Though the calculation of an Expected Family Contribution (EFC) is quite formulaic, there are three unique options families can take to reduce their EFC and receive the most assistance. In Episode 34, we reviewed the first option which was a MEC whole life contract. In Episode 44, we reviewed the second option which was a Stacking Multi-Year Guaranteed Annuity (MYGA). The third option is to use an indexed universal life (IUL) contract.
In this episode of Money Script Monday, Gabriel continues the conversation and reviews the third option families can take to reduce their EFC by utilizing an IUL contract.
Click on the whiteboard image above to open a high-resolution version of it!
Welcome back to another episode of Money Script Monday. My name is Gabriel Lindemann, and I'll be your host today.
Today, we're going to be talking about EFC option number three, using an IUL for college funding. With that being said, let's get started.
I love IULs. IULs in college planning is the opportunity to put together a real financial plan.
All the other options we talked about using a MEC Whole Life Contract or a MYGA, multi-year guaranteed options were purely just on sheltering on long term.
When we incorporate this plan, it's a true financial plan that does college funding, college planning, but more importantly, you can use that money for retirement planning.
When we look at these statistics over a 20-year period, most of our policies have been averaging 7% to 8%.
What's really good about that 7% to 8% is you're never digging yourself out of the hole.
For example, if the market goes up, you get the pure growth.
If it goes down, you just go flatline. So, if market goes up like it did in 2007, 2008, 2009, it crashes, you don't go down 40%, you go to zero.
Something we say in the industry is, "Zero's our hero."
And that is really, really true when the market's going down and you look at your report and you have a 0% return.
On the flip side, 7% to 8% return over a 20-year period is fantastic.
I know a lot of mutual funds out there want to show you 15%, 20%. This is a conservative approach.
This is what we would call the putter approach and a golf bag analogy, you have your drivers that are for your mutual funds, you have your clubs and your wedges if I get a little bit closer.
Those could be from your, bonds with a little bit higher risk. This is your putter, safe, predictable, 7% to 8% over a 20-year period.
Pros vs. Cons
Now, everything has pros and cons. Everything is good and bad. So, let's focus on that.
Pros of IUL
Let's look at the pros right now.
1. Tax-free growth
It has tax-free growth. That's phenomenal.
The last time I checked, only muni bonds, if you purchased them in your own state, and a Roth IRA. This allows you to get all the same benefits.
2. Tax-free distribution
Cash redistribution. That's the most important thing in the world.
One of the best advisors in the industry, Doug Andrew, taught us all many years ago, if you were a farmer, would you rather pay taxes on the seeds or the harvest?
Obviously, the seeds, you want to pay on the smaller amount.
And that's what we're going to be able to accomplish by using this type of portfolio in IUL with college planning.
3. Principal protection
Principal protection. As I said before, if the market crashes, you don't crash with it, you get a zero.
Zero's your hero.
4. Low Fees (over lifespan)
Low fees. Now, I know some advisors out there, and if you Google Suze Orman or Dave Ramsey, they have opinions that this is very expensive.
Well, we'll talk about that.
But in reality, if structured correctly with the lowest death benefit possible right under the MEC guidelines, so it's not a modified endowment contract under the seven paid rules, it’s perfect.
In fact, over a 20-year period, the average cost is going to average anywhere from 1% to 1.5% if designed correctly.
5. EFC play
Now, this is an EFC play as well.
It's not solely an EFC play because a lot of times, families that have this money have a lot higher income, have a lot of extra income.
They might not be able to qualify for EFC, but if you are, it does work in that manner.
6. Full financial plan
In a full financial plan, there's many components to it. It's not sheltering assets. You're looking at rates return, you're looking at an arbitrage.
It's my favorite plan because it has so much opportunities to help so many families out there.
Cons of IUL
With that being said, there are some cons. I know everyone wants to say it's the greatest thing in the world, but it's not, every family is different.
Let's discuss one of the cons.
1. High costs (in early years)
Many people say it has high cost. Let's go over that.
In the first 10 years, there are front-loaded expenses very similar to a mortgage payment.
What happens when you own property? You make a mortgage payment. For the first 10 to 15 years, most of your payment is going to taxes.
You don't start deducting the principal until about 10 to 15 years. Same thing with this type of product.
It's very high in the first 10 years, but it's reducing every year after about the 10th to 12th year.
After about 20 years, you are about 1%, 1.5%. And after about 20 to 30 years, in many case designs, and if it's structured correctly, it's below 75 basis points. That's 0.75.
So, I would argue that 0.75 over a 20-year or 30-year period is probably the most cost effective financial plan out there.
Not including the fact that we get principal protection and it's a real college plan vehicle.
2. Medical approval
Medical approval. As I said before with the MEC whole life is that one of the drawbacks is that you have to get approved to your health.
If you have a lot of disorders, like heart disease, have cancer, even uncontrolled diabetes, this might not be the plan for you.
You're better off maybe looking at annuity option or a MYGA option.
That's why you want to work with a certified college planner to go over pros and cons, what's best for you.
3. 5 years to access funds
And lastly, you need to leave it for five years to let it grow. You want to let it cook so you can access your money.
But that being said, you can get access to your money immediately but you want to let it grow.
You want to let that positive arbitrage, you want to get that 7% to 8%. So, when you're up here, it has money accumulated and you'll be able to pull out that money tax free.
Now, accessing your cash. That's very important.
As we said before, we use the comparisons as a Roth. Well, it's not a Roth when you look at the IRS codes, but it has similar distributions.
And the fact that when you pull out money out of it in the form of a loan, it comes out tax-free.
Now, it is immediate access. So, if you do have cash built up, let's say you do a large 1035 and it goes over there.
Let's say, day one, you have $50,000 cash accumulation because of the 1035, you can access that cash 30 days after issue.
What's very important about that, it does not show up on the FAFSA for private schools.
That cash you borrow against it to pay school loans or whatever you need for school will not will not incur a 1099 distribution, therefore, it does not get reported too fast for schools.
More importantly, those high-end profile schools we all want to get into.
Death penalty for protection. Now, we all know eventually we're all going to pass away.
When we pass away, nobody knows.
But when you do pass away, you're going to have the confidence that you're going to be able to leave a large legacy to protect your family.
And if your children are still in college, that money can be able to pay the difference of the college loans to make sure they'll be able to graduate and be safe.
EFC Options for College Funding Recap
As I said before, every family is a little bit different. It'd be impossible for me to say, you know, "This is the best option for you," without looking at your scenario.
This is the benefit of working with a certified college financial planner because, one, they're going to look at your full financial aid.
Two, they're going to determine what school's the best fit for you.
And, three, they're going to determine which college funding option is best.
You might be a family that just needs to, go into a profile school, so maybe a MEC option. Maybe a MYGA option, if you don't have a lot of income to fund anything else, and you might be going to a state school, university.
Or for that matter, you might have a lot of income, you think you might not qualify for financial aid.
But that money that you had allocated that you're going to pay for school, you can still use that money to pay for school by using loans out of the IUL policy. That way, your kid can go to their dream college.
Contact your certified college planner to find out which option is best for you. Thank you.