What is 'Death Bond'

A death bond is a security backed by life insurance which is derived by pooling together some transferable life insurance policies. Similar to mortgage-backed securities, the life insurance policies are combined, repackaged into bonds, and sold to investors.

life settlement company will purchase existing policies and sell them to a financial institution, who will repackage them into the investment product.

BREAKING DOWN 'Death Bond'

Death bonds provide investors with an unusual instrument that is less affected by standard financial risks. One risk of holding a death bond lies with the underlying insured person. If the person lives longer than expected, the bond's yield will begin declining. However, because the creation of death bonds from an underlying pool of assets, the risk associated with one policy is spread out. Diffused risk makes the instruments more stable.

In general, a life insurance policyholder transfers their policy to a life settlement company. In exchange, the settlement company will pay more than the cash surrender value of the insurance policy. The cash surrender value is always less than the face value, or death benefit. The life settlement company resells the policy to an investment bank. The bank then pools and repackages the life insurance into bonds to be sold to investors.

Pros of Death Bonds

  • Death bonds can provide diversification for investors with holdings in commodities, housing, and other financial markets. 
  • They have a high yield that is not impacted by market forces. Indeed, if the seller of the life insurance policy dies earlier, the buyer will benefit.
  • Death bonds offer tax-free income because life insurance policies carry neither capital gains taxes nor regular taxes because they are typically used to pay the funeral expenses of the deceased. 

Cons of Death Bonds

  • The returns on death bonds are modest. They are generally higher than U.S. Treasuries, but less than equity investments. 
  • Some have expressed concerns about death bonds and the securitization of life insurance policies, drawing comparisons to the collateralized debt obligations (CDOs) that contributed to the subprime meltdown and the collapse of the housing market in 2008-09. 
  • Since there are no regulations or requirements for the industry, virtually anyone can hang a sign on their door and become involved in the life-settlement business. This lack of oversight makes it very difficult for investors to get enough information about how risk appropriate death bonds will be for their portfolio.

History of Death Bonds

Death bonds can trace their origins to viatical settlements in the 1980s. During this time, AIDS and other terminally ill patients needed money to pay for their expensive medicines, so they began selling their life insurance policies and were paid an up-front amount. Their policy payments were taken over by the purchasers, who would receive the policy paid in full when the patients died.

RELATED TERMS
  1. Death Benefit

    A death benefit is the amount on a life insurance policy or pension ...
  2. Guaranteed Issue Life Insurance ...

    Guaranteed issue life insurance is a life-insurance policy that ...
  3. Death Put

    A death put is an option on a bond giving the holder's estate ...
  4. Unbundled Life Insurance Policy

    An unbundled life insurance policy is a type of financial protection ...
  5. Cash Value Life Insurance

    Cash value life insurance is permanent life insurance with a ...
  6. Accidental Death Benefit

    The accidental death benefit is payment due to the beneficiary ...
Related Articles
  1. Insurance

    Tips for Helping Clients with Life Insurance Needs

    Life insurance needs will likely change over the client’s lifetime and again financial advisers can provide an objective sounding board.
  2. Managing Wealth

    Why Life Settlements Offer a Way Out

    Life settlements offer an additional option for life insurance policy owners deciding what to do with a policy they no longer want or need. Find out why.
  3. Managing Wealth

    Why the Wealthy Should Buy Lots of Life Insurance

    Properly structured life insurance can help in managing, preserving and growing wealth.
  4. Retirement

    How Survivorship Life Insurance Works

    Should you buy a survivorship life insurance policy?
  5. Retirement

    Why Own Life Insurance in a Qualified Retirement Plan?

    What are the pros and cons of owning cash value life insurance in a qualified retirement plan?
  6. Insurance

    What's Better: Whole Life or Term Insurance?

    Life insurance can be a difficult decision to make, especially for a young adult. Here's a look at the benefits and costs of getting whole life insurance.
  7. Insurance

    Which Life Insurance Option Is Best for You?

    If you're considering life insurance, you'll need to figure out which policy is best for you.
  8. Insurance

    Term Life Insurance: Everything You Need to Know

    Term life insurance is an affordable way to financially protect your loved ones after your death. Here's what you need to know before purchasing a policy.
Trading Center