But there’s no big cash payment up front, so you can worry less about your beneficiary spending all the money at once. The purpose of an interest-only arrangement is to provide a steady stream of income to support the beneficiary’s lifestyle while leaving the principal sum alone so it can continue to grow and serve as an emergency fund if the need arises. this payment option is appropriate when the beneficiary is very young or has no financial experience.
You should ask your insurance company to explain how the death benefit will be invested after you are gone. If you can estimate the growth rate, you can project the amount of interest payments your beneficiary would receive.
3. accrual of interest
An interest accrual settlement is not really a payment at all. In this case, the insurance company will hold the funds indefinitely on behalf of the beneficiary. interest earned is added to the account balance. if the beneficiary needs to access the funds, they could request a withdrawal. As with an interest-only deal, it is wise to confirm that these funds will be invested for a competitive growth rate.
You would select an interest accrual payment when the beneficiary is financially stable and plans to use the money as an emergency fund.
4. fixed period
The fixed-period settlement option leaves the death benefit and accrued interest with the insurer, which distributes equal payments over a specified period of time. That monthly check works as tax-free income and can help your beneficiary cover living expenses. The purpose of the Fixed Period Settlement Option is to ensure that your beneficiary receives a steady stream of income over a set period of time. it is more appropriate when the beneficiary has a debt such as a mortgage that requires constant payments. Let’s say you have 10 years left on your mortgage with monthly payments of $1,5000. A monthly settlement payment of $1,500 plus interest lasting 10 years would help your beneficiary get to the point of owning that home without a hitch. the option is also suitable if the beneficiary lives in a nursing home or assisted living, as ongoing payments can cover the cost of staying in these communities.
You can also specify a contingent beneficiary, who would continue to receive payments if the primary beneficiary dies.
5. fixed amount
A fixed amount agreement structures the benefit as a fixed monthly payment. that payment will last until the principal and any accrued interest are exhausted. your beneficiary may have the option to increase or decrease the monthly amount. The lump-sum arrangement discourages your beneficiary from spending the benefit all at once, but the money can still run out quickly if the payment is too high. You would select this settlement format if your beneficiary needs temporary help with living expenses, for example, to get through law school.
6. life income (also known as life income or annuities)
The life income settlement format provides a stream of payments that lasts until the beneficiary dies. An annuity provides a reliable source of income, but it does have drawbacks. if you request the settlement as life insurance only, your beneficiary may not be able to switch to a different settlement format. Additional withdrawals would normally not be allowed either. it is also likely that you do not know the amount of the payment. That’s because payments would be calculated based on the death benefit and the beneficiary’s age when you die. younger recipients would get a longer stream of smaller payments. older beneficiaries would get a shorter stream of larger payments. for that reason, annuity agreements are often more advantageous for older beneficiaries.
To collect on your life insurance while you live, consider a life settlement
If none of these options seem right for you, you may want to pay off your life insurance while you live. You can do this through a life settlement, which is the sale of your life insurance to a third party for cash. the sales price will be higher than the policy’s cash surrender value, but lower than your death benefit. Your age, health, and policy details will determine the exact sales price, but your insurance could be worth 20% to 60% of the death benefit, in cash, payable to you.
Proceeds from a life settlement are paid directly to you in a lump sum payment and there are no restrictions on how you use the funds. you could set up an investment account with designated beneficiaries, for example. You could also pay down debt, put the money toward future health care expenses, or buy an RV. Keep in mind, however, that some of your life settlement income may be taxable. however, not everyone qualifies for a life settlement. For example, buyers of life insurance expect the policyholders they sell to be at least 65 years old. buyers also prefer policies worth $50,000 or more. And while most types of life insurance can be sold, some are not.
harbour life settlements can review these ratings with you and also estimate the value of your policy, free of charge and with no obligation. Even if you’re not sure you want to sell, it’s always a good idea to know the value of your assets. contact our team here or by phone at 800-694-0006. we’ll be happy to help!