Recently, a client mentioned that someone had asked him to invest in viaticals and life settlements. They were touted as low-risk and high-return instruments. Is there a catch?
Repackaged and resold insurance plans
Take for example someone who is diagnosed with a terminal illness, and he does not have enough money for treatment or to cover his expenses till he dies.
However, he does have a life insurance policy that pays only upon his death. To turn his policy into cash, he can sell it to a viatical settlement company.
These companies buy such policies, which they then package and resell to investors. They pay the policy holder a sum greater than the policy's cash value but less than what it would pay on death.
The terminally ill person gets money to do what he wants. The investors get the death benefit when he dies, as long as they cover the premium payments till then.
Life settlements are quite similar. The main difference lies in the life expectancy of the policy owner.
While viatical settlements involve terminally ill patients who have life expectancies of no more than a year or two, life settlements involve policy owners with longer life expectancies - generally two to 13 years.
In many cases, the policyholder is above 65 and has suffered a significant decline in health since he bought the policy.
As with viaticals, investors get their payoff when the holder dies and they take the death benefit.
In Singapore, viaticals and life settlements are regulated by the Monetary Authority of Singapore.
Only investors with an income of $300,000 or more in the preceding year or individuals with a net worth of at least $2 million may invest in such products.
Traded endowments - products involving the sale of endowment policies in the secondary market - need a minimum sum of $20,000.
Risks that investors face
Investors in viaticals or life settlements face several risks, one of which is just when the death benefits can be collected.
Medical advancements can often prolong the lives of the sick - as was the case with Aids patients, whom settlement firms targeted in the 1980s. Faced with this development, investors became unwilling to take on anything except the worst cases. In the end, the market for such instruments shrivelled.
At this time, fraud also surfaced in the viatical market. Many settlement firms collected money from investors but never actually invested in policies. The market wasn't well-regulated then.
Investors started turning to life settlement products as viaticals became unpopular.
What is wrong with these products?
A typical sales line would be: 'The product is a low-risk, high-return instrument, and you are really helping the terminally ill and the dying to have money before they die.'
If the agent is truly interested in helping such people, why is he charging a high commission to sell the product? Commissions can go as high as 10 to 20 per cent.
Financially speaking, is it really in the best interest of the insured person to sell the policy?
Obviously, hanging on to it till death would provide the best investment return. Otherwise, investors would not be interested in buying the policies.
There are many ways to raise cash when one is about to die. Selling away a life insurance policy that is about to mature might not be the best option.
For the investor, viaticals and life settlements present huge risks. The insured person might live longer than expected, the exchange rate could go against you if you're dealing with an offshore product, and you might have no legal recourse if things go awry and the industry is not properly regulated.
Fraud is another worry. Settlement firms might mishandle the monies. Insured persons might misrepresent their state of health.
Various companies have approached my firm, an independent private wealth manager, to recommend such products to clients.
However, apart from being concerned about the high costs involved and the high incidence of fraud, my firm is also concerned about the ethical issues surrounding these products. When you invest in such products, the only time you reap returns is when people die.
Before investing, ask yourself: Do you need to take on the related risks? Can you accept the fact that your returns depend on how fast someone dies?
Dr Joseph Belth, the editor of The Insurance Forum, a respected industry newsletter, and the author of Viatical Transactions: The Frightening Secondary Market For Life Insurance Policies, has this to say about viaticals: 'The simple rule for the investor is to stay away from them like poison.'
Christopher Tan is the chief executive officer of Providend, an independent private wealth management firm. Its website is www.providend.com
This article was first published in The Straits Times on 29 June 2008.
