This second installment of our series, “The Life Settlement Industry – Bankruptcy Issues”, will address two related issues:

(1) What type of interest (if any) does an investor-creditor have in a “life settlement” (i.e., a life insurance policy sold by the original owner to a third party for a value in excess of the policy’s cash surrender value, but less than its death benefit), and (2) How is the interest of an investor-creditor in a life settlement generally determined in a bankruptcy case?

A “life settlement” is the sale of a life insurance policy to a third party for a value in excess of the policy’s cash surrender value, but less than its death benefit. The life settlement industry focuses on the purchase and sale of life settlements or fractional interests in life settlements to investors. These investors may be anyone from individuals to groups of investors, hedge funds or other institutional investors.

For those who may be considering an investment in life settlements (see my previous blog for background), recent bankruptcy filings of life settlement entities have raised a concern not often considered when determining whether or not to invest: what would happen if the entity that owns or manages the underlying insurance policy(s) ends up in bankruptcy. Life settlement companies typically include provisions in their purchase agreements that downplay the potential ramifications of a bankruptcy filing.

Since 2008, many individuals have been looking for investments outside of bonds or the stock market that provide guaranteed payments at higher rates of return.  Some have turned to investing in precious metals, while others have looked to investing in life insurance policies.  Many are familiar with the word “viaticals” that became well known during the 1980’s, when people began purchasing life insurance policies on the lives of people with chronic or terminal illnesses, such as AIDS.  With viaticals, the insured usually had a limited life expectancy and the owner of the viat