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Selling a Structured Settlement: It Could Cost You More Than You Know

By Kenneth I. Kolpan, Esq.
Law Office of Kenneth I. Kolpan, P.C.

Many years ago, injured people who obtained settlements would receive one lump cash payment. Sometimes, the money would be spent and not available for future needs. In the 1980's, another settlement arrangement was created where injured persons could receive periodic payments over a set time period or lifetime. The recurring future payment is known as a structured settlement.

Though both lump cash and structured settlement payments are nontaxable, structured settlements became popular for a couple of reasons. The payments were "guaranteed", the person receiving the future payments could not spend the entire settlement proceeds, did not have to worry about managing, investing or overseeing large amounts of cash and paid no taxes on the proceeds.

However, there are drawbacks. Though the funds are seemingly protected, the guarantee is only as strong as the financial backers (e.g., First Executive Life, which sold annuities for structured settlements went bankrupt). A structured settlement is inflexible. The recipient of the structured settlement cannot own the annuity policy that makes the regular payments, assign the payments to another person, change the payment schedule or accelerate the money. If a person who receives structured settlements is in immediate need of cash, they cannot ask that the payments be increased or that the annuity policy be cashed in. Realizing that some injured persons were in dire need of cash, companies advertised they would purchase structured settlements for immediate cash. The companies do not explain that the cash payment is at a substantial discount. Let me explain.

When a person first accepts a structured settlement, she is giving up an immediate cash payment in exchange for regular future payments. The future payments look like a better deal because the total amount of payments (the payout) is larger than a present lump cash payment. But future money is worth less and less (because of inflation). The crucial number is the present value of the structured settlement. This is the amount of current money needed to obtain the future stream of payments considering inflation and other factors. For example, one hundred thousand dollars per year received over twenty years is a two million dollar payout but the present value of the twenty year payment is substantially less than two million dollars because of inflation.

Agreeing to a structured settlement eliminates control and flexibility. If a sudden financial need arises, the person cannot obtain an increased payment or sell the structure. Persons in these situations are at the mercy of companies (factoring companies) who use cash to buy the structured settlements.

For the immediate cash, the injured person allows the factoring company to receive all the future payments. The transaction appears simple but is fraught with hidden costs and problems. The factoring company acquires the structured settlement at a price substantially below the present value, perhaps charging excessive rates and failing to disclose the rates and terms of the transaction.

Once the structure is purchased, the injured person gives a change of address to the company making the periodic a payments and a power of attorney to the factoring company to accept the payments. A person who sells his structured settlement may be risking a lot:

1. Is the single cash payment to the injured person nontaxable? If the payment from the factoring company to the injured person is taxable income, it becomes a very costly transaction.

2. What happens if the insurance company stops paying the factoring company the future payments, who is responsible?

3. Did the injured party receive a fair and adequate cash value in giving up their future payments?

4. Did the person receive full disclosure of the terms of the contract purchasing their structured payment?

Persons with traumatic brain injury who are receiving structured settlement payments may be easy prey for these factoring companies. A person with brain injury does have the right to settle her case, to accept lump sum or a structured settlement payment. If they accept a structure, a person with a brain injury has a right to later sell the structure for immediate cash. However, BEFORE AGREEING to sell a structured settlement, a person with a brain injury should fully be aware of the consequences of the decision. The person should know the terms of the purchase, the legal and financial impact. It is strongly recommended that BEFORE selling a structured settlement, you obtain legal representation and financial counsel. Otherwise, it could cost you more than you know.

Reprinted with Permission from MBIA