A structured settlement is a negotiated financial or insurance arrangement whereby a claimant agrees to resolve a personal injury tort claim by receiving some part of the settlement in the form of periodic payments on an agreed schedule, rather than as a lump sum. As part of the negotiations, a structured settlement can be offered by the defendant or demanded by the plaintiff. Ultimately both parties must agree on the terms of settlement. Structured settlements were first utilized in Canada after a settlement for children affected by Thalidomide. Structured settlements are widely used in product liability or injury cases (such as the birth defects from Thalidomide). A structured settlement can be implemented to reduce legal and other costs by avoiding trial. Structured settlement cases became more popular in the United States during the 1970s as an alternative to lump sum settlements. The increased popularity was due to several rulings by the U.S. Internal Revenue Service (IRS), an increase in personal injury awards, and higher interest rates. The IRS rulings stated that if certain requirements were met, claimants would owe no Federal income tax on the amounts received. Higher interest rates result in lower present values, hence lower cost of funding of future periodic payments. Structured settlements have become part of the statutory tort law of several common law countries including Australia, Canada, England and the United States. Structured settlements may include income tax and spendthrift requirements as well. Often the periodic payment will be funded through the purchase of one or more annuities, which generate the future payments. Structured settlement payments are sometimes called periodical payments and when incorporated into a trial judgment in New York, is called a "structured judgment"
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In the United States
In the United States, structured settlement laws and regulations have been enacted at both the federal and state levels. Federal structured settlement laws include various provisions of the Internal Revenue Code. State structured settlement laws include structured settlement protection statutes and periodic payment of judgment statutes. Forty-seven of the states have structured settlement protection acts created using a model promulgated by the National Conference of Insurance Legislators ("NCOIL"). Of the 47 states, 37 are based in whole or in part on the NCOIL model act. Medicaid and Medicare laws and regulations affect structured settlements. A structured settlement may be used in conjunction with settlement planning tools that help preserve a claimant's Medicare benefits. A Structured Medicare Set Aside Arrangement (MSA) will generally cost less than a non-structured MSA because of amortization of the future cash flow over the claimant's life expectancy, as opposed to funding all the payments otherwise due in the future in a single, non-discounted sum today.
Structured settlements have been endorsed by many of the nation's largest disability rights organizations, including the American Association of People with Disabilities and the National Organization on Disability. and there is a Congressional Structured Settlement Caucus.
Definitions
In 1982, Congress adopted special tax rules to encourage the use of structured settlements to provide long-term financial security to seriously injured victims and their families. These structured settlement rules, as codified in the enactment of the Periodic Payment Settlement Act of 1982, which established Section 130 of the Internal Revenue Code of 1986 (IRC) and in amendments to section 104(a)(2) of the Code, have been in place working effectively since then. In the Taxpayer Relief Act of 1997, Congress extended the structured settlements to worker's compensation to cover physical injuries suffered in the workplace. A "structured settlement" under the tax code's terms is an "arrangement" that meets the following requirements.
Damages on the account of personal physical injury, physical sickness and workers compensation are income tax free due to exclusions provided in IRC section 104. The structured settlement tax rules enacted by Congress lay down a bright line path for a structured settlement. Once the plaintiff and defense have settled the tort claim in exchange for periodic payments to be made by the defendant (or the defendant's insurer), the full amount of the periodic payments constitutes tax-free damages to the victim. The defendant, or its insurer, may assign its periodic payment obligation to a qualified assignment company (typically a single purpose affiliate of a life insurer) that funds its assumed obligation with an annuity purchased from its affiliated life insurer. The rules also permit the assignee to fund its periodic payment obligation under the structured settlement via U.S. Treasury obligations. However, this U.S. Treasury obligation approach is used much less frequently because of lower returns and the relative inflexibility of payment schedules available under Treasury obligations. In this way, with a qualified assignment, there is a legal novation, the defendant or insurer can close its books on the liability, and the claimant can receive the long-term financial security of an annuity (or annuities) issued by one or more financially strong life insurance companies.
What makes this work is the tax exclusion to the qualified assignment company afforded by IRC section 130. Without the tax exclusion, the cost of assignment would be higher, because the assignment company would need to recognize the premium as income. The resulting net after tax amount would be insufficient to fund the assumed obligation.
To qualify for special tax treatment, a structured settlement must meet the following requirements:
Legal structure
The typical structured settlement arises and is structured as follows: An injured party (the claimant) comes to a negotiated settlement of a tort suit with the defendant (or its insurance carrier) pursuant to a settlement agreement that provides as consideration, in exchange for the claimant's securing the dismissal of the lawsuit, an agreement by the defendant (or, more commonly, its insurer) to make a series of periodic payments. The defendant, or the property/casualty insurance company, generally assigns its periodic payment obligation to a third party by way of a qualified assignment ("assigned case"). The qualified assignment company receives money from the defendant or property/casualty insurer, and in turn purchases a "qualified funding asset" to finance the assigned periodic payment obligation. Pursuant to IRC 130(d) a "qualified funding asset" may be an annuity or an obligation of the United States government.
In the less common unassigned case, the defendant or property/casualty insurer retains the periodic payment obligation and funds it by purchasing an annuity from a life insurance company, thereby offsetting its obligation with a matching asset. The payment stream purchased under the annuity matches exactly, in timing and amounts, the periodic payments agreed to in the settlement agreement. The defendant or property/casualty company owns the annuity and names the claimant as the payee under the annuity, thereby directing the annuity issuer to send payments directly to the claimant. One of the reasons an unassigned case is less popular is that the obligation is not truly off the books, and the defendant or casualty insurer retains a contingent liability. While a default is a rare occurrence, contingent liability did come into play with the liquidation of Executive Life Insurance Company of New York. Some annuitants suffered shortfalls, and a number of obligors at the wrong end of unassigned cases made up the difference.
