Sorting Out an Old Structured Settlement

The average parent probably doesn't associate footed pajamas with dangerous products. But 18 years ago, my youngest daughter ended up in an emergency room after threads inside her infant sleeper cut off circulation to her toes.

The strings were as thin as human hairs but as strong as dental floss. The more she squirmed, the more they tangled and wrapped around her foot.

Months later, after escaping the near amputation of two toes and surviving weeks of recovery, I negotiated a settlement with the company that made the sleeper. Tom Togs of Carolina, which had manufactured the sleeper for Macy's (NYSE: M), admitted that a defect in the fabric caused the underside of the garment to fray after washing.

Because the manufacturer knew about the problem, but never issued a recall, it was fairly easy to make a case for damages on behalf of my daughter. The result was a qualified structured settlement: an annuity free from income taxes "on account of personal physical injury" (or, in other cases, wrongful death) per Section 104 (a)(2) of the Internal Revenue Code.

Structured settlements are alternatives to lump-sum cash payments. In the US, they trace their origins to 1983, when the Periodic Payment Settlement Act became law.

That law established the right for injury victims to receive future payments exempt from income taxes. It also required structured settlement payments to be funded by either US Treasury obligations or a life insurance company annuity.

Structured settlements are often set up to provide payments to accident victims over time. But they're also an option when a financial settlement is negotiated on behalf of a minor.

Typically, when there is a settlement on behalf of a child, parents can:

• Ask the court to hold the money in a low-interest account until the child reaches legal maturity, usually age 18 or 19.

• Place the settlement in a trust managed by a bank or investment consultant. But this may have drawbacks because all the investment income is subject to taxes and ongoing management fees.

• Create a structured settlement.

Back in 1995, the structured settlement seemed like the best option for a settlement I'd define as not huge, but reasonable under the circumstances. I had to go before a judge to get it approved, and then I took all the paperwork and stuffed it in my file box, along with all the other stuff I don't have to think about for years and years.

I only gave it a second thought this week after I realized how close my daughter is to turning 18.

Now here is the thing: The property and casualty company that represented Tom Togs was USF&G, which no longer exists. The annuity was issued by Thomas Jefferson Life Insurance Co., which no longer exists. The structured settlement was set up by Kenneth H. Wells & Associates, which no longer exists.

A lot can happen in nearly 18 years.

Tomorrow I'll discuss the impact mergers, acquisitions, and bankruptcies can on have your structured settlement -- and share some strategies for protecting yourself.