HOW ARE DIVIDENDS CREDITED TO WHOLE LIFE POLICIES?
Have you heard of life insurance policies that pay policyholders dividends? Yes, stocks aren’t the only asset that can generate dividends. Some whole life insurance policies pay dividends, too. These payouts can be beneficial in so many ways, and you usually have different options for managing dividends from your policy. In this article, we'll explain some of these options and how a life insurance policy can pay dividends.
WHAT ARE DIVIDENDS?
Dividends are payments made by a life insurance company in exchange for the premiums you have paid. The payout you receive is a percentage of the value of your insurance. Based on your insurer's financial performance, this percentage changes each year.
You need a participating whole life insurance policy to obtain a life insurance dividend. This simply means that policyholders are "participating" in the insurance company's earnings. Payouts are not guaranteed though, and insurers are not obligated to pay dividends every year. They only do so if it is financially feasible. Hence, rather than relying on dividends for income or coverage, it's best to see them as a bonus. Meanwhile, term life, universal life, and variable life insurance policies do not pay dividends.
HOW DOES DIVIDEND-PAYING WHOLE LIFE INSURANCE WORK?
Dividend-paying whole life insurance works just like regular whole life insurance in that you pay premiums for lifelong coverage and a cash value feature that earns interest over time. The primary difference is that you earn some extra money if your insurer has a good financial year. Here's where the funds come from. When you buy a participating life insurance policy, your insurer pools and invests the cash or investment portions. Surpluses from these investments are used to provide dividends to policyholders.
When insurers' investments and insurance policies perform well financially in a given year, they can choose to pay dividends. The amount you get is mostly determined by your cash value and the current dividend interest rate applied to cash values by the insurer. For example, if you have an $8,000 qualifying cash value and a 5% crediting rate, you will earn $400 in dividends for the year.
When you're shopping for insurance, your agent will provide you with a policy summary that shows how much dividends you may expect to receive each year.
HOW ARE DIVIDENDS PAID?
If you qualify for dividends, you have the option of how to spend them. Participating whole life insurance that participates can pay dividends in the form of cash, reduced premium deductions, a paid-up additional policy, or an extended/enhanced term policy.
1. Receive Cash
Sometimes, simple is best, and what’s more accessible than outright cash?. You can request a check and use the money in any way you want. And you can still have the rest of your cash value grow by the guaranteed annual growth rate even though you’ve stripped out that year’s dividend. Sounds like a good source of annual income, but hey, don't depend on it. You might not always get it.
Plus if your goal is to maximize your life insurance coverage, other dividend options may make more sense.
2. Buy Paid-Up Additional Insurance (PUA)
You can decide to use the dividend amount to purchase additional insurance or prepay on their policy. Paid-up insurance is life insurance that does not require additional premium payment and is a great way of reinvesting into the policy. Yeah, yeah, we know what you are thinking. You don’t want more insurance, you want maximum cash value growth, yeah? Well, with PUAs you get both. Yes, you read that right. When you choose this option, your dividends buy you additional insurance—including a bigger death benefit—that does not require future payments. That insurance also has a cash value and can potentially generate additional dividends.
3. Reduce Premiums
That’s right. Whole Life insurance dividends can pay your premiums. Typically, this is on a dollar-for-dollar basis for example, if your annual premium is $900 and you get a $100 dividend, you could apply it to your premium and pay only $800 out of pocket. With established policies, dividends can eliminate premium payments completely. You also won’t lose any of the benefits associated with your policy or reduce the growth rate of your policy’s cash surrender value.
Now, if your annual dividend is greater than your annual bill premium amount, you may request that the excess dividends be paid to you in cash, used to reduce your loan amount, left to accumulate at interest, or used to purchase paid-up additional insurance.
4. Repay Outstanding Loans
If you have a loan balance on your policy, you can apply your dividend payout dollar for dollar to reduce it. Dividends can help pay off a policy loan, reducing and even eliminating the need for cash-out-of-pocket. Be sure to monitor your loan carefully, and plan to make payments even if you do not receive dividends, since they’re not guaranteed and the amount may vary from year to year.
5. Earn Interest
If you don’t need the money immediately, you can ask the insurance company to hold your dividend payments in an interest-bearing account. If you select this option, your dividends will earn interest at a rate specified by your insurer. You can withdraw this at any time, but the interest earned is taxable, and money can be withdrawn without affecting the life insurance portion of the policy. Money accumulated becomes payable in addition to the face amount of the whole life policy as a death benefit.
6. Enhanced Insurance
Enhanced insurance uses a combination of whole and term insurance to meet your insurance needs. The dividends from your policy are used to buy paid-up additions and 1-year term insurance. The insurer establishes a base whole life policy and then acquires a term policy with the policy dividends to increase your coverage to the desired level. When compared to a single whole life policy with the same level of coverage, this combination structure frequently results in a lower monthly premium.
You can modify your dividend option at any time in most cases, although it depends on your policy. If you can't commit to a single-use policy, tell your insurance agent you want a flexible policy that lets you choose how you use your policy dividends.
ARE DIVIDENDS TAXABLE?
You might guess that these dividends would be considered a profit distribution and that the policyholder would be responsible for paying taxes on them. But guess what? The IRS defines them as a return of surplus premium and as such, they are not taxable. However, if you receive dividends in cash, you may owe taxes on dividends if the amount you receive in dividends exceeds the amount of premiums you've paid into your policy. If you choose to leave your dividends with your insurer to earn interest, the interest you earn is taxed as well. To make sure you're aware of your tax status, evaluate your policy with a CPA and insurance expert.
Now, dividends aren’t the only factor to consider when choosing life insurance. The best insurance company for you will be financially stable and able to meet all of your family's financial requirements. You can speak to an agent to help you out or Get Insured through Black Insure.