While mortality is certain, it is never an easy issue to address... but many types of service providers must deal with the delicate issue of mortality on a daily basis, including those in life insurance related businesses. As for taxes related to life insurance settlements, they too are reasonably certain... in most circumstances.
Although used by Mark Twain, the quotation “The Only Two Certainties In Life Are Death And Taxes” is known to have originated in a 1789 letter from Benjamin Franklin to Jean-Baptiste Leroy, a prominent French scientist.
Dealing with mortality is difficult. On a daily basis, millions of service providers around the world including medical professionals, legal and judicial stewards, clergy, hospice caregivers, social workers, and life insurance related professionals deal with the reality of mortality. Death may come swiftly or over a longer period. For those that have the time benefit for planning, the settlement of financial affairs may provide added peace to the process. Many face painful lingering in need of healthcare and hospice that may be financially out of reach, though they have accumulated wealth that is imbedded in illiquid assets such as a home or life insurance. Others may just need the assistance of daily care in their golden years but face the same financial dilemma of illiquidity.
In the traditional life insurance industry, financial professionals assist young families planning for the uncertainty of a premature death, as well as the natural mortality of later years. What traditional life insurance does not commonly provide is the option for the client to, prior to a death event, monetize and realize full market value in the appreciation of the financial asset that they originally purchased and on which they have been paying multi-year premiums. Life settlement transactions solve this issue, and insurance-linked investments in life settlement assets provide the liquidity for this solution.
As with healthcare providers, hospice stewards, and the clergy, Habersham’s life settlement service providers work with senior and terminally-ill people, which demands patience, compassion, empathy, sound communication, and attention to detail. At the same time, members of our team must perform thorough due diligence around an insured party’s health and projected mortality in order to maximize value and liquidity for the policy owners while balancing a fair, risk-adjusted return for the life settlement investment. Dealing with mortality is difficult … but the professionals at Habersham do it well.
While Habersham does not provide tax advice or guidance, dealing with U.S. federal taxation related to life insurance and life settlements is reasonably well defined. Taxation related to life settlements continues to evolve at the state level.
- In the case that an original policy owner holds the policy until the insured party’s death, the policy proceeds paid to a policy beneficiary are generally exempt from U.S. federal taxation.
- In a case where an original policy owner transfers policy ownership to a third party in a transaction commonly referred to as a “life settlement”, any proceeds received by the seller in the transfer of the “settled policy” are generally taxed as ordinary income on (i) proceeds to the seller, less (ii) the net amount of lifetime premiums paid on the policy after deducting an inputted value of the cost of insurance. This provision is more specifically detailed in IRS Revenue Ruling 2009-13 (http://www.irs.gov/pub/irs-drop/rr-09-13.pdf).
- For a investor purchasing a settled policy in the secondary or tertiary market, U.S. Internal Revenue Ruling 2009-14 (http://www.irs.gov/pub/irs-drop/rr-09-14.pdf) provides for taxation on any gain above the investor’s cost basis (purchase price, premiums payments and other directly related costs) based on (i) ordinary income treatment if the policy is held by the investor until the insured party’s death, and (ii) capital gain if sold prior to the insured party’s death.
Any reference to taxation in this Investor Brief is not intended to be, nor may it be used or relied upon as, tax advice to the reader or other parties. You should consult your tax counsel to determine your specific tax treatment as it may relate to a life insurance policy or a life settlement.