7 Things To Know Before You Sell Your Life Insurance Policy

When you buy life insurance, you're creating a safeguard for your family's financial future for years to come, and possibly even until you die. But sometimes your financial priorities change or you run into a cash crunch. You may need to consider liquidating your life insurance policy and using its proceeds for current needs.

It’s usually possible to sell a life insurance policy. That said, to do so you generally must either be 65 or older or suffering from a serious illness that could soon take your life. You won’t recoup the full amount of its death benefit, though, and there could be unwelcome tax implications. Selling your coverage also means weighing the effects of the sale on the people who would have received the benefit from the policy when you died.

Here’s a rundown of when and how you can sell your life insurance, and the factors to evaluate before you do so.

What to know before selling your life insurance policy

Now that you’ve established that you can sell your life insurance policy, it’s time to consider if you should do so. Here are seven considerations you should explore before you begin the process of selling coverage on your life.

1. Whether you can sell your policy

Generally, you can sell both term and permanent life insurance policies, provided you are 65 or older or suffering from a terminal illness. But only term life policies that can be converted to permanent can be sold. Many policies have such convertibility, though it might be limited in time – such as possible only within the first five years in which you own the policy.

A term life insurance policy is simpler to evaluate and sell. Selling permanent coverage – like whole life insurance or universal life insurance – is a more complex matter, due to the cash value component of those policies.

You can’t sell any policy taken out on your life; you must be the policy’s owner in order to sell it. That means, for example, that if the policy you’re eyeing for sale is owned by a trust or a business, the trustees and owners of the business, respectively, would need to sell it, rather than you, even if the policy is in your name.

2. The ways you can sell your policy

Before going more deeply into the process of selling life insurance, it’s important to know the three ways in which policies can be given up in a way that allows you to receive funds from the transaction.

Two of those are ways to sell – or, in industry lingo, “settle”– a life insurance policy. Both options are available for either term or permanent policies, and usually involve working with a company that buys the policy or finds a third-party buyer. In return, you receive a lump sum in the sale. The new buyer takes on the ongoing burden of paying the premiums.

The third possibility, for permanent policies only, is to surrender your policy to the life insurance company.

Here's more on these options:

A life settlement. With this choice, a company that specializes in acquiring life insurance purchases your permanent or term life policy. The ownership of the policy changes, and the recipient transitions from your initial beneficiary to the life settlement company.

Ideally, this arrangement benefits both parties involved — the seller gains monetary value from a policy they don't need anymore or can't afford, while the buyer gets the eventual payout.

An important thing to note is that life settlement buyers usually require that you be 65 years or older to sell your policy. They may allow an exemption if you have a serious medical condition.

A viatical settlement. This specialized type of life settlement allows an individual with a terminal illness to sell their life insurance to a third party, often with help from a broker. The policyholder immediately receives a payout, one that’s less than the entire death benefit – but typically more than a regular life settlement, because the payout is more immediate, due to the policyholder’s illness.

When the policyholder dies, the purchaser of the policy receives the full death benefit. The buyer therefore realizes a return: the difference between what they paid for the policy and the amount of the death benefit. The broker receives a percentage of that return, as compensation.

A cash surrender. This option – available only with permanent insurance - amounts to returning the policy to the insurer and receiving a partial refund on what it has cost you. The company calculates the cash value in the policy minus any fees and returns the money to you. (Since term life has no cash value, it also doesn't have a cash surrender value.)

3. What your policy might be worth

A number of factors will determine the value you can get from selling a term life insurance policy:

• The way you sell the policy. Selling a life insurance policy to a settlement company may get you more money than taking the cash surrender value from the insurer. As a rule, expect the surrender value to be no more than 20% and 30% of the death benefit. As for the two types of settlement, a viatical settlement is likely to pay you more than a simple life settlement, because the offer comes when you’re terminally ill. In blunt terms, that makes the buyer more likely to collect soon on the policy, which raises its value.

• Age. The older you are, the higher the offer will be, as a rule. That’s because of the higher likelihood that you will die compared with younger policyholders. Grim as it is, that fact means the settlement company will profit sooner from the sale.

• Health status. The lower your life expectancy, the higher the offer will be, for the same reasons as noted above.

• The premiums you’re paying. The lower the premium amounts, the higher the offer. This is because the settlement company won't have to pay as much monthly in order to maintain the policy.

• The policy’s death benefit. A higher death benefit naturally makes the policy more valuable to the buyer, and so raises the amount you can obtain in selling it.

• How successfully you locate motivated buyers. It helps in getting the best settlements to reach out to multiple life settlement companies. Having those companies working for you increases competition, and so the odds of finding a buyer willing to pay top dollar for the policy.

4. The tax implications of a sale

The payment you receive from selling your life insurance could be taxable as income or capital gain, depending on your circumstances. If it's taxable, you'd have to include the difference between how much you paid for the policy and how much you sold it for in your annual income.

The IRS online questionnaire can help determine your tax burden if any. However, your best step is to consult with a licensed tax attorney, especially if the sale will yield an appreciable sum.

5. The fees and commissions you might pay

More than taxes can take a bite out of the proceeds from selling your life insurance policy. If you’ve engaged professional help with the process, those brokers or settlement companies will also want a share of the money. And not a negligible one; life insurance settlement commissions can be as high as 30% of the purchase price, according to the Financial Industry Regulatory Authority.

6. How the sale will impact your beneficiaries

Selling a life insurance policy can have multiple effects on the people who would otherwise receive the proceeds from your coverage :

• Reduced inheritance: Selling your life insurance policy could lead to a lower or no payout for your beneficiaries when you pass away. The money from the policy would instead go to the new owner.

• Financial security: If your beneficiaries planned to use the life insurance payout to cover specific costs like mortgage or funeral expenses, selling the policy could leave them struggling to meet those financial needs.

• Altered estate plans: Selling your life insurance might disrupt the estate planning strategy you had in place, potentially causing complexities in asset distribution and impacting the intended financial support for your loved ones.

• Loss of asset protection: Life insurance policies can offer a degree of protection against creditors. Selling the policy might expose your beneficiaries, affecting their financial security.

7. Alternatives to selling or surrendering your life insurance policy

There are alternatives to the sale or full surrender of your life insurance policy that might suit your needs better, including the following:

• Policy loans: If you have permanent (rather than term) coverage, you can borrow money from your life insurance policy's cash value. Such a loan doesn't involve selling the policy and, provided the money is repaid, can allow you access to funds without impacting your beneficiaries.

• Partial surrender: You can withdraw a portion of your policy's cash value while keeping the coverage intact. This allows you to access funds without completely giving up your life insurance protection.

• Accelerated death benefits: If you're facing a terminal illness, you might be eligible to receive a portion of the death benefit early. This can provide financial relief during challenging times without selling the policy.

• Conversion to a paid-up policy: This move allows you to eliminate continuing to pay for a life insurance policy, and so get a break on your financial obligations. In some cases, you can convert a whole life insurance policy to a paid-up policy, which means you stop paying premiums and the coverage remains in force at a reduced amount.

• Coverage reduction: Reducing your existing coverage should lower your premium, reducing your monthly costs.

How to sell your life insurance policy

Follow these steps to get the best offer possible on your policy.

1. Read up on life insurance for beginners to be sure you understand the complete picture of how life insurance works.

2. If you aren't sure of your policy details, contact your insurer to find out what kind of policy you have, your coverage and how much (if any) cash value the policy has.

3. Go to your state insurance commissioner's website to learn more about your state's regulations on selling life insurance policies.

4. Find a life settlement broker or life insurance agent licensed to do life settlements and, through them, seek multiple offers for your policy. Alternatively, your financial advisor may be able to do it. You can also use an online exchange for a DIY solution that skips the professional help, but you may end up on sales call lists if you do.

5. To ensure you're dealing with an ethical party, check if your state has licensed the settlement company or broker you're talking to. You can also use FINRA BrokerCheck to get more information.

6. Take your time deciding. Settlement companies may use aggressive marketing tactics to pressure you to make a fast decision. You needn’t accept or even consider a bid just because you received it, and you’re free to take the time you need to make your decision.

7. Once you accept a bid, you'll make the buyer the new owner of your policy.

Summary of Money's 7 things to know before selling your life insurance policy

Selling a life insurance policy is an option for many policyholders, but not all. To sell, you must be either 65 years old or suffering from a terminal illness, and the policy must be either of the permanent type or be convertible to that type.

Find out whether your policy is eligible for sale and ask your insurer for the policy’s cash surrender value. That figure allows you to compare the proceeds from surrendering the policy to those from selling it, to help consider which option you might pursue.

Even if you can sell your policy, it may not be the best financial move for you and the beneficiaries of your policy. Sale of life insurance can deprive its beneficiaries of funds they need. Consider why you're selling, if there are other ways to achieve that goal and if you want to pursue a partial surrender or other options.

Additionally, you'll want to look into how much you will need to pay in commission to a broker or settlement company, assuming you will seek assistance from one of those, as many sellers do. You’ll also want to see whether the payment you receive from selling your life insurance could count as taxable income.

Finally, before engaging the services of a settlement company or broker, check the credentials of those potential partners with regulatory sources such as the NAIC.