Structured Settlements: What Are They?

Structured Settlements are used to pay out a large sum of money over time. Much the same way that you pay your credit card bill every month, a creditor uses a structured settlement to pay out what they owe to a person on a regular schedule. Most structured settlements are purchased annuities, paying out over time on an annual basis.

The most spectacular form of structured settlements are lottery payments. Rather than deal with the financial hit of handing out a single check for tens to hundreds of millions of dollars, state governments with lottery programs buy an annuity that's guaranteed to pay out the entire promised amount, usually at a discount, the annuity holder invests the money in bonds or other stable investments, sufficient to pay out the annual payment and turn a bit of a profit for the annuity holder.

The other common use of structured settlements is in court damage cases and they work in much the same way. A plaintiff wins a judgment in court for damages and the defendant will typically buy an annuity to pay out the damages on an annual basis, putting the payment schedule in the hands of the annuity holder. From a corporate tax purpose, purchasing the annuity is a one-time-charge and there are several advantages to doing this. The structured settlement type payment is the result of changes in federal laws dating back to 1982 and is meant to provide a steady stream of income for the recipient to pay for long term care for disability or injury payments.

Private citizens can also buy annuities, though this is less common than it used to be. Annuities bought this way were used extensively as supplemental retirement income, before the regulations on IRAs, 401(k) programs and Roth IRA's allowed people to get more direct control over their retirement investments.

If you're the beneficiary of an annuity, it can present some problems for you. First, there's some small temptation, when getting that big annual check, to blow it on something celebratory, knowing that your day job can support you for the rest of the year. While this can be fun, it's very rarely sound financial planning. The second problem posed by an annuity is that the payments usually don't increase over time. This is the chief problem with them as a retirement strategy. Bringing home $500 a month in the mid-80s was a decent retirement income, assuming the house and car were paid for. Trying to squeeze by on $500 a month 20 years later is considerably more difficult, as day to day expenses rise with inflation on an annual basis.

Most annuities are set up as regular payments for 10, 20 or 30 years. Sometimes an emergency strikes and an annuity payment isn't always the best way to handle it. At that point,there are several firms out there that will pay you cash for an annuity. They offer you a large sum of cash up front and buy the annuity from you.

Copyright 2007 Jim Sterling - All Rights Reserved

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