- Written By Rachel Christian
Writer & Researcher
Rachel Christian is a Certified Educator in Personal Finance with FinCert, a division of the Institute for Financial Literacy. She is committed to promoting financial literacy and making complex financial topics accessible to readers from all walks of life.Read More
- Reviewed By Roger Wohlner
- Updated: May 8, 2023
- This page features 6 Cited Research Articles
History of Structured Settlements
When someone who has been injured by the negligence of a company or individual receives compensation from a lawsuit, the award can be given as a lump sum or as a structured settlement. With a structured settlement, the injured party receives a steady stream of payments over an extended period of time.
Usually, these payments are administered through an annuity funded by the defendant or the defendant’s insurance carrier. An annuity is an insurance product issues by an insurance company. Structured settlements may also be paid through an “obligation of the United States government,” such as U.S. Treasury bonds or notes and savings bonds.
The federal government encourages structured settlements to help people who have suffered serious injuries and their family members to receive compensation and a reliable form of income to support their needs. In short, structured settlements provide injured people and their dependents financial security over the long term in a way that large, lump-sum payments might not.
For more than 35 years, tax laws have treated structured settlements favorably for two reasons: They’re viewed as a way to keep victims from relying on public assistance and they’re considered compensation for harm, rather than income.
The law that first formalized structured settlements’ favorable federal tax treatment for injury victims was signed by President Ronald Reagan in 1983. Later laws extended this treatment to workers’ compensation cases and physical injuries and sickness caused by civil wrongs.
Structured settlements are regulated by state insurance commissions.
Structured Settlement Purchasing
While structured settlements are mainly beneficial, they do come with at least one downside: The settlement holder is restricted from gaining access to the bulk of the funds. This can be a problem when an emergency arises — for example, an urgent home repair, large medical bills or the possibility of foreclosure on a home.
The laws that encourage structured settlements also bar them from being used as collateral for loans. While some companies claim to offer structured settlement loans, there really is no such thing.
However, the law does allow structured settlement holders to sell all or a portion of their future structured settlement payments.
In 2002, President George W. Bush signed a law that regulated the transfer or sale of future payments. The law carries provisions, including requiring the disclosure of certain information, to protect structured settlement holders.
Structured settlement purchasing companies, also known as factoring companies, serve those selling their structured settlement payments. These companies offer settlement owners lump sums of cash in exchange for the rights to future payments or portions of future payments. These transactions between the settlement annuity holder and a third party are what is referred to as the secondary market for annuities.
How Purchasing Companies Work
Purchasing companies work hand-in-hand with settlement sellers to help them through the process established under the law to transfer payments in exchange for lump sums. Although the process can be intimidating, it’s the job of the company to make it easy and smooth for the seller.
When companies are contacted by people seeking to sell their payments, the companies gather information and calculate an offer for the specified payments. The consumer may want to sell all of his expected payments for the next two years, for example. Or he may want to sell a portion — let’s say a half — of expected payments for the next five years.
The offer will be less than the payments would amount to over time. There are a few reasons for this discounted offer. For one, the company will have legal and administrative costs to cover. Additionally, the company exists to make a profit. It’s usually a good idea for the seller to seek quotes from more than one purchasing company.
The buyer sends the seller a contract spelling out the offer and any requirements and costs. Then, once the contract is signed, the buyer files the required paperwork and arranges for a court hearing. Federal law requires a judge to rule that the proposed transaction is in the best interests of the settlement holder.
The seller will be required to appear before a judge in their county of residence and answer a few questions. Once the judge signs off on the sale, the company sends the lump sum to the client.
How to Pick a Company
You should investigate each company you’re considering. Check its rating with the Better Business Bureau. You should also check to see if the company is a member of the National Association of Settlement Purchasers. This trade organization works to improve awareness and understanding of the market and to ensure transparency and fairness.
Look at the companies’ websites and make sure there is a direct phone number that connects you with someone who can answer your questions as you move along in the process.
Also, make sure the person you are working with has experience with structured settlements, and not just general annuities.
You should be aware of the laws in your state that regulate this market. The National Association of Settlement Purchasers has a summary of all state laws for your information.
Finally, the company should provide a written offer at no cost and take the time to explain the offer. Make sure all the costs and requirements are clear. And do not allow yourself to be pressured to sign something you do not understand.
6 Cited Research Articles
- National Association of Settlement Purchasers. (n.d.). Benefits of the Secondary Market. Retrieved from https://www.nasp-usa.com/benefits_of_the_secondary_mark.php
- National Association of Settlement Purchasers. (n.d.). How to Protect Yourself in the Secondary Market. Retrieved from https://www.nasp-usa.com/protect_yourself.php
- National Association of Settlement Purchasers. (n.d.). Learn About NASP. Retrieved from https://nasp-usa.com/about/overview/
- National Association of Settlement Purchasers. (n.d.). Structured Settlement Transfers: A Guide to How the Industry Works. Retrieved from https://nasp-usa.com/uploads/misc/NASP_PR_IndustryFAQs_0317.pdf
- National Structured Settlements Trade Association. (n.d.). Federal Tax Policy. Retrieved from https://nssta.com/public-policy/federal-tax-policy
- National Structured Settlements Trade Association. (n.d.). What are Structured Settlements? Retrieved from https://nssta.com/structured-settlements