July 2, 2026
10:10 pm

Life Settlements for Estate Planning Attorneys

For estate planning attorneys, life settlements are the disposition tool for policies that the plan has outgrown — most often survivorship and universal life coverage bought for estate taxes that the current $13M+ federal exemption made unnecessary. Rather than surrendering such a policy for its often-depleted cash value or letting it lapse, the owner or trustee can sell it for typically 10–35% of face value, several times what the carrier would pay. The attorney’s work sits at every pressure point: trustee authority, fiduciary protection, tax characterization, and document drafting.

This article covers when the issue arises in an estate practice, the ILIT-specific analysis, tax and drafting considerations, and how counsel manages the transaction.

In This Article

The Stranded-Policy Problem in Modern Estate Plans
Where the Question Surfaces in an Estate Practice
The ILIT Analysis: Authority, Duty, and Protection
Tax Characterization: What Counsel Should Flag for the CPA
Drafting Notes: Building Disposition Flexibility into New Instruments
Managing the Transaction: Counsel’s Role from Valuation to Escrow
Downsides and Counter-Indications the File Should Reflect
Frequently Asked Questions

Life Settlements for Estate Planning Attorneys

The Stranded-Policy Problem in Modern Estate Plans

A generation of estate plans was built around life insurance purchased to pay estate tax. Between 1990 and 2010, when the federal exemption ranged from $600,000 to $3.5 million, survivorship universal life inside an irrevocable trust was standard architecture for successful families. The Tax Cuts and Jobs Act changed the arithmetic: with the federal exemption now above $13 million per individual — over $27 million for a married couple with portability — the estate-tax rationale for much of that coverage has evaporated for all but the largest estates.

What remains is a stranded asset: a policy with rising cost-of-insurance charges, a crediting rate that never met the original illustration, a cash value being consumed from the inside, and a grantor who resents funding annual gifts to keep it alive. The conventional endings — surrender for depleted cash value, or lapse after a 30–31 day grace period — destroy whatever market value the policy carries. The secondary market offers a third ending. Since Grigsby v. Russell established policies as transferable property in 1911, and especially since institutional capital professionalized the market, a qualifying policy can be sold to a licensed provider, with the GAO finding sellers received several multiples of cash surrender value.

For estate counsel, the settlement is not a product to sell but an option the file must reflect — particularly because the decision-makers involved (trustees, agents under POAs, executors) are fiduciaries whose omissions are actionable. The transaction fundamentals are covered in what a life settlement is; the sections below focus on the estate-practice overlay.

Where the Question Surfaces in an Estate Practice

Six recurring engagement types put a potentially marketable policy on the attorney’s desk:

Plan reviews after exemption changes. Any review of a pre-2018 plan should inventory insurance and ask whether each policy’s purpose survives the current exemption — and what happens if the exemption sunsets or the client’s state imposes its own estate or inheritance tax.
ILIT fatigue. The grantor stops making gifts, Crummey administration has lapsed, or the trustee reports the policy will not endure without dramatically higher premiums.
Divorce and remarriage. Coverage securing obligations to a former spouse, or benefiting a prior family structure, often needs disposition rather than maintenance.
Business succession unwinds. Buy-sell and key-person policies orphaned by a company sale; the entity or the departing owner may hold coverage with real market value.
Liquidity for the plan itself. A settlement can fund long-term care, complete gifting strategies, or replace income when other assets are illiquid.
Estate administration. A decedent’s estate may own policies on other lives — a surviving spouse, business partners — that the executor must value and dispose of, a problem treated in the life settlement guide for executors.

The screening heuristics are the same ones planners use: insured 65+, face value $100,000+, permanent coverage (or convertible term), two-plus years in force, health decline since issue. Full criteria are in who qualifies for a life settlement. Survivorship policies deserve special attention: they become dramatically more marketable after the first death, a fact many trustees never learn.

The ILIT Analysis: Authority, Duty, and Protection

When the policy sits in an irrevocable trust, three questions structure the analysis. First, authority. Does the instrument permit the trustee to sell trust property, including the policy? Most modern instruments grant broad powers of sale; older ILITs sometimes recite powers narrowly enough that counsel should confirm the sale fits, and consider whether beneficiary consent, court instruction, or a nonjudicial settlement agreement is prudent for a large transaction.

