We are often asked whether a particular claim is the type of claim that an insurance company would be interested in settling for a lump sum buyout. The answer, as explained in more detail below, is always, it depends, because there are a number of factors that come into play, and many of those factors are not even directly related to whether the claim itself is legitimate or whether the insured’s condition is permanent (although those are important factors that impact whether a buyout is a possibility).
What is a Lump Sum Buyout?
You may be familiar with the terms of your disability policy, but you may not know that, in certain instances, insurers are willing to enter a lump sum settlement. Under a lump sum settlement, your insurer agrees to buy out your policy and, in return, you agree to surrender the policy and release the insurer from any further obligations to you going forward.
There are certain pros and cons to this sort of settlement. Some claimants prefer a lump sum settlement, because it allows them to avoid having to rely on month-to-month payments from their insurer (which may or may not arrive, or if they do arrive, may not arrive on time) and/or to avoid the hassle of dealing with claim forms, medical exams, etc. for years to come. A lump sum settlement can also allow you to take advantage of present investment opportunities that can provide for your and your family’s future. But there are also other considerations that you will need to discuss with your attorney as well as your accountant and other financial advisors. For example, if your benefit period lasts to age 65 (and you end up living to the end of the benefit period), you would likely receive more money cumulatively over time if you stayed on claim and received monthly benefits in lieu of a lump sum settlement.
Lump sum settlements can also be attractive to insurance companies. A settlement can allow insurance companies to release money from their reserves and to eliminate administrative expenses associated with the ongoing review of your claim year after year. But just as you might receive more money cumulatively over time if you stayed on the claim, the insurer might benefit financially from not offering you a lump sum settlement. For example, if your policy provided for lifetime benefits, and you met an untimely demise, your insurance company’s obligation to pay benefits would cease, and they may end up ultimately paying out a lower amount in total monthly benefits than they would have if they paid out a lump sum settlement on your claim.
Because this process is completely discretionary on their part, insurance companies are very deliberate about offering lump sum settlements. Before doing so, they must weigh multiple factors including the following:
- Permanency. The insurer is more likely to offer a settlement if its actuaries determine that you will likely be on claim for the maximum benefit period.
- Reserves. Over the course of your claim, your claim’s reserves slowly peak as you are on claim for an extended period of time (and permanency is established) and then at some point, they start to diminish as the claim is paid out, and you get closer and closer to the end of the maximum benefit period. The insurer is more likely to offer a settlement when the reserves are at their peak (typically around 3-5 years into a claim), because that is when the insurance company would improve its bottom line the most by freeing up the reserves.
- Mortality/Morbidity Issues. The insurer is more likely to offer a settlement if its actuaries determine that you will probably live to the end of the maximum benefit period. Or if you have lifetime benefits, the insurer will estimate your lifespan based on your health history to determine whether it is financially beneficial for the company to offer a lump sum settlement.
- Offsets. The insurer is more likely to offer a settlement if it determines that you will probably not receive income in the future that would offset the benefit amount before the end of the maximum benefit period.
- Anticipated Gain. Companies will not offer a buyout unless they stand to save money in the long run, so they have their actuaries calculate how much of a gain (percentage-wise) the company would net if they settle the claim. Insurers often have internal financial objectives that impact the amount they are willing to offer on settlements such as requiring a net gain amount of a certain percentage (e.g. 35%).
- Cash Outflow. The insurer will be more or less willing to offer a settlement depending on their quarterly or even annual cash outflows. Thus, if a company had paid out a lot of buyouts recently, the company may not have enough cash available to offer additional lump sum settlements.
The bottom line is that offering a lump sum settlement is completely voluntary on the part of the insurer and doing so depends on the unique factual circumstances of your claim. Nevertheless, knowing the factors that insurers consider in making this decision can help you understand whether a lump sum settlement is appropriate in your case.