In this blog, I often talk about the systematic approaches that many insurance companies use to delay or deny disability claims. Lump-sum settlements and buy-outs, while not outright denials, are another tactic that insurance companies use to reduce their benefits payments and write-off high dollar claims or claims with problematic issues. While we’re talking about settlements here, settlements can be defined as an offer and acceptance of a stated amount of money for giving up of all rights possessed by the insured under a policy contract to any future benefits along with the release of the insurance company from any liabilities from future disability claims.
Settlement offers can occur at any point in a claim but are usually brought up either after the company acknowledges liability or after a denial has been appealed, depending on when the offer is advantageous to the insurance company’s bottom line. The amount of the settlement depends on the reserves booked by the insurance company for your claim. Several factors, such as your age, health, discount rate, mortality and morbidity as well as any legal or compromising issues involved in the claim, go into determining the amount of the settlement the insurance company will offer. These same factors will help you determine if the settlement is beneficial to you.
Probably the biggest factor that insurance companies use in a settlement is the calculation of the present value of your future benefits. For those of us not well versed in finance, present value is the current value of the future payments discounted by an interest rate for the passage of time. The interest rate is also referred to as a discount rate, which can be thought of as the expected normal rate of return on investments in today’s economic climate. Here is a sample on-line resource that can be used to calculate present value.
This vocabulary lesson brings up the first issue with this valuation: Discount rates are not a set number – the insurance company chooses what rate to use. Often the rate is above 7%, which is anything but a risk-free, guaranteed rate of return in today’s market. Using such a high discount rate allows them to reduce the future benefits to a much lower present value – and lower than they’re actually worth. For example, the 5-year average return of the S&P 500, a common benchmark in financial circles, is only 1.41%.
The other major factor that plays into the amount of your settlement is the mortality and morbidity rate. Mortality rates can be defined as the rates of death in a population during a certain period of time, while morbidity rates can be defined as the rates of incidence or prevalence of a disease or medical condition. Starting from a mortality rate of 100%, since everyone will die at some point, mortality rates are applied to reduce the estimated future benefits. Contrarily, morbidity rates also start at 100%, if the disease or medical will remain completely disabling forever, and are also applied to reduce the estimated future benefits. Insurance companies employ teams of actuaries who are skilled at using these figures to under-calculate settlements. For example, they can exaggerate the mortality rate (assuming a shorter remaining life expectancy) or understate the morbidity rate (assuming a shorter period of disability) in order to reduce the settlement offer.
Considering all of this financial information, it’s important to realize that settlements will never be 100% of the future benefit payments, unless the insurance company decides to include other non-contractual factors, such as evidence of bad faith in the claim handling or risks and costs associated with litigation. In today’s marketplace, many settlement offers from insurance companies are not great deals for insureds. But, disability insurance claims can be uncertain, and a compromise may be in the best interests of both sides to make a settlement work. If you will only settle for 100% of your future benefits, a settlement is not for you. Interest rates are currently very low, and the discount rate provided by the insurance company will be difficult and risky, at best, to realize.
Many people also don’t consider the Federal and state income taxes that may be owed on a lump sum payment. Payments of most group STD and LTD benefits are considered to represent lost wages, not a medical injury, and payments are taxable. Depending on the premium structure of your individual disability policy, these benefits (and settlement) may be taxable as well. Accepting a large settlement for your claim could greatly increase your tax liability and require significant financial planning to mitigate these expenses.
That being said, a settlement can be the best option for an insured in certain scenarios. Many insureds have other sources of income, such as investment income or alternative sources of earnings, that may make an amount smaller than the full future value of benefits acceptable. Other insureds may be willing to give up a portion of future benefits in order to get away from continuing investigations and video surveillance or from having to submit countless records to the insurance company, month after month. The evaluation of a settlement versus continuing monthly benefits is a very specific process, depending on your own personal situation and circumstances. When considering a settlement, always remember that the insurance company is only making this offer because it is in their best business interest. There is a reason they are making this offer to you, and understanding their motives can help you evaluate the settlement.
Now, you may never hear of a settlement. Some disability companies have the business rule that they will never consider a settlement, at any time or in any amount, and will only process and pay claims on a monthly basis.
For most insureds, accepting a settlement for their disability policy is an emotional decision more than just a business decision. Many people get fed up with the attitudes and practices of claim examiners and no longer want to deal with them. Many individuals are risk-averse and may accept a settlement to reduce their risks. No matter how you think about it, please consider a settlement offer in the context of the information and knowledge to understand how the insurance company came to the amount of their offer. Again, remember that there’s almost never a settlement that pays 100% of all future benefits, so compromise will be needed if you’re contemplating their offer. If you feel like you’re in over your head or don’t fully comprehend the facts and figures behind the offer, always be sure to consult with an experienced professional prior to accepting or declining the settlement.
At Royal Claims Advocates, we’ve helped many clients negotiate positive, best-outcome settlements, helped many others understand why and how they should counter-offer the amount with the insurance company, or helped our clients decide to decline a settlement and continue with their monthly benefits. If you would like to receive a free consultation to review any settlement offers, please do not hesitate to call us at 855.828.4100 or contact us on our website.