A life settlement contract is a private agreement in which you sell your existing life insurance policy to a third-party buyer for a lump sum that is larger than the insurer’s cash surrender value but smaller than the death benefit. The buyer takes over the policy, pays the premiums going forward, names itself or a trust as the beneficiary, and collects the death benefit when you die. The difference between what the buyer paid you (plus premiums carried until your death) and the eventual payout is the buyer’s profit. Selling a policy this way has been legal in the United States since the Supreme Court’s 1911 decision recognizing life insurance as personal property the owner can freely assign.
The transaction is distinct from a viatical settlement, which follows the same structure but is reserved for policyholders who are terminally or chronically ill. A life settlement is aimed at owners whose circumstances have changed enough that keeping the policy no longer makes financial sense, not owners facing an imminent health crisis.
Which Policies Actually Qualify
Buyers only bid on policies where the numbers work. In practice, that narrows the pool considerably:
- Policy type: universal life, whole life, and convertible term policies are the usual candidates. Straight term with no conversion option rarely qualifies because it can expire worthless.
- Face value: most buyers want at least $100,000 in death benefit. Smaller policies don’t cover the transaction costs.
- Age of the insured: typically 65 or older, though younger people with serious health conditions may qualify.
- Life expectancy: underwriters generally look for a projected life expectancy between roughly two and fifteen years. Much longer, and the policy is worth more kept in force. Much shorter, and it looks like a viatical.
- Contestability: the policy has to be past its two-year contestability period, and some states impose longer waits before a policy can be settled.
There is one hard limit worth flagging even if you don’t think it applies to you. A policy that was originated so a stranger-investor could buy it shortly after issue is called stranger-originated life insurance, or STOLI, and these arrangements are illegal in most states. If underwriters conclude a policy was created as part of a STOLI scheme, the sale won’t close, and the insurer may have grounds to void the policy entirely.
The Parties and What They Cost You
Three roles run through most transactions. You are the policyowner, holding the legal right to transfer ownership and change the beneficiary. The life settlement provider is the entity putting up the cash to buy the policy; providers are generally licensed with state insurance departments in the states where they operate, and most states impose disclosure requirements on them.
The life settlement broker works on your side. In regulated states, the broker owes you a fiduciary duty to pursue the best available offer rather than the first one, and typically shops the policy to multiple providers through competitive bidding. The broker is paid by commission taken out of the settlement proceeds before you receive your payment. Commissions commonly run 15 to 30 percent of the gross offer, which is why shopping brokers matters almost as much as shopping providers.
What the Process Looks Like
Expect to hand over a fair amount of documentation to start. You’ll sign a HIPAA-compliant authorization so the provider can pull roughly five years of medical records from your primary care physicians and specialists. You’ll request an in-force illustration from your carrier, projecting the premiums needed to keep the policy active under different scenarios. And you’ll gather the original policy contract, annual statements, and any rider amendments.
One or more life expectancy underwriting firms review the medical data and produce a projected life expectancy for the insured. That number is the single most influential input in the valuation, because it determines how long the buyer expects to keep paying premiums before collecting. Providers then build offers around that life expectancy, the face value, projected premium costs, and their own required rate of return. From application to a firm offer typically takes several weeks, and incomplete medical records are the most common source of delay.
Once you accept an offer, an independent escrow agent holds the buyer’s funds while the ownership paperwork is processed. You sign a change-of-ownership form and a change-of-beneficiary form, and the provider usually requests a verification of coverage from the insurer confirming the policy is active, the face value is correct, and no liens or outstanding loans exist against it. The carrier typically takes two to four weeks to process the transfer and issue confirmation, and only then does the escrow agent release your payment.
Your Right to Cancel and Required Disclosures
Most states that regulate life settlements give you a cooling-off period after signing. During that rescission window you can cancel for any reason and get back any documents you surrendered. The length varies by state but generally runs 15 to 30 days, and if the provider fails to give you written notice of your rescission rights, the clock may not start until they do.
Regulated states also require providers to make specific disclosures before you sign. These typically cover the alternatives to selling, the tax consequences you may face, and the plain fact that the buyer will profit when you die. Read them.
How the Proceeds Are Taxed
The IRS splits your settlement proceeds into three buckets:
- The portion up to your adjusted cost basis (essentially total premiums paid) comes back to you tax-free.
