Structured Settlements 2020

Structured Settlements 101

What are Structured Settlements?

Structured settlements, also sometimes referred to as annuities, are periodic payments that one entity makes to an individual in order to cover damages they’ve suffered. This kind of transaction really gained traction in the 1970s, when it began to be used as a legal remedy for personal injury and wrongful death lawsuits. After 1982, the practice of opting into these kinds of settlements increased when Congress granted tax exempt status to all structured settlements.

Lawsuits that have been “settled,” for example, usually result in the wronged party getting a fixed amount of money in the form of structured settlements or lump sum payments. With a structured settlement, the money an individual is awarded is stretched out over a fixed time period. Many times, these payments can be scheduled to be distributed across the person’s entire lifetime.  Moreover, structured settlements yield interest over time in order to account for inflation, meaning you’ll actually earn more money as more time passes. In turn, an individual who opts for lump-sum payments receives all the awarded money at once. In the United States, there are some specific kinds of cases that allow you to choose between receiving an annuity versus a lump sum payment. Personal injury cases, such as pharmaceutical injury and product liability cases, are an example of this.

Structured settlement agreements can be some of the most flexible plans prior to the striking of the deal, adjustable to your specific financial needs because of the various existing payout options. For example, how and even when you decide to receive your payments can be formulated around your specific needs. You could receive lower amounts at the beginning of your payments or have them increase over time. You can even defer your payments for a number of years in order for them to accrue interest and then receive a higher overall payment.

These are just some of the many reasons why sticking with your structured settlement may be the best option, albeit not always the most convenient. People who receive guaranteed annuities for life, for example, can always rely on a steady monthly influx of money to cover their medical bills and other expenses. In many cases, this money will also be guaranteed for life, so the individual can always rely on this fixed amount if they lack other sources of income. This structured option also prevents someone from pursuing unnecessary or reckless spending of their settlement money, as may be the case if a person receives large amounts of money at once.

However, after you opt into a specific structured settlement plan it’s extremely difficult to change the terms, and you’re pretty much locked into your settlement terms. Asking for advances before a scheduled payment can result in costly surrender charges and IRS penalties. At some point, the scheduled payments may not be enough to cover all costs, or an unexpected event—such as a worsening medical condition or mounting debt—may require that you cash out a large sum of money at once. In these cases, selling part or even all of your structured settlement may be a tempting option. 

Who Sells Structured Settlements and Why?

When you sell your structured settlement, you’re essentially transforming your settlement money into a lump sum, either wholly, or partially. This is good if you find yourself cash-strapped during a costly emergency, or if you have legal and medical debts you want to take care of.

Common reasons for selling your structured settlement:

1.     You want to pay off student loans

2.     You need to pay off credit card debts

3.     You need to pay off medical and/or legal bills

4.     You want to buy a house or a car

5.     You want to invest your money (for example, want to start a business)

Although this large cash injection may seem attractive at first glance, selling your settlement money has quite its share of drawbacks. For example, it’s easier to misuse, and even blow through your money, if you have access to it all at once. At the same time, you’re giving up the safety net  of a steady payment, which is especially meaningful if you have no other source of income. 

Most importantly, selling your annuity means getting less money in the long run, since structured settlements usually yield more than a lump sum payout because of the interest the annuity may earn over time. In the past, some companies have been known to buy settlements for pennies on the dollar, so you need to make sure that the offer they’re making you is the maximum lump-sum you’re able to receive.   

It’s important to note that the type of annuity you currently have will also influence whether you’ll have to pay taxes on your lump sum once you sell it. In cases of personal injury and wrongful death lawsuits, the settlement money will always be tax exempt (this tax exemption also applies to interest and dividends earned by funds in structured settlement accounts).  Any subsequent sale of these structured settlements will also be tax exempt, as long as the sale complies with the law. Similarly, worker compensation claims that involve physical injuries or illnesses are also tax exempt and selling them will also result in tax exemption. However, if you received a structured settlement because of any other kind of lawsuit, the settlement and its future sale could be taxable. 

A brief look at Factoring Companies 

Companies that specialize in buying out structured settlements are called factoring companies. These types of companies often buy different kinds of annuities, not just structured settlements. Although the Structured Settlement Protection Act of 2002 went into effect precisely to protect the rights of individuals who choose to sell their settlements, the industry is still plagued with problems.  Some of the biggest factoring companies have been involved in lawsuits regarding predatory practices. For instance, in 2015 the Washington Post released a series of articles exposing the controversial practices of some of these companies. One of the most shocking tales was that of Terrence Taylor, a man with a $31.5 million structured payout, who in 2014 sold everything owed to him up to the year 2044  and became “broke and homeless.”  