Second, duty. The trustee holds the policy under the prudent investor standard and cannot simply warehouse a deteriorating asset. A trustee who allows a marketable policy to lapse — or surrenders it for a fraction of its secondary-market value — faces beneficiary claims with unusually clean damages. Conversely, a trustee who sells the death benefit that beneficiaries were counting on faces the opposite claim. The protective path is procedural: document the policy’s trajectory (in-force illustrations at current and minimum funding), test the market through licensed intermediaries, compare every alternative (maintain, reduce face, exchange, surrender, sell), give beneficiaries notice, and record the reasoning. The trustee-side mechanics are detailed in the ILIT trustee duties guide and ILIT administration for trust attorneys.

Third, proceeds. Sale proceeds are trust assets, not the grantor’s money. The instrument governs whether they are held, invested, or distributed, and counsel should address the trust’s continuing purpose — termination, decanting, or conversion to an investment trust — as part of the same engagement. Returning proceeds to the grantor casually can unwind decades of transfer-tax separation.

Disposition Path	Value Realized	Death Benefit Outcome	Typical Fit in an Estate Practice
Maintain policy as-is	None now; full benefit at death	Preserved	Estate/inheritance tax exposure persists; family needs liquidity at death
Reduce face amount	Lower premiums	Partially preserved	Purpose shrank but did not vanish; grantor gift fatigue
1035 exchange	Tax-deferred repositioning	Depends on new contract	Healthy insured, better-priced or hybrid LTC coverage available
Surrender	Cash surrender value only	Lost	No secondary-market value; small or heavily loaned policies
Lapse	Nothing	Lost	Almost never defensible for a screened candidate; document why
Life settlement	Typically 10–35% of face; often 4–8× CSV	Lost (sold to provider)	Purpose gone, premiums unsustainable, insured 65+ with health decline
Viatical settlement / ADB rider	Higher % of face; §101(g) may apply	Lost or partially retained (rider)	Terminally or chronically ill insured; compare rider first

The ILIT Analysis: Authority, Duty, and Protection

Tax Characterization: What Counsel Should Flag for the CPA

The attorney does not prepare the return, but the structure decisions that drive the tax result are legal work. The framework is Revenue Ruling 2009-13 as modified by the TCJA: on a sale, proceeds up to the seller’s basis (total premiums paid, undiminished by cost-of-insurance charges post-TCJA) are tax-free; the tranche between basis and cash surrender value is ordinary income; the excess over CSV is capital gain. The mechanics and history are unpacked in Revenue Ruling 2009-13 explained.

Estate-practice wrinkles counsel should spot:

Grantor trust status. If the ILIT is a grantor trust, the sale’s income tax consequences run to the grantor personally even though proceeds stay in trust — a cash-flow mismatch the grantor should see coming.
Non-grantor trusts hit compressed trust income tax brackets quickly; distribution planning around the sale year matters.
Transfer-for-value and reportable policy sales. The TCJA’s reportable policy sale rules generate Forms 1099-LS (from the buyer) and 1099-SB (from the carrier), so the transaction is fully visible to the IRS.
Basis reconstruction. Premium histories for 25-year-old ILIT policies are frequently incomplete; order the carrier’s premium record early.
Viatical carve-out. If the insured is terminally ill (life expectancy under 24 months), proceeds may be excludable under IRC §101(g) — though the exclusion’s application when a trust rather than the insured is the seller requires careful analysis.

The estate-tax side is simpler but worth stating: selling removes a death benefit that (inside a properly administered ILIT) was already outside the estate, and converts it to a smaller, immediately investable sum inside the trust. That trade is analyzed in life settlement estate tax planning.

Drafting Notes: Building Disposition Flexibility into New Instruments

The stranded-policy problem is partly a drafting problem, and instruments written today can avoid it. Provisions worth considering in new ILITs and amendments (or decanting targets) for old ones:

Express power to sell policies. A specific enumerated power to sell, surrender, exchange, or otherwise dispose of any life insurance policy, to any purchaser including licensed settlement providers, removes the authority question entirely.
No duty to maintain. Language confirming the trustee has no duty to keep any policy in force, pay premiums beyond available trust funds, or notify the grantor before disposition — paired with an affirmative duty to review policy performance periodically.
Exoneration tuned to insurance. Standard exculpation clauses rarely contemplate the keep-versus-sell dilemma; consider language protecting a trustee who, after a documented market test, either sells or retains a policy in good faith.
Trust protector or direction powers. For families who want the disposition decision held elsewhere, an insurance trust protector or directed-trust structure allocates the duty explicitly.
Termination and decanting pathways. If the policy is sold, the trust may have no remaining purpose; build in mechanisms for winding up or repurposing.

For existing instruments that lack flexibility, the toolkit is familiar: nonjudicial settlement agreements where state law permits, decanting to a modern instrument, judicial modification, or beneficiary consent. Counsel should also confirm the state’s settlement statute — most states track the NAIC Model Act, but licensing, disclosure, and waiting-period details vary, as surveyed in life settlement regulation by state.

Managing the Transaction: Counsel’s Role from Valuation to Escrow

Once a disposition decision is made, the attorney’s transaction role resembles a small asset sale. The sequence runs 60 to 120 days: application and HIPAA authorizations; medical records collection; two independent life expectancy reports (two to six weeks); marketing to providers; offer negotiation; closing documentation; carrier processing of ownership and beneficiary changes; and payment from escrow, followed by a statutory rescission window of 15 to 30 days depending on the state.

Counsel’s checkpoints:

Intermediary licensing. Verify the broker’s and provider’s licenses in the owner’s state of residence — in New Jersey, against the records of the Department of Banking and Insurance under the Viatical Settlements Act.
Channel selection. A licensed broker owes the seller a best-offer duty and creates competitive bidding; a direct provider sale saves the commission but forfeits the auction. The trade-off is analyzed in broker vs. provider.
Contract review. Purchase agreement terms deserve real scrutiny: the gross-versus-net price after all compensation, escrow arrangements and release conditions, representations about the policy and the insured, post-closing contact obligations (buyers track the insured’s status), and rescission mechanics.
Signature authority. Trustee resolutions, POA sufficiency, entity authorizations, or letters testamentary must match the owner of record precisely — mismatches are the most common closing delay.
Proceeds routing. Confirm escrow instructions pay the owner of record (the trust, the entity, the estate), not a family member’s convenience account.

STOLI screening belongs here as well: any indication the policy was originated for resale — premium financing with nonrecourse features, investor involvement at inception — should stop the transaction, since stranger-originated arrangements are prohibited and legitimate providers will not close on them.

Downsides and Counter-Indications the File Should Reflect

Estate counsel adds the most value by knowing when the settlement is the wrong answer, and saying so in writing. The principal counter-indications:

The plan still needs the benefit. If estate or inheritance tax exposure persists — state-level regimes reach far below the federal exemption — or the family depends on the liquidity at death, retaining or restructuring the policy usually dominates a sale at 10–35 cents on the dollar of face.
The exemption may fall. Clients near the federal threshold face legislative risk; a policy sold today cannot be repurchased on the same terms after a health decline, making disposal of survivorship coverage a one-way door.
Better exits exist for the ill. Terminally or chronically ill insureds may do better through accelerated death benefit riders — which pay from the carrier and preserve the remainder for heirs — or through a viatical settlement with §101(g) tax treatment; compare the paths in the accelerated death benefit guide.
Benefit-eligibility damage. For an owner on or near Medicaid, sale proceeds are countable assets; elder law coordination is mandatory, not optional.
Family expectations. Beneficiaries who anticipated the death benefit are tomorrow’s claimants; notice and, where appropriate, written consent convert them into informed parties.

The disciplined output of the engagement is a disposition memo: purpose of the coverage then and now, policy trajectory, alternatives quantified, market evidence, tax projection, benefit-interaction check, and the client’s or trustee’s documented decision. Whether the policy is sold, kept, or restructured, that memo is what stands between the fiduciaries involved and the hindsight of a later-disappointed beneficiary.

