Depending on what you read, a life insurance policy for your child is either the best decision for your child’s future or detrimental to it. When you search “child whole life policies” on Google you are inundated with articles by the same companies that sell the policies, and you get biased information as a result. At Wealthy Habits, we are committed to unbiased education for both students and parents, and today we are going to explore both the positives, negatives, and alternatives to opening a whole life policy for your child.
Let us first start with an explanation of what a whole life policy is. A whole life policy, or straight life policy, is simply a policy that will remain in force for the entire lifetime of the insured (your child). A whole life policy is designed to accumulate cash value as you pay premiums, which allows it to act as a savings vehicle with a death benefit attached.
One of the most common arguments you will read in favor of child whole life policies is that you will be able to lock in your children’s ability to receive life insurance as they get older. We all know that as you age, you are at a greater likelihood of contracting a disease that causes you to be too high of a risk for insurance companies to provide coverage. Being able to get insurance regardless of health condition is extremely valuable, especially as children begin to build their own lives and families.
What is not said, however, is that this guaranteed insurability is not only for the same carrier, but for the same product. In the event your child wants to add more coverage at a different company, one that may offer better optionality or a higher death benefit for the same premium payment, your child will still need to go through the underwriting process. This same goal can be achieved if your child purchases a term-life policy at age 25 to 30, when policies tend to be inexpensive, and converts it into a guaranteed policy after the term is complete.
The other primary upside to a whole life policy is the savings options typically embedded within the policy. Historically, the rates you would get as a guarantee would be considered high by today’s standards. However, as rates have fallen and remained low since 2008, your guarantees are not nearly as enticing. That said, whatever earnings that are present in the policy are tax-deferred until they are withdrawn.
A whole life policy for your child may very well be the best option. That said, there are other savings or investment vehicles that accomplish the same goal of putting money aside for your child’s future. These each accomplish different end-goals for your child.
The first, and most common, alternative is a 529 plan. With a 529 plan, you put money into the account, which is then invested. This money can be used for any education expense – typically college. However, a 529 account can also be used for private primary education. The most attractive aspect of these accounts is that all growth that happens in the account is tax-free, allowing you to maximize your child’s college fund. There is more to these plans, but I will go into that topic in more detail in a later article.
If you are looking for an option that extends beyond your child’s education, creating an UGMA account could potentially be the best option. There are none of the tax benefits present that are found in both whole life insurance and 529 plans. However, you are likely to get higher returns than a savings vehicle, including an insurance policy. There is also no required usage of the funds, unlike the 529 plan.