Structured settlements are a financial arrangement designed to compensate individuals through periodic payments rather than a single lump sum. Typically awarded in personal injury lawsuits, wrongful death claims, or worker’s compensation cases, structured settlements offer long-term financial security. In this comprehensive guide, we will dive deep into what structured settlements are, how they work, their advantages and drawbacks, and how you can make the most out of them.
What is a Structured Settlement?
A structured settlement is a negotiated financial arrangement in which a claimant receives part or all of a legal settlement in periodic payments instead of a lump-sum payout. These payments are often arranged through an annuity purchased from a life insurance company.
Structured settlements are typically used in cases involving:
- Personal injury or medical malpractice
- Wrongful death claims
- Workers’ compensation
- Product liability cases
- Lottery or prize winnings
The idea is to provide stable income over time to support the injured party or their family.
How Do Structured Settlements Work?
Here’s a step-by-step breakdown of how structured settlements are set up:
- Agreement Reached: The plaintiff and defendant (or their insurers) agree to settle the case.
- Payment Schedule Created: A structured settlement broker outlines how the compensation will be paid—monthly, annually, or in lump sums at intervals.
- Annuity Purchase: The defendant’s insurance company funds the settlement by purchasing an annuity from a life insurance company.
- Ongoing Payments: The claimant receives tax-free periodic payments based on the agreed schedule.
Benefits of Structured Settlements
Structured settlements offer several compelling advantages:
1. Tax-Free Income
Under the U.S. Internal Revenue Code, payments from structured settlements in personal injury cases are typically tax-free.
2. Financial Security
Regular payments ensure the recipient doesn’t run out of money too quickly and can support long-term financial needs.
3. Customization
Payment schedules can be tailored to the recipient’s current and future needs—covering things like medical bills, education, or retirement.
4. Reduced Risk of Mismanagement
Because funds are distributed over time, there’s less risk of the recipient spending all the money too quickly.
Drawbacks of Structured Settlements
While structured settlements offer benefits, there are also some limitations:
1. Lack of Flexibility
Once a payment schedule is set, it’s difficult to modify. This can be problematic if the recipient’s needs change.
2. Inflation Risk
Unless the settlement includes a cost-of-living adjustment, inflation can reduce the value of the payments over time.
3. Limited Access to Funds
Recipients may not access their full settlement when needed, which can be a disadvantage in emergencies.
4. Selling Can Be Costly
If a recipient wants to sell their structured settlement for a lump sum, they may receive less than the total value due to fees and discounting.
Selling a Structured Settlement: What You Should Know
Sometimes, life circumstances demand immediate access to cash. In such cases, recipients might consider selling their structured settlements. Here’s what you need to know:
1. Why Sell?
- Emergency medical expenses
- Debt consolidation
- Buying a home
- Investing in education or business
2. How It Works
- Contact a structured settlement buyer (factoring company).
- Get a quote based on the present value of your future payments.
- Court approval is typically required to ensure the sale is in your best interest.
3. What to Watch For
- Compare multiple offers.
- Review all fees and discount rates.
- Consult a financial advisor or attorney before signing any agreement.
Tax Implications of Structured Settlements
One of the biggest advantages is that payments received through structured settlements in personal injury cases are generally exempt from federal and state taxes. However:
- If you sell your settlement, the lump sum you receive may be taxable.
- Non-injury-related structured settlements may not be tax-exempt.
Always consult with a tax professional to fully understand your situation.
Real-Life Example
Case Study: John, a 35-year-old construction worker, suffered a spinal injury at work. Instead of receiving $800,000 upfront, he agreed to a structured settlement of $40,000 annually for 20 years. This arrangement ensured he had regular income for ongoing medical care and daily living expenses without risking early depletion of funds.
Later, John faced unexpected home renovation costs for accessibility. He sold part of his settlement and used the funds to make his home wheelchair-accessible while still retaining a portion of his structured payments.
Choosing the Right Settlement Option
When deciding between a lump sum and a structured settlement, consider:
- Your financial discipline
- Your current vs. future financial needs
- Medical expenses and dependents
- Inflation and investment opportunities
Talk to a certified financial planner or legal advisor to make the best decision.
FAQs About Structured Settlements
Q: Can I change my payment schedule?
A: Generally, once a structured settlement is established, the payment schedule is fixed.
Q: Are structured settlements safe?
A: Yes. Payments are backed by highly rated insurance companies and are designed to be low-risk.
Q: How long does it take to sell a structured settlement?
A: The process can take 30 to 90 days, depending on court approval and paperwork.
Q: Will I lose money by selling it?
A: You will likely receive less than the total value of your payments due to fees and discount rates.
Conclusion
Structured settlements are a reliable way to receive long-term, tax-free income, especially for those recovering from serious injury or loss. While they may lack flexibility, they provide stability and financial security. Understanding your options—and the implications of selling your settlement—is essential.
Whether you’re receiving a structured settlement or considering selling one, working with financial and legal professionals will ensure you make decisions that best support your long-term well-being.