A Guide to Surrendering Children’s Life Insurance Policy

We’ve talked about children’s life insurance policy loans in our previous article. Now, let’s talk about another thing you can do with your children’s life insurance. 

Wondering what will happen when surrendering children’s life insurance policy? This guide will tell you everything you need to know. 

We’ll explain how to surrender the policy and the financial consequences of this decision. 

Additionally, we’ll discuss the tax implications and four alternatives for waiving a children’s life insurance policy.

We’ll also briefly touch on how children’s life insurance impacts financial aid because that’s one reason why parents would want to cancel their policies. 

Short Summary 

• There are three main types of children’s life insurance: term life, whole life, and universal life.
• If you have a children’s whole life or universal life insurance policy, surrendering the policy typically takes 2-4 weeks to receive the cash value.
• There are other alternatives to surrendering a children’s life insurance.
• The advantages of surrendering your children’s life insurance policy can provide you with extra cash.
• The disadvantages of surrendering children’s life insurance are loss of coverage, potential tax liability, missed growth opportunities, and possibly lower cash surrender value.
• The additional gains can be taxable when the surrender value exceeds the total premiums paid.

Understanding Children’s Life Insurance Policies

Let’s quickly understand what a children’s life insurance policy is before talking about how to surrender it.

What Is A Children’s Life Insurance Policy?

A children’s life insurance policy is an insurance contract that provides coverage for your child. In other words, its primary purpose is to provide life benefits to the parents or grandparents during a tragic loss.

Types Of Children’s Life Insurance Policies

There are three common types of children’s life insurance: term life, whole life, and universal life. 

1. Term life insurance offers coverage for a specific period, usually without cash value.
2. Whole life insurance provides lifelong coverage and builds cash value.
3. Universal Life Insurance combines lifelong coverage with flexible premiums and cash value growth. Its cash growth is more rewarding and riskier than whole life insurance. 

Why Parents Buy Life Insurance Policies For Their Children

From our experience as an Insurance Broker, parents buy life insurance for their children for a combination of reasons. Life benefits are certainly the main offer of children’s life insurance, but did you know there are other perks that appeal to a lot of parents?

For example, one cool feature of getting your child insured is that you’re locking in low rates and guaranteeing their future insurability. This is useful because as people get older, the more they pay for insurance premiums, and it would certainly get more expensive if they get diagnosed with a chronic illness. 

Another reason why parents buy insurance is that it functions as a long-term savings or investment vehicle. Term life doesn’t accumulate cash value, but permanent life insurance policies like whole and universal whole life do. 

Lastly, some parents purchase children’s life insurance early on and give the policy as a financial gift when their children reach adulthood, which provides all the financial advantages we covered so far.

The Process of Surrendering a Children’s Life Insurance Policy

So, you’ve decided to surrender your kid’s life insurance policy. Maybe it no longer fits your financial goals, or perhaps you’ve found a better investment opportunity. Whatever the reason, we get it. Life changes, and we make adjustments. 

We’ve covered the basics of children’s life insurance. Let’s discuss the steps involved in surrendering a children’s life insurance policy. 

Here are a few steps to keep in mind.

Contacting The Insurance Company

The first step in surrendering your children’s life insurance is contacting your insurance company. Ensure you have your account number before you call your agency or brokerage because they will ask you for it.

Don’t hesitate to ask questions when you finally talk to an agent because they’re there to guide you.

Pro tip: We recommend calling early in the morning, right before they open to skip any wait time.

Filling-Out the Surrender Forms

After you’ve called the agency, they will send you surrender forms. 

From our experience, the insurance jargon and fine print can get complex, so take your time and double-check your answers when filling out the form. You don’t want to miss out on a significant portion of your cash value because of a mistake.

Don’t hesitate to call the insurance company back if something needs to be clarified. It’s better to ask a question that seems obvious than to make a mistake that could cost you time and money.

Calculating The Cash Surrender Value for Whole and Universal Children’s Life Insurance

You have to be familiar with two things: cash surrender value and cash value.

The cash surrender value is the money you’ll receive when you cancel the policy. 

A simplified formula is this:

Cash Surrender Value = Total Cash Value – Surrender Charges – Outstanding Loans

The cash value grows over time, but it’s not always equal the premiums you’ve paid. Think of it as:

Cash Value = Premiums + Interests gained – minus the cost of insurance and fees. 

The insurance company should provide a statement showing the current cash value and the cash surrender value. We advise you to double-check their math. We’re not saying they’re trying to pull a fast one, but mistakes happen. 

Also, if you cancel too early, you’ll likely get a cash surrender value lower than the cash value because of the fees in place. Okay, that was a bit of a mouthful, but we want you to be prepared.

Note: The formula we have given is there to paint you a broad picture, but it’s not the whole thing. 

Receiving Your Cash Surrender Value

After sending the surrender forms, you might have to communicate with the insurance company to finalize the process. So, there might be a bit of back and forth between you and the company. 

The insurance company typically takes 2-4 weeks to process your request. If you become unsure about the status of your request, don’t hesitate to contact the insurance company.

While waiting for the money to arrive, monitor your mail/email for any additional requests from the insurer. And once you get it, check if the final amount you received is what you expected. 

Alternatives to Surrendering a Children’s Life Insurance Policy

Suppose you lost a source of income or have a pressing financial issue. In that case, you might be convinced that surrendering your children’s life insurance policy is the only way to go, but have you considered alternatives?

We’ve seen how people regret giving up on their insurance, and it’s not fun, but we’ve also helped people find a helpful compromise. 

So, without further ado, here are some of the things you could do instead of surrendering your children’s life insurance completely.

