Death that literally pays dividends: Inside the world of life-settlement investments

Imagine you could invest in an asset class that averaged 44% internal rate of return and its returns were uncorrelated from stocks, bonds, commodities, and real estate. The only catch: your payout depends on strangers’ deaths.

Welcome to life-settlement investments.

Bloomberg reported last week that Apollo Global Management is facing a lawsuit stemming from its “bet on the longevity of senior citizens by acquiring illegal life insurance policies and funneling the payouts through shell entities.” A summary of said lawsuit: 

In 2006, a Delaware statutory trust called Life Accumulation Trust III (LATIII) approached  Martha Barotz, a retiree in her early 70s, about participating in its “Life Accumulation Program.”

Through this program, Barotz would take out a new life-insurance policy and designate “Martha Barotz 2006-I Insurance Trust,” a trust created by LATIII, as the sole beneficiary. In exchange for getting the policy and signing the trust documents, LATIII would pay Barotz 3% of the aggregate stated death benefit of $5 million. 

Basically, a group of investors paid Barotz $150,000 to take out a $5 million life-insurance policy and name themselves the beneficiaries.

This arrangement, known as a Stranger Originated Life Insurance Policy, is illegal in most US states, including Delaware, where these trusts were incorporated, because the beneficiary lacks an insurable interest. This means you need to have an emotional, legal, or financial interest in a person to take out a life-insurance policy on them. Children, spouses, and business partners are examples of people who would qualify. LATIII, obviously, did not have such an interest in Barotz, which rendered the policy illegal.

In 2011, this policy was sold to an Apollo Global entity called Financial Credit Investment I (FCI), and when Barotz died, in 2018, Apollo received the $5 million death benefit. Barotz’s estate is now seeking to recover the proceeds from the policy.

Apollo’s fault in this case wasn’t betting on the life of an older person. It was betting on the life of an older person in the wrong way. After reading about the Apollo case, I went down the life-insurance-market rabbit hole, and what I learned was fascinating.

How “life settlements” work

It’s actually completely legal to sell your life-insurance policy to a stranger. The catch is, the policy can’t be originated with a stranger as the beneficiary. If your policy initially had the appropriate insurable interest, and then your circumstances changed, you can sell that policy in a deal known as a “life settlement.”

In a life settlement, a third party would pay you some amount less than the total death payout, and more than the surrender value your insurer would pay if you terminated the policy early.

The origins of the life-settlement market date to 1911 with the Supreme Court case of Grigsby v. Russell. In this case, John Burchard had bought an insurance policy on his own life, but he couldn’t afford the premiums and needed money for an operation, so he sold his policy to a doctor for $100.

In his opinion, Justice Oliver Wendell Holmes said that life insurance is property and a person should be able to transfer ownership of that property without limitation: “So far as reasonable safety permits, it is desirable to give to life policies the ordinary characteristics of property… To deny the right to sell except to persons having such an interest is to diminish appreciably the value of the contract in the owner's hands.”

Despite that ruling, life settlements remained uncommon until the 1980s with the rise of the AIDS epidemic. Many people with AIDS, facing high medical expenses and short life expectancies, sold their existing insurance policies for cash, creating a rather grotesque market for viatical settlements with investors. But as antiviral medicines improved, the viatical market shrank and a broader life-settlement market emerged.

The life-settlement industry today is less predatory than in the 1980s. The typical person looking to sell their policy today isn’t a terminally ill patient in need of cash; it’s an older person who no longer needs their policy, but doesn’t want to let it lapse or sell it back to the insurance company.

Stephen Olmon, an entrepreneur who’s invested in several life settlements through an investment group called Life Investors Management Co. (LIMco), told Sherwood that LIMco typically purchases policies from high-net-worth individuals with multiple policies that no longer need one or more of them. LIMco pays individuals 19 to 29% of face value, far more than the usual surrender value, and assumes responsibility for the policy’s premiums until the person dies. For example, LIMco might pay $2 million for a $10 million policy and pay the policyholder’s premiums going forward. 

LIMco combines numerous policies in different investment vehicles, and when one policyholder dies, LIMco’s investors receive pro-rata cash flows based on their stakes in the policy. The entire space is basically mortgage-backed securities for life insurance, but instead of receiving interest payments from homeowner mortgage payments, investors get one-off death dividends as policyholders pass away.

This market has its own unique due-diligence process. LIMco and other investors in the space hire doctors to review the health records of different policyholders to help them more accurately “price” their investments.

Who’s selling and who’s buying?

Today, the secondary life-settlement market, where investors such as LIMco buy policies directly from insured individuals, and the tertiary market, where larger asset managers such as FCI purchase blocks of policies from other investors, are worth billions of dollars.

In 2022, an estimated $4.5 billion in face value (the amount paid to beneficiaries when you die) was sold on the secondary market. The biggest player in the secondary market, Coventry, invested more than $225 million to purchase more than $1.2 billion of face value across 1,250 policies in 2019. Meanwhile, according to the Apollo court documents, FCI’s managing director estimated that, as of 2019, the tertiary life-settlement market held a total of $80 billion to $90 billion in policy face value, with FCI likely being the largest investor in the market with $20 billion.

Betting on death has proved to be quite lucrative, with LIMco boasting “exceptional returns” of 44% with the main risk being not if but when a settlement will occur. For an investor looking to diversify, it’s a truly uncorrelated asset class. Death is not tied to interest rates, equity valuations, or the real-estate market.

Right now, the life-settlement market is largely untapped: Harbor Life Settlements estimates that each year, $200 billion in life-insurance policies are surrendered or lapsed, making the $4.5 billion of face value purchased on the secondary market last year a small percentage of the available pool. But the market is growing quickly.

Is it “wrong” to invest in life settlements? I guess that depends. On one hand, you get paid only when someone dies, which feels macabre. On the other hand, you’re giving someone who no longer needs their policy a large sum of money to spend while they’re alive. But if companies like Settle, a marketplace for selling one’s life-insurance policy, continue to grow, we may soon live in a real-life “Black Mirror” episode, where anyone can bet on someone’s life.