However, the 2002 Structured Settlement Protection Act standardized the largely unregulated practices of these companies, so that now there are some basic requirements all individuals and companies have to abide by if they want to complete this type of transaction. Although each state except for New Hampshire has specific guidelines on how these kinds of transactions can transpire (called State Structured Settlement Protection Acts or “SSPAs”), there are some standard requirements established by the 2002 Structured Settlement Protection Act: First, the transaction has to be approved by a judge, who will decide whether the transaction is fair and in the best interest of the person who wishes to sell the settlement. Second, a 40% tax is imposed on settlement purchases that don’t follow state law.

However, States have different laws for how these types of transactions should occur, so it’s important to get a legal expert who is knowledgeable about the specific laws of your state. 

So, how does the process work?

Although the details of how to carry out sales of structured settlements vary from state by state, selling structured settlements is a pretty straightforward process.

You will first need to get a quote from the factoring company where they’ll tell you what you can expect to receive depending on how much of your settlement you choose to sell.

The company will then provide you with a “discount rate” which is a percentage that determines the present value of your settlement. These rates can be as low as 7% or as high as 29% and they represent the amount that will be discounted from your settlement. If a company offers you a 15% discount rate, and your settlement is worth $200,000, then the amount you’ll receive in your lump sum payment will be $170,000.

However, your lump sum could likely be less than that due to administrative fees and other costs related to the transaction. For this reason, you should always ask for the “effective” rate which takes all these extra costs into account.

After you’ve come to an agreement with the company, you’ll need to appear before a court in order to get the transaction approved by a judge. This is a required step in every state and it obligates the judge to approve or deny the transaction using  the “best interest” standard. This means the judge will ask you certain questions to ensure you know what you’re getting into, as well as to confirm that the transaction benefits you and any family members or dependents who may be affected by the deal. Once the judge approves the transaction it’ll take approximately 45-90 days to sell your structured settlement. Some companies do offer cash-advance payments, so you should inquire about this if you’re in need of cash immediately. 

The Dark Side of Factoring Companies

It’s important to be aware of the controversies surrounding the structured settlement purchasing industry. Although the industry is much more regulated than it was before the Structured Settlement Act of 2002, there are still issues that continue to be a source of controversy.

One of the most prevalent problems surrounding factoring companies is the predatory practices associated with them. Reports of constant telephoning and pressuring people into selling their structured settlement are fairly common across the board. These claims portray a clear picture of companies taking advantage of people’s vulnerabilities. Some of these companies have also been accused of violating the Telephone Consumer Protection Act, which limits the use of pre-recorded voice messages, automatic dialing, and SMS for telemarketing purposes.

Rhonda Bentzen, president of the purchasing firm Bentzen Financial told us by email that phone harassment is common and persistent. 

It’s also been reported that some companies actively search for recipients of structured settlements. In part, this also happens because if you do business with one factoring company, nothing prevents you from doing business with another in the future, so companies will try to gain information on who these customers are to try to poach them. Bentzen claims that a practice called “court record scraping” could be to blame for many of the ethics problems that plague the industry.  “Legal database companies allow these factoring firms to scour their databases for potential annuitants even though this activity is generally in violation of their terms of service,” she says.  In 2015, the House Committee on Oversight and Reform led an investigation on companies that locate and directly contact structured settlement recipients. These investigations ultimately led House democratic leaders to require then Internal Revenue Service commissioner John Koskinen to provide additional information into how the IRS monitors structured settlement transactions. In 2019, a bill that would allow claimants in civil court to retain a structured settlement broker that would negotiate their payments was introduced in the House, but ultimately did not materialize.

Finally, as was illustrated in a 2015 Washington Post article, some companies will try to persuade potential buyers into completing transactions outside of their counties of residence in order to take advantage of less stringent laws. Bentzen was clear that you should always pay attention to this fact, “don’t ever let a firm talk you into doing the transaction outside your county of domicile. We call this forum shopping and the aim is to find a venue with less oversight.” 

Things to Consider Before Selling your Structured Settlement

By far, the most important thing to do before making a decision on whether to sell part or all of your settlement is consulting with a lawyer and financial planner—that don’t work for the factoring company—to see what your alternatives are. This is essential to ensure you don’t get tricked or pressured into making a deal that ultimately is not the most beneficial for you. Some states require that you get legal consultation before going through with a deal, but even if that’s not the case, you should aim for independent consultation.

Additionally, you should always try and shop around to see what company provides the lowest discount rate, and lowest fees. Just because a company claims they’ll give you the maximum payout sum, doesn't necessarily mean they’re being truthful.

Here's a brief checklist of points you should consider before deciding to sell:

Possible Tax Consequences

Remember that some annuities and structured settlements could become taxable after you sell them. A very large lump sum could bump you up into a higher tax bracket,  and you will be taxed accordingly.

State Laws

Besure to review what the State Structured Settlement Protection Acts in your state are. You should always get legal advice before making any official decisions, but check  your state’s laws so you know what protections apply to you as a seller.

Company Reputation

You should perform your own research into the company you’re thinking about doing business with. According to the Federal Trade Commission (FTC), your local consumer protection agency or your state Attorney General’s Office can tell you if any complaints have been filed about the company.