by John Darer® CLU ChFC MSSC RSP CLTC
What some structured settlement consultants and others refer to as a cost of living adjustment or COLA today is really a fixed escalator such as 2%, 3%, 4% or more. I'd like you to have a better understanding of it. The "COLA" is not really a cost of living adjustment because there is no fixed link to a variable index such as the CPI**, or the actual cost of living. By adding a "COLA" to your structured settlement you give up structured settlement payments today with an eye to ultimately have more payments in the future.
These fixed increases are predetermined at the settlement of the case, when the structured settlement is created and are "fixed and determinable as to amount and time of payment...can't "increase, decrease, accelerate or defer"... etc...(unless a court later approves that selling your payment rights is in your best interest).
I'm not saying you should not consider your options, I'm simply saying:
- If the "COLA" is applied to a structured settlement which represents payment for damages for personal physical injury,physical sickness, or workers compensation,-the COLA adjusted payments are income tax free under IRC 104(a)(1) or 104(a)(2)
- If the "COLA" is applied to a structured attorney fee, where the entire amount of each payment received by the attorney is taxable, THEN obviously the incremental benefit represented by the "COLA increase factor" IS also taxable.
- Similarly, if there is a component of damages that is taxable such as punitives, wrongful termination, environmental, or the portion of a settlement allocated to pre-judgment interest, THEN the incremental benefit represented by the "COLA" applied to any periodic payment solution IS also taxable
- Where the "COLA" is applied to a non qualified assignment (often called "tax deferred structured settlement") where taxable damages are the order of the day, THEN obviously the incremental benefit represented by the "COLA" applied to any periodic payment solution IS also taxable
- In 2014, Pacific Life Insurance Company received a favorable IRS Private Letter Ruling and introduced its Index Linked Annuity Payment Adjustment structured settlement option which serves to increase benefits in line with changes in the S&P 500 up to a 5% cap with no downside. Note that payments start out less than they would with a fixed structured settlement with no COLA. The cost approximates that of a 2.3 % fixed COLA. At the end of the first contract year of the rider's introduction, Pacific Life announced a 5% increase. Thus certain annuitants got a 5% increase for the price of 2.3%. It can be no more than a 5% increase and if the index is negative there could be no increase. The Pacific Life indexed structured settlement payment rider is only available for qualified structured settlements and structured attorney fees.
- In December 2020, Independent Life Insurance Company introduced iStructure, an uncapped indexed linked structured settlement annuity that is avalable for use in the qualified and non-qualified structured settlement applications.
- Market Based Structured Settlements are another way to address inflation. There are a variety of options such as Assura Trust Growth Structured Settlement, a blended solution, Settlements Plus (for plaintiffs) and Fee Structure Plus (for lawyers) that offer solutions with open architecture (use your own advisor) and closed architecture (model portfolios).
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