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Whether you’re sending your first child off to college or your third, the application process never gets easier, from choosing the right university and programs to filling out financial aid forms. However, some would argue the latter is the most nerve-wracking since it takes strategy to reduce or eliminate out-of-pocket costs. One of the best ways to tackle educational expenses is with life insurance.
Not all life insurance types and policies are the same, meaning you have to apply for the right coverage to reap college benefits. Below, we’ll explain the different types, why they’re better than a 529 plan, and how you can use them to your advantage.
A 529 plan, or Qualified Tuition Program, is a tax-advantaged savings plan that parents usually take out to assist their children with their education. While it originally helped college students, the program broadened its efforts in recent years to assist those in grades K-12, apprenticeship programs, and individuals with outstanding student loans.
According to Investopedia, there are two types of 529 plans, one being education savings plans where the account holder places money into their choice of investment option, such as a mutual fund. From there, they can withdraw money without dealing with state and federal taxes and put it toward anything education-related, such as textbooks, room and board, and tuition fees.
Unlike this savings plan, prepaid tuition plans are not available everywhere, and some educational establishments don’t accept them. There are also more limitations on how you can use them since you can’t put funds toward students in primary and secondary school or boarding in college. Still, many like how it locks in current tuition rates so students can attend college later without fearing inflation.
While a 529 plan may sound like the best way to start a nest egg for your young one, many are wary of the idea since FAFSA and other financial aid programs view the money in these plans as an asset. According to College Savings Plans Network, that means the parent of a child who needs the money or a dependent student with a 529 plan receives an average of 5.64% less financial aid assistance.
However, if you’re an independent student with a 529 plan and don’t have any dependents, you can lose up to 20% of eligible financial aid, leading you to take out more from your plan (and even out of pocket). Therefore, many opt to handle educational expenses with a life insurance policy instead.
You may think life insurance only pays out funds after the beneficiary dies, leaving all dependents with some cash to handle expenses like funeral and burial costs. However, some forms of coverage allow you to borrow from your active policy the way you would from a bank or credit union. That way, you can borrow from yourself without that money seeming like an asset to the financial aid providers.
Once you apply for an insurance plan, each monthly premium you pay divides into three, with some of the funds covering the insurance company’s fees while the rest goes into building your death benefits and cash value.
The cash value is the amount you borrow against like a loan, but you start with $0 in value when opening a policy. Over the next few decades, the amount builds, sometimes surpassing your policy’s face value, which is the policy amount you originally signed up for.
Still, this is only the case for permanent life insurance coverages rather than term life since the latter expires. Term life insurance does not guarantee a death benefit if the insured doesn’t die within the temporary time that the coverage is active. Since it’s not a long-term investment, there’s no buildable cash value to borrow from, either, so for available funds for academic expenses, consider the following:
With whole life insurance, you have fixed death benefits and premiums, the latter usually proving to be high and inflexible. It also has a fixed interest rate for cash value growth, guaranteeing the amount will ascend over time. As long as you pay your premiums regularly and on time, you can borrow from this lifelong insurance plan at any time you need some extra cash for educational expenses.
According to Forbes, universal life insurance is more flexible than the former since you can alter your monthly premiums to suit your current situation. For instance, if you’re struggling to pay your traditional premium, you can reduce it temporarily to better suit your budget. You can also adjust death benefits and receive cash value, but the latter grows differently depending on the universal policy you choose.
Variable life insurance policies allow you to invest cash value into a sub-account from mutual funds to bonds and stocks. You can also choose to put the money into a non-investment account, which pays interest on your deposit. However, when borrowing from your cash value, you must confirm that your premium payments are enough to keep the policy from lapsing, sometimes by making higher monthly payments.
If you have a permanent life insurance policy and are ready to borrow from it to cover scholastic expenditures, choose one of the three following methods to obtain a portion of your cash value.
Just like with a bank, you can take out a loan on your life insurance’s cash value with the promise that you’ll repay it at a later date with interest. However, the rate is usually lower than a bank or credit union would offer, sometimes being under 4%. Also, a loan reduces your death benefits, and these reductions can be permanent if you don’t repay the loan before you die.
Withdrawing an amount of your cash benefits is like withdrawing money from a bank account. It’s your money that you can keep without having to pay it back or pay interest on it, but it reduces your death benefits. That means your dependents won’t receive as much after your death.
If educational expenses leave you needing all the money in your life insurance all at once, you can surrender the policy. While you must pay surrender charges to the insurer, you receive the remainder of the account's available cash value. However, this is the least desirable option since you won’t have life insurance if something were to happen to you.
The primary benefit of borrowing money from your life insurance policy is receiving funds without the hassle and credit checks that banks and creditors would put you through. Shortening the process also reduces the amount of time you have to wait until you can receive the money, and you don’t have to worry about rejection. However, this is far from the only benefit since you:
Still, you should take this information with a grain of salt since there are also drawbacks that can affect whether you should use your life insurance for educational expenses. The most obvious con is that if your cash withdrawals deplete the policy’s face value, it can cause policy lapsing, so you must take extra precautions.
Ask for a policy illustration to view future cash value predictions. If it shows it’ll fall below your minimum balance at some point, you can pay extra premiums to prevent this. However, there are other drawbacks to worry about, including the following:
Before you can invest in knowledge, you need the knowledge to know how to invest, and that’s where our specialized team comes in. We understand there are plenty of savings and borrowing options to choose from, which is why we make it easy to sort through available insurance policy choices. Answer some questions and we’ll find the best and most affordable rates depending on your needs and budget.
Contact Insurdinary, and we’ll help you determine the best way to tackle educational expenses with permanent life insurance today!