Business-owned or business paid-for life insurance policies are frequently overlooked prospects for life settlements.
Since business policies are not necessarily purchased for estate planning purposes, the need to keep such a policy in force may not be for the insured's entire life.
As a result, there often comes a time when business-owned policies or personally owned business paid-for policies become candidates for a life settlement.
The Policies
Life insurance policies are purchased by businesses for a variety of reasons: to fund a buyout of the owner's interest under a stock redemption arrangement, for key person purposes, to offset the financial loss that would have been sustained by the business had this person died prematurely, for creditor protection purposes to secure loans that may have been made by the business, or as a fringe benefit.
In some instances, the policies are not owned by the business itself but rather by co-owners of the business to fund a cross-purchase arrangement or by owners or employees under a bonus or split-dollar arrangement.
Why Businesses Sell the Policies
When a business owner leaves, whether due to retirement, disability or the sale or liquidation of the business, advisors should be alert to the possibility of a life settlement.
Quite often, the business will own or be paying for any number of policies on the life of the departing owner.
Although sometimes the exiting business owner will have a use for some of the coverage, a significant portion of the insurance may no longer be needed, wanted or affordable.
Additionally, a very large percentage of policies bought for buy-sell arrangements and key person needs are term insurance.
Term insurance policies that are convertible to universal life make some of the best prospects for a life settlement. Yet, producers, under the mistaken belief that term insurance cannot be sold in a life settlement, often miss these opportunities.
For an aging retiring business owner, a decreased need for coverage, together with the rising cost of the term insurance, may make keeping the policy quite unappealing and unnecessary, if not altogether unaffordable.
Partial Policy Sales
In some instances, it is desirable to keep a portion of the coverage in force.
Permanent life insurance, generally, cannot be split for a life settlement.
But term insurance has the additional advantage that a portion can be sold in a life settlement and the balance of the policy retained.
In a recent case, a retiring business owner sold his business, which was paying for a personally owned $2 million term insurance policy on his life. He did not want, nor could he afford, to continue paying for the policy out of his own pocket.
The owner did want to keep $1 million in force, but he wasn't sure he could afford even that.
The outcome: $1 million of the policy was converted and sold in a life settlement transaction, and the business owner was able to convert the balance by using the proceeds from the life settlement. That was enough to cover some premium payments on the portion of the policy he retained.
Interactions With Retirement Plans and Other Plans
Life insurance-funded executive benefit arrangements, such as deferred compensation and split-dollar plans, are also significantly impacted by the departure of a key executive or business owner.