Frequently Asked Questions

Can an irrevocable life insurance trust sell its policy in a life settlement?

Generally yes, if the trust instrument grants the trustee power to sell trust property — most modern ILITs do, through general powers of sale. The trustee signs the settlement contract as owner, proceeds are paid to the trust, and the instrument governs what happens to them. Counsel should confirm the power, consider beneficiary notice or consent for large transactions, document the prudent-investor analysis supporting the sale, and address the trust’s continuing purpose afterward, since a policy-less ILIT may be a candidate for termination or repurposing.

What happens to old estate-tax insurance now that the exemption is over $13 million?

Much of it is stranded: coverage bought when the exemption was $600,000 to $3.5 million now insures against a tax most clients will never owe federally. The options are to keep it (justified where state estate or inheritance taxes apply, the exemption may fall, or heirs value the benefit), reduce it, exchange it, surrender it, or sell it in a life settlement for typically 10–35% of face value. The wrong answer is the common one — quiet lapse — which destroys whatever market value the policy carries.

Is a trustee liable for letting a trust-owned life insurance policy lapse?

Potentially, yes. An ILIT trustee holds the policy under the prudent investor standard and has an affirmative duty to manage it. Where a policy had secondary-market value and the trustee allowed it to lapse or surrendered it without testing the market, beneficiaries can claim the difference between what was received and what offers would have paid — clean, provable damages. Protection is procedural: monitor policy performance, obtain in-force illustrations, market-test qualifying policies through licensed intermediaries, give beneficiaries notice, and document every step.

How are life settlement proceeds taxed when a trust is the seller?

The Revenue Ruling 2009-13 tiers apply: proceeds up to the trust’s basis (premiums paid) are tax-free, basis to cash surrender value is ordinary income, and the excess is capital gain. Whose return it lands on depends on trust status: a grantor trust pushes the income to the grantor personally even though the cash stays in trust, while a non-grantor trust pays at compressed trust brackets, making sale-year distribution planning important. Buyers and carriers file Forms 1099-LS and 1099-SB, so coordinate with the CPA before closing.

Should estate planning attorneys draft ILITs differently because of the life settlement market?

Yes — disposition flexibility should be standard drafting. Useful provisions include an express power to sell policies to any purchaser including licensed settlement providers, confirmation that the trustee has no duty to maintain any policy beyond available trust funds, a periodic policy-review duty, exculpation tuned to good-faith keep-or-sell decisions made after a market test, and clear pathways for terminating or repurposing the trust after a sale. For older instruments without these features, decanting, nonjudicial settlement agreements, or judicial modification can supply them.

Can a survivorship (second-to-die) policy be sold in a life settlement?

Yes, and survivorship policies are among the most common estate-planning candidates because so many were bought purely for estate-tax liquidity that current exemptions eliminated. Marketability is limited while both insureds are alive and healthy, but improves substantially after the first death or when either insured’s health declines, since the buyer’s payoff horizon shortens. Trustees holding survivorship coverage should re-screen the policy after any first death or significant health event rather than assuming an earlier “no offers” result still holds.

What should the attorney review in a life settlement contract before a client signs?

The economics and the mechanics: gross offer versus net proceeds after all broker and other compensation (which state law requires be disclosed); escrow terms and the conditions for releasing funds; representations and warranties the seller makes about the policy and the insured’s health disclosures; post-closing obligations, including the buyer’s ongoing contact to track the insured’s status; the rescission window (15–30 days by state) and how to exercise it; and precise conformity between the signing party and the owner of record — trustee, entity, or agent under a POA.

When is keeping the policy clearly better than a life settlement?

Whenever the death benefit still does real work: persistent federal or state estate/inheritance tax exposure, liquidity needs at death, equalization among heirs, or charitable commitments. A settlement pays perhaps 10–35% of face; the benefit pays 100%, so retention wins unless premiums are genuinely unsustainable or the purpose is truly gone. Legislative risk cuts the same way — a client near the exemption threshold who sells a survivorship policy cannot rebuild that coverage after a health change. The attorney’s memo should quantify the trade before anyone signs.

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