Should you cash in that childhood life insurance policy?

I’ve been debating this very question for a few years myself.  Should you cash in that childhood life insurance policy or keep it?  There are certainly pros and cons.  First, let’s revisit why you might have purchased this policy in the first place, or at least your parents did.

I actually don’t know why my parents purchased this policy (maybe they can let me know after they read this post) but I’d like to think it was because they wanted to guarantee some form of life insurance for me when I got older.  This seems to be a logical and proactive choice.  Purchasing childhood life insurance could have been done to cover any lost income in case I died and my parents needed time off work to recover.  Morbid thought but nonetheless life insurance can buy money and time to get past the catastrophic loss.  On the subject of catastrophic loss, this is what I believe life insurance should be for – to help you recover financially when you need time and money the most.  Certainly there are other reasons for purchasing life insurance for children, one could be to cover funeral expenses and the other could be general financial prudence although I wouldn’t think either of these would be top of the list.

I reached out to Glenn Cooke, President of Life Insurance Canada.com  to get his take on these types of policies.

Mark, I would evaluate the policy from today looking forward rather than looking into the past.

Here are some things folks should consider as part of their decision:

• If you’re comparing this product to term insurance, determine the value of the ‘option to renew the policy at the end of the term’ (i.e., at the end of the term). With the permanent policy you have the option of keeping it at today’s premiums in the future.
• Determine the value of the dividends (if the policy has dividends). The dividends may be automatically increasing the amount of your life insurance every year (like in your case Mark), with no medical exam required. What’s the value of having incremental increases in your life insurance?
• What’s the value of having a small permanent policy for when you’re older?
• Compare the above benefits to the benefit of cancelling the policy and investing the resulting cash surrender value elsewhere. Assume that the cash value is fully taxable when you cancel the policy. Remember that you’re also decreasing your insurance coverage when you do this!

This analysis aside, the premiums and coverage amount on many of these “childhood policies” as Mark puts it are so low that they can more properly be considered discretionary spending than a pillar of your financial planning. So if you like the idea of a bit of lifetime insurance to cover final expenses, keep the policy. If you aren’t concerned about future benefits or eating the taxes, cancel the policy but make sure you invest the payout.

Thanks Glenn.  So where does that leave me with my decision?

In my case, the Cash Surrender Value (CSV) of my childhood policy is a few thousand dollars but the life insurance guarantee is at least four times as much.  Would I purchase this same policy for a hypothetical mini-me today?  No, but I recognize today thanks to my parents decision many years ago I have a permanent life insurance policy with no medical exam for as long as I live. The policy value isn’t huge but when I die it will help cover a few “final costs” and it costs me nothing to keep this coverage going-forward.

Further, the Adjusted Cost Base (ACB) for the premiums paid on the policy decades ago would be next to nothing.  This makes most of CSV taxable if I decided to cash-in the policy. Cashing in your childhood life insurance policy could make some sense as long as you can defer those taxes payable (i.e., use available RRSP contribution) but if you’re short on that room – your CSV will be treated as income.  If that’s your case you’ll probably get back only part of what the cash value is actually worth.

For now I’ve decided to keep my childhood policy and let the non-guaranteed dividends from the investment portion of the policy provide paid-up additions for the policy value.  Although the dividends paid will fluctuate the amount of coverage will keep creeping up over time and that’s nice if I ever become insurable or I wish to reduce my life insurance (term) coverage in the years ahead.

I suspect life insurance coverage for children is not a high priority for many parents today and it probably shouldn’t be – I believe term insurance and disability insurance are more important.  However, as you get older, if you have a childhood life insurance policy, you might want to think twice about letting go of your insured past since it can help you and your loved ones in the future.

What’s your take on these policies?  Who you make the same decision I did?