Life Insurance Settlement Options [A Comprehensive Guide]
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It might be a little bit confusing that what settlement option provides the best benefit against an insurance policy. I know precisely why it is complicated. If you don’t know anything about life insurance settlement options, don’t worry anymore because I have got you covered.
Today I am going to discuss everything you need to know about insurance settlement options in this comprehensive guide.
Now, a settlement is a process by which your life insurance proceeds are paid out to the beneficiary. You’ll find several settlement options offered by the provider. However, it may be in your discretion to choose a suitable method for you. In most of the situation, your beneficiary may get the opportunity to select the preferred option.
In this article, I am going to explain all possible options for the settlement of your insurance policy. So, without any further ado, let’s begin.
Different Life Insurance Settlement Options
As I mentioned before, there are many types of options to settle out your life insurance policy.
You may want to settle your life insurance policy with a lump-sum amount, life income, or even with periodical interest income.
In most of the cases, beneficiaries want a lump sum payout, but some more options are always open to them.
Therefore, it’s a wise decision to have an in-depth idea of each life insurance settlement option.
Below are some common types of settlement options that you may get against a life insurance policy.
- Life income
- Interest income
- Specific income
- Periodic certain
- Life refund
- Fixed period
- Joint and survivor
Having an idea of every type of life insurance settlement option will open the door of new possibilities. So, let’s dig these further.
Lump-sum is the most common option that most of the beneficiaries choose to settle a life insurance policy. Besides, this policy is easy to understand for all. If you sign up for this option, the recipient will get an onetime payment of full death benefits.
Another excellent benefit of this option is entirely tax-free. With said that it is crystal clear that the beneficiary is free to use the money as he wants. But, in many cases, this money is used to repay some large bills like a mortgage and cover the funeral expenses of the dead person.
However, if there was any loan against the cash value of the policy, then obviously, the amount will be deducted from the death benefit.
Now, for instance, if the death benefit of the insurance policy is $100000, the lump-sum amount the beneficiary will receive is $100000. The lump-sum option is as simple as that.
It is an excellent settlement option for a life insurance policy. According to this option, the beneficiary will have the flexibility to receive payments throughout his or her entire lifetime.
Here, the insurance provider will decide upon the yearly payment that the beneficiary is going to receive. The age and gender of the recipient play an essential role here. However, the company has an option to purchase an annuity as well.
Now, you might be thinking that when will payout stop? The payout will terminate upon the death of the beneficiary. The exciting part is, if somehow the beneficiary dies before the expected time, in many cases, the insurance provider can keep the unpaid amount.
However, if the beneficiary lives more than the expected life, then the insurance company will end up paying more money than they anticipated.
If you need a guaranteed payment and don’t want to get a lump-sum amount at once, I believe, this could be one of the best settlement options for you.
For example, let’s assume a 40-year-old male decides not to take the one-time death benefit of $500000, and he chooses the life income option instead.
In this case, he may receive around $2050 per month throughout the rest of his life. Whether he loses or wins will depend on how many years he is going to live further.
It is another excellent settlement options that you can choose. With this superb option, now you’ll have the opportunity to receive only the interest amount that you have earned on the death benefit of the policy.
Now, the primary beneficiary will receive the interest amount on the death benefit. The entire situation altered when the primary beneficiary dies. In this case, a secondary beneficiary will get the original death benefit of the policy.
For example, let’s assume the original death benefit of the policy is $500000. In this case, the primary beneficiary will get an interest amount. Say, the interest rate is 6%, so he or she will get $30000 per year.
However, a secondary recipient will get the original death benefit amount upon the death of the primary recipient.
Wouldn’t this be awesome if you get a fixed amount every year, and the payout will continue even after your death? Yes, of course. With a specific income settlement option, the beneficiary can receive a fixed annual amount through a payout schedule against the death benefit.
If anyhow the recipient dies before the payout period, this option allows a secondary recipient to get the rest of the amounts.
For instance, if the death benefit is $100000, the beneficiary can choose to receive a fixed amount (say its $10000) per year. Here, the payout by the provider will continue until the recipient gets the full amount.
A secondary recipient will be allowed to receive the rest of the amount if in case the initial recipient dies.
Periodic particular provides you with some unique options when it comes to settling down insurance policy. This option will allow you to have a guaranteed amount of time to receive the payment even after the beneficiary’s death.
Unlike the typical for life option, here, the payments will not stop until a predetermined period has been reached. As here involves a guaranteed time frame, it is so evident that the fees will be lower than the usual.
For example, let’s assume 40-year-old male signup for the periodic sure insurance settlement option for the $500000 death benefit now if the person chooses 20 years.
The payments will be around $200000 per month as per the option policy. Here, if the person dies after five years, another nominated person will receive the payment until the period ends.
Here, the math is simple. In the life refund option, the payment will continue until the full death benefit amount is paid off. Here a beneficiary may choose to get a fixed periodic amount until the amount paid is equal to the death benefit amount.
However, in case the death of the nominated person before the payout, another nominated recipient will get the rest of the money.
For instance, let’s assume that the death benefit amount is $100000. The primary beneficiary wants a monthly payment of $2000. Therefore, he or she gets $48000 in the first two years.
Now, if the initial beneficiary dies after two years, another nominated person will get the rest $52000 to reach the original death benefit amount.
If you want to spread your amount, but you need a more considerable amount comparing to a life option, the fixed period life insurance settlement option could be the right choice for you.
In this case, the death benefit will be paid out throughout a fixed period, say 5 or 10 years. Interest will be added to the payment, which id, of course, taxable. If the beneficiary dies, another nominated person will get the remainders as a lump sum amount.
Joint and Survivor
It is one of the most exciting settlement options. Joint and survivor options have many resemblances with the life income option.
The only difference is the payment will continue even after a partner’s death until the last partner dies. As this option will provide you extra flexibility, the monthly payment will be lower.
When You Should Choose Options Other Than Lump-Sum
A lump-sum amount is not highly beneficial at all times. As you already know that there are other options as well. Therefore, it is an excellent decision to move to other useful options.
But, the question is, when should you move? I am trying to share my knowledge here. Let’s learn first when you should go for a lump-sum option.
If you need a big sum of money for a necessary investment, the lump-sum option will be a lifesaver for you.
However, if you don’t need the full payout right now, you should think about other options. Because in this case, spreading out your payment will give you more benefits over a fixed amount of money.
You should know about the following tax consequences and implications for settlement options.
- Lump-sum insurance proceeds are free from income tax for the beneficiary. However, there are some exceptions, as well. If you purchase an insurance policy by a qualified retirement plan or under employee benefit trust, the beneficiary will have to pay income tax for the proceeds.
- If a company pays a premium for you, the proceeds will be considered as dividends or compensation. In this case, the profits can be taxed.
- Interest in the payment received under an installment option is subject to income tax.
A life insurance policy provides your family with financial security even after your death. So, it is essential to choose settlement options very carefully.
I believe this comprehensive guide helped you to understand different life insurance settlement options so that you can make the right decision.