Over the holidays, Reader John emailed me a question about secondary sales of life insurance policies. He had learned that his father was going to cancel his term-life insurance policy at the end of the month and he was considering “buying” it off his father by paying the premiums and collecting the death benefit. We didn’t get into the numbers but he said that the premium was increasing over the next three years, until his father hits 65, and then the value is cut in half. He ran the numbers and believes there’s a 5% annual return if he passes within 28 years (by age 91). He wanted to know if I thought this was a good idea.
It’s always tricky when it comes to family and money and it’s especially tricky if it involves death, family and money. All of the problems I see with this plan have to do with relationships and navigating those issues are going to prove more challenging than navigating the financial aspects of this idea.
A 5% annual return over the next 28 years is good compared to the alternatives available right now. You can’t get a 28 year certificate of deposit but the yield on a thirty year Treasury today is around 4.40%. A 5% annual return is 13.6% increase over the safest of safe investments. It’s less than what you’d get in the stock market but it’s far safer.
I don’t know how John calculated the 5% return. I don’t know if he calculated it based on the premiums, whether he accounted for present value, or any of the other stuff that a true apples to apples comparison would consider. Ultimately, I believe the decision isn’t about money and more about the “other stuff” so I think this comparison is good enough.
The last few years have seen a boom in secondary sales of life insurance policies, where investors buy life insurance policies from individuals who are looking to cash out today. If investors can buy life insurance, that is to say they are paying someone for the right to make their premium payments, then certainly John should be able to generate a positive return if he can get a life insurance police for “free.”
The Other Stuff
In my brief emails with John, it’s obvious he’s able to separate the emotional from the financial. That may not be the case for his siblings. While he’ll probably discuss it with them all, when it comes down to the actual financial transaction (when his father passes), things may not be so easily resolved. Death is almost always a very emotional time and things decided, and documented, when the sky is sunny may not be so easily remembered when the clouds roll in. (John foresees this though, saying “Some potential issues that I foresee are disputes by my siblings at the time of payout and the claim that my mother would have on the benefit if she were still living at the time. Everyone seems onboard with the agreement today, although a couple decades may change their opinions.”)
There’s also the less significant issue of pitting your financial interests against your social interests. When an investor buys a policy, hopefully he isn’t sitting around hoping that the policy’s former owner dies. Even if he is, it doesn’t matter. If John sits around hoping he’ll die, that’s not very healthy. 🙂 That said, it’s clear that John doesn’t feel this way but it could become an issue.
Here’s where you guys come in. John was curious whether you guys thought it was a good idea and whether it was worth causing potential drama between his siblings later on?