If any of the periodic payments are life-contingent (i.e. the obligation to make a payment is contingent on someone continuing to be alive), then the claimant (or whoever is determined to be the measuring life) is named as the annuitant or measuring life under the annuity. In some instances the purchasing company may purchase a life insurance policy as a hedge in case of death in a settlement transfer.
In an assigned case, the defendant or property/casualty company does not wish to retain the long-term periodic payment obligation on its books. Accordingly, the defendant or property/casualty insurer transfers the obligation, through a legal device called a qualified assignment, to a third party. The third party, called an assignment company, will require the defendant or property/casualty company to pay it an amount sufficient to enable it to buy an annuity that will fund its newly accepted periodic payment obligation. If the claimant consents to the transfer of the periodic payment obligation (either in the settlement agreement or, failing that, in a special form of qualified assignment known as a qualified assignment and release), the defendant and/or its property/casualty company has no further liability to make the periodic payments. This method of substituting the obligor is desirable for defendants or property/casualty companies that do not want to retain the periodic payment obligation on their books. A qualified assignment is also advantageous for the claimant as it will not have to rely on the continued credit of the defendant or property/casualty company as a general creditor. Typically, an assignment company is an affiliate of the life insurance company from which the annuity is purchased.
An assignment is said to be "qualified" if it satisfies the criteria set forth in Internal Revenue Code Section 130. Qualification of the assignment is important to assignment companies because without it the amount they receive to induce them to accept periodic payment obligations would be considered income for federal income tax purposes. If an assignment qualifies under Section 130, however, the amount received is excluded from the income of the assignment company. This provision of the tax code was enacted to encourage assigned cases; without it, assignment companies would owe federal income taxes but would typically have no source from which to make the payments.
Sales of Structured Settlement Payments After Structured Settlement Has Been Established
A claimant who has agreed to a negotiated structured settlement elects to receive part of their settlement money at the time of settlement, and part of their settlement money in the future through a negotiated, customized schedule of periodic payments that are "fixed and determinable as to amount and time of payment." The life insurance companies who underwrite these periodic payment obligations and the associated qualified assignment companies, must comply with the Internal Revenue Code 130, which, in part, does not allow for acceleration or modification of payments. Various purchasers of structured settlement payment rights, known as structured settlement factoring companies, offer to buy part or all of one's structured settlement payment rights (or other fixed annuity payments) in return for a lump sum cash. The act of the sale and purchase of structured settlement payment rights is known as a structured settlement factoring transaction. Basically, such companies help to facilitate the transfer the transfer of structured settlement payment rights. For example, a structured settlement payment stream of 20 years could be transferred in exchange for one (lesser-valued) payment now. Most people do not sell their structured settlement payments because they serve their needs. Those that do sell may have encountered changing circumstances and cannot obtain financing elsewhere. Such financing can be used to pay off or pay down debt, help pay for a house, help pay for a child's college tuition. Any sale of structured settlement payment rights will require the approval of a judge to comply with the local state structured settlement protection act and IRC 5891. Enforcement of structured settlement Approval is not a given. In 2012, a Tennessee Chancery Court issued an order denying a payee's transfer of workers' compensation settlement payments under a structured settlement agreement. Judge William E. Lantrip held that (i) workers' compensation payments are not within the definition of "structured settlement " under the Tennessee Structured Settlement Protection Act, Tenn. Code. Ann. §47-18-2601
Enforcement of the state system of structured settlement protection acts has come under heavy scrutiny after a highly publicized story of alleged abuse of a cluster of annuitants who received structured settlements as part of lead paint settlements in Baltimore City appeared in the Washington Post on August 25, 2015, leading to rapidly passed reform of the Maryland Structured Settlement Protection Act and lawsuits brought against the Chevy Chase MD company that originated the deals and a number of its executives by the Maryland Attorney General, The Consumer Financial Protection Bureau and a plaintiff's class action.
In popular culture
In April 2009, financial writer and TV personality Suze Orman wrote that structured settlements "provide ongoing income and reduce the risk of blowing a lump sum through poor financial choices." She added that financial security can be improved "if you use the structured payouts wisely."
J.G. Wentworth, a structured settlement factoring company based in Radnor PA, is the largest buyer of structured settlement payment rights in the US. The company is best known for the "Opera" and "Opera on a Bus" commercials that first appeared in early 2010 on most cable channels in the continental United States. J.G. Wentworth's commercials are often considered to be over the top and many parodies have been born from it ever since. One parody associates the repeated sale of structured settlement payment rights with drug addiction. The company's CEO appeared on Fox News to discuss the effectiveness of the campaign.
Despite its wide name recognition and funny commercials, The company previously underwent Chapter 11 bankruptcy in 2009. J.G Wentworth successfully exited bankruptcy later that year and is now trading on the OTCQX marketplace after being delisted from the New York Stock Exchange.
Use of term "Structured Settlement'
The term "Structured settlement" and related terms have some of the highest values for sponsored advertisements of the internet, often bringing in hundreds of dollars per click. This phenomenon has led to search engine optimization by web developers who use the key word "structured settlement" where inapplicable, fomenting initial interest confusion. The term "structured settlement" has been misapplied to lotteries, structured finance, structured dismissals in bankruptcies. The definition of structured settlement in the Internal Revenue Code of the United States is found at IRC section 5891(c)(1).