An Entrepreneurial Tale
Three business partners, ages 66, 68 and 70, were the principals of a successful company. To fund a cross-purchase buy/sell agreement, each partner owned two $3,000,000 term policies (no cash surrender value) on the lives of the other partners. Seeking to sell their firm, these entrepreneurs received no offers that they felt were adequate for achieving their retirement and legacy goals. Unfortunately, their legal, financial and business advisors were unaware of the enormous value hidden within these business term policies, believing that they were worthless due to having -0- cash redemption value.
Instead of lapsing the policies and receiving no return on the premiums they had paid for many years, these three wise men sold their policies to institutional investors in the secondary life insurance market and received cash windfalls of approximately $600,000 each.
By coordinating the sale of their company with the sale of their obsolete buy/sell policies, the owners were able to sell their company quickly at a reduced all-cash price because the life settlement proceeds provided the money they needed to fill the gap between their original selling price and the offers from buyers.
Life Settlement Basics
Although life settlement viability is determined on a case-by-case basis, with all transactions subject to relevant legal requirements and underwriting authorization, the general purchasing parameters are: the insured is 65 or older, the policy's death benefit is $250,000 or more, and the policy has been in force at least 2 years.
Unlike applying for life insurance, no medical exams or extensive interviews are required. The underwriting process involves only paperwork, such as your life insurance policy and in-force ledger as well as your medical records, which are necessary to verify the specifics of your insurance and health. Furthermore, there are no appraisal, application or processing fees.
Large portfolios of life policies are purchased by institutional investors seeking predictable non-market correlated returns based on the future value of policy proceeds. In 2006, corporate money managers invested $10-$15 billion in life settlements4 - more money than in the previous seven years combined - because they are increasingly interested in purchasing pools of life policies to diversify their portfolios into alternative investments.
End of a Monopsony
Imagine a world where you were only permitted to sell your house back to the builder, your automobile back to the dealer and your stocks back to the issuing corporation. This is what a world without secondary markets would look like, and this is the world that life insurance policyholders have traditionally encountered.
Before the emergence of the secondary life insurance market in the late 1990s, the originating insurer was the only potential purchaser for your expendable business life insurance contracts, thereby restricting your policy disposition options to receiving an artificially low cash redemption value. Because the insurance companies set the re-purchase price, policyholders traditionally received little economic value from their superfluous life contracts, on average just 4% of the policy's face value5.
Fortunately, the life settlement industry has replaced this monopsony (an anti-competitive market situation in which a seller is only permitted to sell to one buyer) with a free market alter-native wherein companies competitively bid to acquire the rights and obligations in your dispensable business life policies. This vibrant marketplace enables you to retrieve the fair market value from these otherwise illiquid business assets. With the average life settlement payout today being 20- 25% of the face value6, a life settlement can be an effective tool for liberating substantial liquidity hidden within a dormant business asset.
Although selling your unnecessary business life policies in the secondary life insurance market can be profitable, navigating the labyrinthine life settlement marketplace can be challenging. The nascent life settlement industry, in general, lacks ample due diligence and transparency as well as knowledge of and services responsive to the unique needs of retiring entrepreneurs in the process of selling their companies.
Analyzing the expendability of your business life policies, coordinating the sale of your obsolete policies with the sale of your company, safeguarding your privacy and securing the highest quality institutional offer demands specialized advisory skills in exit planning, business life insurance and life settlements. Working with an independent advisor who has expertise in these disciplines is the key to a successful, efficient transaction.