Posts tagged ‘Life insurance’

May 7, 2015

Life insurance is usually not a good choice for college savings

by Grace

Sometimes life insurance is marketed as a college savings vehicle, primarily based on the fact that it is “typically not counted in the formula used to determine financial aid eligibility”.  But it’s usually better to avoid it since it is a relative high-cost option, and withdrawals to pay for college can be problematic.

“First, parents will have to pay income tax on the difference amount if they withdraw more money than the premium they paid, as well as a potential 10 percent penalty if they are under age 59 1/2,” says Joyce Garner, an insurance broker with Zimmerman & Ray Associates in Roseville, California.

Lessard says that there are also issues if parents decide to take a loan against their policy, as opposed to a straight withdrawal, as policy loans charge interest and require a payback schedule. There’s also the fact that, if a parent takes a large sum of cash from the policy and still needs the death benefit, the policy may lapse from the lack of cash.

It’s usually better to stick with 529 plans or other savings options that lend themselves to the logistics of making withdrawals over the time a student is attending college.

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Andrea Williams, “3 Reasons to Avoid Life Insurance Policies for College Savings”, U.S. News & World Report, April 3, 2015.

October 10, 2011

Variable universal life insurance for college savings?

by Grace

Variable universal life (VUL) insurance as a college savings strategy is usually considered appropriate only for a select minority of  families.  One of its main selling points is that since it is typically not counted in the formula used to determine financial aid eligibility, VUL can be used to “shelter” assets.  However, this advantage only comes into play if a family is on the borderline of qualifying for financial aid, where a few thousand dollars less in assets would nudge them over to eligibility.

VUL basics from the Wall Street Journal

Back in the 1990s, agents started pitching college savers on “variable universal life insurance,” a type of “permanent” insurance that is designed to be in force for the insured person’s lifetime. (That is in contrast to “term” life, a plain-vanilla type of policy that pays out only if the insured dies within a specified period of time.) As with other types of permanent insurance, the buyer’s annual premium is split between the cost of the death benefit, fees to the insurance company and a tax-advantaged savings account.

In the most commonly sold types of permanent life, the money in the savings account is invested mostly in high-quality bonds. Under variable universal life, the buyer has the option to invest in stocks in mutual-fund-like “subaccounts.”

The decision-making process for determining if life insurance makes sense as a college savings tool can be very complicated, so a financial advisor should be consulted if this option is being considered.  Here are some points to consider.

  • You will be paying for life insurance.  Do you need it and could you fulfill this need with a less expensive policy?  If you are insuring the life of your child in order to cut the policy costs, does your child “need” life insurance?  The answer is usually a resounding “no”.
  • If you are trying to shelter money from FAFSA and the insurance value will make a difference in financial aid eligibility, you should ask:  How much aid money be are we talking about?  Will the aid be in the form of a cash grant or loans?  Going through all that trouble for a loan “award” doesn’t make sense.
  • Depending on other factors, a family on the borderline to be eligible for financial aid could likely be one with financial assets valued between $200,000 and $300,000.  This profile does not fit the typical market for a variable life insurance policy, usually designed for more wealthy investors.

Investors should also be careful when considering projected earnings on VUL subaccounts, which are typically illustrated to show a 12%  annual return.  Very few advisors consider that to be a realistic number for financial planning.

Bottom line for variable universal life:

While it has some major advantages, investors should understand the risks.

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