The McKennon Law Group PC periodically publishes articles on its California Insurance Litigation Blog that deal with frequently asked questions in the insurance bad faith, life insurance, long term disability insurance, annuities, accidental death insurance, ERISA and other areas of the law. This article is the second of two articles focusing on lump sum buyouts of a disability insurance claim. The first article discussed the various times the opportunity to enter into a lump sum buyout might be available to an insured, and some factors to consider when contemplating a disability insurance buyout. This article focuses on how to value the claim and the various factors considered when calculating the buyout sum.
As detailed in the first article, an insured receiving long-term disability insurance benefits might desire to negotiate a lump sum buyout with the insurance company, where the company makes a one-time, lump sum “buyout” of claim and policy. However, the most important question for an insured to consider is “what is my disability insurance policy worth?” This is a complicated question that can only be answered by assessing a variety of different factors.
First, the most important factor is the net present value (“NPV”) of the policy, which is calculated using monthly benefits payable under the policy and the benefit period. For example, if an insured is receiving $5,000 per month, and has ten years left on the policy, it may appear as if the policy is worth $600,000 ($5,000 times 12 months times 10 years). However, the policy is not worth $600,000, but rather the NPV of $600,000, that is, how much money today is needed to have $600,000 in ten years.
Determining the NPV of a claim can be complicated, and insurance companies have actuaries on staff whose job it is to calculate the value of policies. One of the most important factors in assessing the NPV is the discount rate to apply. The higher the discount rate, the lower the NPV and vice versa. Thus, an insurer will always attempt to use an unreasonably high discount rate to lower the NPV. Insureds will want to use a low discount rate. However, using a discount rate is further greatly complicated by assessing whether the policy has a cost of living adjustment provision that allows the benefits payable under the policy to increase by the rate of inflation. Accordingly, an insured is best served by consulting an attorney who is experienced in calculating the value of a disability insurance policy and negotiating lump sum buyouts with insurance companies. Indeed, because insurers are susceptible to allegations of heavy handed tactics in undervaluing a disability insurance policy, most insurers will require that you consult an attorney before engaging in such negotiations.
Other factors that determine how much the insurance company is willing to pay in a lump sum buyout include, but are not limited to, the insured’s mortality/life expectancy and whether there is any chance the insured will be able to return to work. Typically, insurers will only consider a lump sum buyout if they believe the insured is permanently disabled.
The application and interpretation of these factors can be critically important in determining the value of a disability insurance policy, and, not surprisingly, the insurance company is going to make every argument possible to reduce the value of the policy. This is why it is important that insureds who are negotiating a lump sum buyout of a disability insurance policy hire attorneys, such as the McKennon Law Group, who have significant experience negotiating lump sum buyouts. That experience will help to ensure that the insured receives the largest amount possible.
For example, a client of the McKennon Law Group had a disability insurance policy that paid her benefits for her life, not just age 65 (like most policies). During negotiations of the lump sum settlement, the insurance company argued that, given the insured’s medical condition, she was unlikely to live beyond her late 60s or early 70s. Given this determination, along with an unreasonably high discount rate, the insurance company placed a very low present value on the disability insurance policy. However, the McKennon Law Group was able to convince the insurance company that its position regarding the insured’s life expectancy was seriously flawed, by presenting evidence that the insured’s parents were still alive and were about 90, and by obtaining letters from the insured’s doctors that her conditions were not expected to decease her otherwise long life expectancy.
In summary, an insured should not expect that the disability insurance company will offer a lump sum equal of the full value of the disability insurance claim. Indeed, typically lump sum buyouts fall between 65% and 85% of the value of the policy. However, by hiring experienced counsel, the insured can greatly increase his or her opportunity to collect a lump sum buyout at the maximum payout possible.