
CHAPTER 6 B-69
10. In general, viatical settlements are ethical. In the case of a viatical settlement, it is simply an exchange of
cash today for payment in the future, although the payment depends on the death of the seller. The
purchaser of the life insurance policy is bearing the risk that the insured individual will live longer than
expected. Although viatical settlements are ethical, they may not be the best choice for an individual. In a
Business Week article (October 31, 2005), options were examined for a 72 year old male with a life
expectancy of 8 years and a $1 million dollar life insurance policy with an annual premium of $37,000. The
four options were: 1) Cash the policy today for $100,000. 2) Sell the policy in a viatical settlement for
$275,000. 3) Reduce the death benefit to $375,000, which would keep the policy in force for 12 years
without premium payments. 4) Stop paying premiums and don’t reduce the death benefit. This will run the
cash value of the policy to zero in 5 years, but the viatical settlement would be worth $475,000 at that time.
If he died within 5 years, the beneficiaries would receive $1 million. Ultimately, the decision rests on the
individual on what they perceive as best for themselves. The values that will affect the value of the viatical
settlement are the discount rate, the face value of the policy, and the health of the individual selling the
policy.
Solutions to Questions and Problems
NOTE: All end of chapter problems were solved using a spreadsheet. Many problems require multiple steps.
Due to space and readability constraints, when these intermediate steps are included in this solutions manual,
rounding may appear to have occurred. However, the final answer for each problem is found without rounding
during any step in the problem.
Basic
1. To solve this problem, we must find the PV of each cash flow and add them. To find the PV of a lump sum,
we use:
PV = FV / (1 + r)t
2. To find the PVA, we use the equation:
PVA = C({1 – [1/(1 + r)]t } / r )
At a 5 percent interest rate: