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State-run 529 plans are kinda like those Roth 401(k)s or Roth IRAs, but they’re all about helping you save up for education, not retirement. With a 529 savings plan, you can put your money into a bunch of different mutual funds, and any profits you make won’t get taxed until you take the money out. As long as you use that cash for stuff the IRS says is related to education, you won’t have to pay any taxes on it when you withdraw it. SOURCE
Now, here’s the cool part: lots of states will give you a little bonus by offering a tax deduction or credit when you put money into their 529 plans. But here’s the not-so-cool part: the feds won’t give you any tax breaks for your contributions.
But… the 529 plan isn’t the only game in town when it comes to getting tax perks while saving for college. You can also consider getting a permanent life insurance policy. This isn’t like your regular term life insurance; it comes with a part that lets you build cash value tax free.
When it comes to picking the right kind of permanent life insurance, “participating whole life insurance” is the safe choice. Other types of permanent life insurance are too risky to depend on. (Link to Types of Life Insurance Video Here)
To help visualize how participating whole life insurance works, let’s think of buying a house. As you make payments on your house you develop equity in it that can be accessed when you sell the home or take a home equity line of credit on it. Something similar happens when you purchase a participating whole life insurance policy.
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When you pay the premium on a participating whole life insurance policy, not only is there a death benefit, but also cash value is developed. This cash value can be accessed anytime by you the policy owner.
The life insurance company guarantees that your cash values will grow by a certain amount, and if things go well with their investments, you are entitled to an additional annual dividend payment above and beyond the guaranteed values of your policy.
The money inside a participating whole life insurance policy keeps growing without getting taxed, just like in a 529 plan. When your kid heads off to college, you can take out a loan against the cash value in your policy, or take a withdrawal from it. Just remember, if you take a loan instead of withdrawal, you’ll need to pay it back or the insurance company will reduce the amount of your policy to adjust for the outstanding balance. No big deal either way.
Let’s compare life insurance to a 529 plan, and see why life insurance has a couple of perks.
First, there’s flexibility. Picture this: Your child decides college isn’t for them. If you’ve got money in a 529 plan and want to take it out, you might end up paying ordinary income tax rates on any earnings, plus a pesky 10% tax penalty. Ouch, right? Some plans do allow the person who’s going to college, usually in a lower tax bracket, to take out the money, but it can still be a big tax hit. On the other hand, if you have your money in a participating whole life insurance policy, you don’t have to deal with this tax headache. With life insurance, you’re not limited to who or what this money can be used for.
Now, here’s the other good part about life insurance: it doesn’t mess with your chances of getting financial aid. But a 529 plan can. You see, the money in a 529 plan is considered a parental asset, and they count a chunk of it, up to 5.64%, when they calculate how much you’re expected to contribute to your kid’s college costs. So, if you want to keep your financial aid options wide open, life insurance might be the way to go. (Resource)
If you’re thinking of using life insurance to fully fund a college tuition, you will need to capitalize the policy. This is no different than with a 529 plan, but full benefits of using a participating whole life insurance policy will not be realized until the cash value is greater than total premiums paid. This will usually be 10-15 years after starting to policy.
A huge and often overlooked benefit of using participating whole life insurance to fund education, is even if you get a late start in funding the policy, It can be used for the rest of the life of the insured to finance far more than just college education, and can be eventually used as a retirement funding source.
The biggest advantage of a 529 plan comes in the form of tax benefits. Here’s the scoop: you get to put your money into various mutual funds, and any money you make from those investments won’t get taxed right away. Plus, when you take out money from a 529 plan to pay for stuff related to education, like tuition or books, you won’t have to pay any taxes on those withdrawals. Sounds pretty sweet, right?
But when you’re applying for financial aid, the money you’ve saved up in a 529 plan gets counted as an asset. This can potentially lower the amount of financial aid you qualify for, especially certain types of student aid.
Now, when it comes to a life insurance policy, it’s a different story. The money you’ve stashed away there doesn’t count as an asset when you’re applying for financial aid. So, it can be a way to save for college without affecting your eligibility for certain types of student aid.
The best course of action is to speak with a financial expert to map out what will be best for you in the long run. If you want to take a closer look at funding a college education with life insurance, and have a policy specifically designed for you, contact us. We will be happy to help you.
by Jesse McFie
I have worked hard and saved from an early age. In 2018, my brother and I started our own welding and fabrication business and grew it to a full-time company. As taxes, fees and inflation ate away at my hard-earned income and savings, I quickly realized that the financial system in America is not designed to help you get ahead. Using participating whole life insurance and the principles we teach at McFie Insurance has helped me get ahead financially. I’ve used my life insurance policies to expand our business, debt free, to purchase equipment, and save for a piece of property. I love sharing with others how they can do the same.
