Premium Advice — Back-to-school protection planning for students

It’s that time of year again: back-to-school shopping and saying goodbye to the kids as they head to university or college. For advisors, the new school year means helping families plan for their children’s financial future.

RESPs always provide a sound foundation thanks to government grants like the Canada Education Savings Grant (CESG), but they are limited. Most advisors tend to recommend this savings vehicle only until the child is 16 to maximize the grant. (See this link for more details.)

While RESPs provide valuable assets to assist a child’s education and help to protect a family’s finances, the grants are capped by a lifetime amount and an annual contribution amount. So, what do clients who want savings and protection vehicles beyond RESPs do?

One wealth-building tool that advisors have been using successfully for decades is the generation transfer bond, or generational cascade, as it’s sometimes called. It’s a fit for clients who have already maxed out RESP contributions for their children and may not want to accumulate wealth solely for educational purposes, or for those who simply value savings and insurance protection at the same time.

Here’s how it works: a parent or grandparent purchases a permanent cash value life insurance policy on a child (definition of “child” being child or grandchild of any age) and transfers ownership of the policy to the child once he or she reaches the age of majority. If irresponsible spending is a worry at age 18 or later, an irrevocable beneficiary designation for as low as 1% of the death benefit would require the donor parent to sign off on any withdrawals. This may be done with whole life or universal life, depending on the cash flow available and asset management needs of the client. Premiums are paid for a limited period of time (10 or 20 years usually), and then the cash value carries the cost of the policy for life, growing both the death benefit and the cash value on a tax-free basis.

Let’s look at an example. Jacques and Marie Gagne are successful entrepreneurs. Their son Andre is now two years old, and their advisor has recommended that they deposit $4,234 annually into a $500,000 face amount permanent life insurance policy for 15 years. At age 18, Andre begins to make taxable withdrawals of $10,000 for four years, and he still has cash value of over $65,000 and coverage of over $840,000 at age 22. Over the next 40 years, he makes additional withdrawals of $40,000 at age 30 to assist in the purchase of his first home, and $20,000 for four years for his daughter’s education.

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At age 65, he still has over $1.3 million in cash value and almost $3 million in coverage, which he can use to supplement his own retirement income or he could allow to grow on a tax-sheltered basis and be paid out tax-free to the next generation. The entire time, he has a strong base of insurance coverage and a tax-sheltered asset with which to access capital when needed.

In more recent years, advisors have turned to living-benefits products to help families protect their wealth in creative ways. One innovative advisor I know who placed three generation transfer bonds on the third generation of an affluent family also purchased critical illness insurance coverage for his client’s three grandchildren in their 20s. By using single-premium CI, the grandparents locked up a significant amount of coverage for their beloved grandkids for a fraction of the amount that it would have taken to self-fund recovery from an illness. Though not well known, single-premium CI can be looked at as a special quote by a number of companies in the industry and can be used by the same demographic of clients as a generation transfer bond.

So what other needs might students have for insurance coverage? More and more young people are members of travelling sports teams, dance troupes or competitive academic teams. When heading out of country or province, medical insurance for travel should be strongly considered.

Also, while disability insurance may be difficult to purchase on a young person due to low or non-existent income, some carriers’ basic or accident-only disability coverage, or long-term care insurance can be a means of creating ongoing cash flow to support a young person’s lifestyle needs in the event of a health scare. Although very different, one of the above products can often be put in place for at least a token amount of coverage, say, $500–$1,000 per month.

Although the generation transfer bond is the most commonly used concept for building and protecting the wealth of our children, today’s creative advisors are helping their clients by opening their minds to a much broader range of insurance solutions than ever before.

Chris Paterson is vice-president of sales for Manulife Financial.

(07/04/08)