Do You Need Life Insurance for Your Student Loans?
Depending on the type of student loan, it might be a good idea for your cosigner to get life insurance to cover the cost of repaying your student loans if you die. Some student loans already have a death discharge but others do not.
When Should You Get Life Insurance for Student Loans?
Some types of student loans are discharged if the borrower dies. These include federal student loans, the Federal Parent PLUS loan and almost half of private student loans. The Federal Parent PLUS loan is discharged upon death of the borrower even if the loan was made with an endorser.
However, there are several scenarios in which life insurance coverage is recommended:
- Cosigned private student loans without a death discharge. If a private student loan was obtained with a cosigner and the loan terms do not discharge the loan upon the death of the borrower, the cosigner might be responsible for repaying the debt if the borrower dies. The cosigner most often is the borrower’s parent but the cosigner also can be the borrower’s sibling, grandparent, other relatives or a friend.
- Tax liability from discharge of Federal Parent PLUS loans. Although Federal Parent PLUS loans are discharged upon the death of the borrower or the death of the undergraduate student on whose behalf the loan was obtained, the discharge might leave the borrower or the borrower’s estate with a tax liability because the cancelled debt will be treated as taxable income to the borrower.
- Private student loans borrowed by married borrowers in a community property state. Even if a married borrower’s spouse did not cosign a private student loan, the spouse might become responsible for repaying the private student loan if the loan was borrowed during the marriage, the borrower dies and the couple was living in a community property state at the time of death. There are nine community property states: Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin.
What Type of Life Insurance Policy is Best?
Cosigners should get a term life insurance policy or a decreasing term life insurance policy. A regular term life insurance policy provides a fixed death benefit equal to the face value of the policy. A decreasing term life insurance policy has a death benefit that decreases over time, matching the decrease in the amount owed as the borrower repays the debt.
Decreasing term life insurance policies are less popular, except for mortgage insurance. Level term life insurance policies are priced competitively. There is not much potential savings from getting a decreasing term life insurance policy. Very few insurers offer decreasing term life insurance policies. Regular term life insurance policies are much more common.
Alternatively, one could ladder together several level term life insurance policies, such as combining a 20-year term life policy with a 10-year term life policy. However, a level term policy for the full amount for the longer term is usually less expensive, so there’s no benefit from trying to be more precise in the coverage.
Beware of life insurance salespeople promoting so-called “permanent” insurance, such as whole life or cash value life insurance. The commissions on such insurance are higher than on term life insurance because the cost is higher. Term life insurance provides just the coverage you need without any unnecessary add-ons.
Who is the Insured and Who is the Beneficiary?
The insured should be the borrower.
The cosigner should be the owner and beneficiary of the life insurance policy because they will be responsible for repaying the debt if the borrower dies.
If the borrower pays off the student loan debt early, the cosigner can transfer ownership of the policy to the borrower.
How Much Life Insurance Coverage Should You Seek?
The term life insurance policy on the borrower should have a face value equal to the initial total student loan debt with a term that equals or exceeds the longest repayment term of the student loans.
For Federal Parent PLUS loans, the face value should be equal to the tax liability incurred upon discharge of the student loans, typically 25 percent of the loan amount.
Term life insurance is inexpensive because most traditional college students are young and healthy. A term life insurance policy on a 20-year-old or 30-year-old should cost less than $100 a year for typical undergraduate student debt and less than $150 a year for typical graduate student debt. The annual cost should be less than 0.1 percent of the face value of the term life insurance policy.
Term life insurance usually is sold with 10-, 20- or 30-year terms. If the longest repayment term on the student loans is in between, round up to the nearest term. For example, get a 30-year term if the repayment term is 25 years.
What Can You Do If You Didn’t Get Life Insurance?
If you did not get life insurance on the borrower and the borrower dies, ask the lender about their compassionate review process. You might need to call the lender’s ombudsman as opposed to the servicer’s call center.