- Any amount between your basis and the policy’s cash surrender value is taxed as ordinary income.
- Anything above the cash surrender value is taxed as a long-term capital gain.
The Tax Cuts and Jobs Act of 2017 made a meaningful change to that math. Before the TCJA, IRS Revenue Ruling 2009-13 required sellers to reduce their cost basis by the cost-of-insurance charges embedded in their premiums, which produced a smaller basis and a larger taxable gain. The TCJA amended the basis-adjustment rules so those mortality and expense charges no longer reduce your basis when you sell a policy in a reportable policy sale. 1Office of the Law Revision Counsel. 26 U.S. Code 1016 – Adjustments to Basis You keep a higher basis and owe less tax on the sale.
A “reportable policy sale” is one where the buyer has no substantial family, business, or financial relationship with the insured apart from owning the policy, which describes nearly every third-party life settlement. 2Office of the Law Revision Counsel. 26 U.S. Code 101 – Certain Death Benefits Buyers and brokers must report these sales to the IRS, and you should receive a Form 1099-LS reflecting the proceeds.
If You Receive SSI or Medicaid
A lump-sum settlement can knock you off means-tested benefits. Two programs are the main concern.
For Supplemental Security Income, the resource limit is $2,000 for an individual and $3,000 for a couple. 3SSA. 2026 Cost-of-Living Adjustment (COLA) Fact Sheet A payout that pushes your countable assets above those thresholds disqualifies you until you spend down. A life insurance policy with a face value of $1,500 or less generally isn’t counted as a resource for SSI, so the policy may not have been the problem, but the cash from selling it almost certainly will be.
Medicaid depends on whether your state expanded coverage. In expansion states, eligibility for most adults turns on income, with the 2026 threshold set at 138 percent of the federal poverty level, roughly $22,025 per year for a single person. 4ASPE. 2026 Poverty Guidelines – 48 Contiguous States A lump-sum settlement can count as income for the month it’s received. Non-expansion states typically look at assets too, with resource limits similar to SSI’s. Either way, you have to report the settlement to your state Medicaid agency; failing to do so can cost you coverage or trigger a repayment demand.
If either program matters to you, talk to a benefits planner before signing. Spending the money quickly isn’t always a fix, because Medicaid’s look-back rules can penalize transfers made in the years before a long-term care application.
Privacy After You Sell
Once the sale closes, the buyer has a financial interest in knowing when you die and will periodically confirm your status, generally through services that monitor public death records. The buyer and any downstream investors also hold the medical records you released during underwriting, and that information can be shared with lenders, other investors, and other entities involved in the secondary market. 5FINRA.org. What You Should Know About Life Settlements State rules govern this, but the protections vary. Before you close, ask the broker specifically who will have access to your personal and medical information and whether the policy might be resold to additional investors later.
Alternatives Worth Weighing First
Selling isn’t the only way to get value out of a policy you no longer want.
- Accelerated death benefit rider: some policies let you access part of the death benefit if you’re diagnosed with a terminal illness, keeping the policy in force and potentially receiving better tax treatment than a settlement.
- Policy loan: if your policy has cash value, you can borrow against it and stay the owner. The loan reduces the eventual death benefit, interest accrues, and if the loan balance exceeds cash value the policy may lapse.
- Reduced paid-up insurance: stop paying premiums and convert to a smaller, fully paid-up policy. Some death benefit remains, and no more premiums come out of pocket.
- Surrender: hand the policy back to the insurer for its cash surrender value. Simplest option, and it sets the floor. Surrender values are almost always lower than what the secondary market will pay, sometimes by a factor of two to four.
That gap between surrender value and settlement value is why the secondary market exists. But each alternative above preserves some death benefit for your original beneficiaries, and that tradeoff is worth thinking through carefully before you sign.
Where the Legal Right Comes From
The right to sell a life insurance policy to someone with no insurable interest in your life traces to the Supreme Court’s 1911 decision in Grigsby v. Russell. The Court held that a valid policy doesn’t become void when assigned to a stranger and reasoned that restricting an owner’s ability to sell would “diminish appreciably the value of the contract in the owner’s hands.” 6Justia U.S. Supreme Court Center. Grigsby v. Russell, 222 U.S. 149 (1911) That holding still supports every life settlement done today.