Policy Loans

A policy loan means borrowing money using the cash value of your children’s insurance policy as collateral. Clients have used this option to cover unexpected expenses without surrendering their policy. 

There are two things that we like about it. One, you don’t need a credit check and two, the interest rates are often lower than what you’d get from a bank. 

But if you don’t pay it back, it’ll reduce the life benefit. So, we always advise our clients to have a repayment plan in mind.

Reduced Paid-Up Insurance

Reduced paid-up insurance allows you to stop paying premiums but still have some coverage. That sounds pretty useful, right? 

The downside is that the life benefit will be lowered.

We had a client struggling with premium payments but didn’t want to lose all coverage for their child. This option was ideal for them, and it could be just what you’re looking for too. 

But remember, once you choose this option, you usually can’t return to your original coverage. That’s why you should make sure it’s the right move for your long-term plans.

Converting To An Adult Policy

Instead of getting the cash surrender value from your children’s life insurance policy, we recommend converting it into an adult policy instead. This can be a great way to set them up with coverage for their adult life. 

Parents can use this as a gift when their kids turn 18 or graduate college. Consider this a financial boost for your children when building their own life. 

Also, your children can get a coverage without a medical exam, which can be a huge advantage if they’ve developed any health issues. 

We understand this might not be an option for those pressed for cash. However, if you’re starting to think that children’s life insurance doesn’t fit your goals anymore, we recommend converting the children’s policy into an adult policy. 

Selling The Policy (Life Settlement)

The last option we want to discuss is selling your policy – AKA a life settlement. 

This option is usually used in adult policies, but it can also work in children’s life insurance policies. 

You sell the policy to a third party for more than the cash surrender value but less than the life benefit.

It’s a bit complex, and fees are involved, so we always recommend getting professional advice before going this route. Also, keep in mind that not all policies qualify. But it might be worth exploring if you’re in a tight spot financially.

There’s one last alternative that we almost forgot to mention. You could let the policy lapse for a few months. Sure, this isn’t ideal, but it could be better than surrendering the policy.

The Final Implications of Surrendering a Children’s Life Insurance Policy

Surrendering a children’s life insurance has its pros and cons. The question you want to ask is whether it would be more beneficial to surrender it or keep it.

Let’s break this down.

Advantages

• Immediate cash: You’ll get a lump sum to help with current financial needs. This money would be the cash surrender value. 
• No more premiums: You won’t have ongoing payments, which frees up your monthly budget.
• Flexibility: You can use the money for other financial goals or investments. From our experience, it’s not uncommon for parents to divert children’s insurance money into RESs.

Disadvantages

• Loss of coverage: Your child will no longer have life insurance protection.
• Potential tax liability: If the surrender value exceeds premiums paid, you might owe taxes.
• Missed growth opportunity: You’ll lose out on future cash value accumulation.
• Cash surrender value is low: There’s a good possibility that the cash surrender value would be lower than the premiums paid if you surrender the policy too early. 

We’ve seen cases where surrendering made sense for some families but not others. It’s important to think about your situation and what you want. 

Tax Implications of Surrendering a Children’s Life Insurance Policy

We’ve seen too many families get caught off guard by unexpected tax bills when surrendering children’s life insurance policies.

Let’s break this down.

Potential Tax Consequences On Gains

If your policy has grown, the Canada Revenue Agency (CRA) might want a slice of that pie. We remember one client who was thrilled about their policy’s growth, only to be disappointed by the taxes. 

Here’s how it works: if your cash surrender value is higher than the total premiums you’ve paid, that difference is considered taxable income.

For example, you paid $12,000 in premiums over the years, and your cash surrender value is $13,000. That $1,000 difference would be taxable and treated as ordinary income.

Note: the example above is simplified, but that’s generally how it works.

How To Report The Surrender On Your Tax Return

The insurance company will send you a T5 slip (Statement of Investment Income). This slip shows the total amount you received and the taxable portion. 

You must report this on your T1 General Income Tax and Benefit Return. It usually goes in the “Other income” section. 

We always recommend keeping a copy of the T5 with your tax records for record keeping.

Province-Specific Tax Considerations

While income tax on policy gains is primarily federal, it’s worth noting that your province of residence can affect your overall tax situation. Tax rates vary by province, which can impact the final amount of tax you’ll pay on any policy gains.

For example, if you live in Quebec, you should remember that you’ll need to report your income on both your federal and provincial tax returns. It’s a small detail but an important one to keep in mind.

On the other hand, if you’re a resident of Ontario, you should be aware that the province has its own tax brackets and rates, which are applied in addition to federal taxes. Also, Ontario uses a single tax return that combines federal and provincial taxes, so it’s important to understand how provincial rates might affect your overall tax liability.

From our experience, being proactive is the key to navigating these tax implications. Also, we always recommend consulting with a tax professional if you’re unsure. 

Does Children’s Life Insurance Affect Financial Aid?

Yes, children’s life insurance can impact financial aid eligibility. 

How children’s life insurance impacts financial aid depends on the type of policy and how the funds are accessed.

For example, the cash value of whole life insurance policies may be considered an asset when calculating financial aid eligibility, potentially reducing the amount of aid received. 

However, term life insurance generally does not affect financial aid.

That said, from our experience, we haven’t seen any considerable impact of children’s life insurance on financial aid. Nothing to worry about how children’s life insurance could impact financial aid.

Talk to an Expert Before Surrendering Your Children’s Life Insurance

We recommend talking to a children’s insurance broker in Vaughan before waving your children’s life insurance. 

First, find out the alternatives. If the alternatives do not work for you, then the insurance experts will help you with the cash surrender value as smoothly and quickly as possible. 

Remember, an expert could provide you with insights and methods that you might have otherwise overlooked.