What Are Life Insurance Dividends?
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A life insurance dividend is a payment that insurance companies make to policyholders when they have extra funds from their business year. Essentially, policyholders receive a portion of the insurer’s profits.
Not all life insurance policies offer dividends. To receive a dividend, you need to have a participating policy, which is typically a whole life insurance contract that’s issued by a mutual life company. A mutual life insurance company is owned by policyholders, whereas a stock life company is owned by shareholders.
In order to make dividend payments to policyholders, the insurance company needs to collect more money than it needs to pay death benefits, maintain its reserves, and cover administrative costs. If the insurer’s board of directors determines that it doesn’t need the surplus funds at the end of the fiscal year, it can distribute a dividend payment to policyholders.
Life insurance dividends are paid annually. It’s important to note that dividend payments aren’t guaranteed, though most insurers that offer participating life insurance policies aim to consistently pay an annual dividend. The company’s ability to pay dividends depends on the accuracy of its projections about how much it will need to pay in death benefits, along with other expenses and investment performance. If an insurer has higher-than-expected mortality expenses or its investments perform poorly, it may be unable to pay an annual dividend.
Policyholders usually have the following options for using their life insurance dividends:
Purchase paid-up additional insurance. You can buy additional whole life insurance that increases your coverage and also builds cash value.
Lower your out-of-pocket premium payments. Dividends can be used to reduce the amount of premiums you pay for the year. For instance, if your annual premium is $1,200 and the policy pays a $200 dividend, you could apply the dividend to the premium and only pay $1,000. You could also use the dividend to reduce the number of premiums. If your $1,200 premium is divided into monthly installments of $100 each, you could use the $200 dividend to skip two months of payments.
Have it paid in cash. If you receive a life insurance dividend, you could simply opt to have the insurer cut you a check and spend the money however you choose.
Use it to reduce the balance of an outstanding policy loan. If you’ve borrowed against the cash value of your life insurance, you could apply the dividend toward lowering the amount you owe or paying the loan interest.
Let it accumulate interest. You can deposit the dividend with the insurer and allow the money to earn interest, then withdraw it whenever you want without reducing the cash value. The interest may be subject to taxes when you withdraw it.
Purchase one-year term life insurance. The amount of term life insurance will depend on your age and other factors.
Most life insurance dividends are considered a return of an overpayment of premium, rather than an investment gain. Therefore, they typically aren’t taxable.
Learn more about whole life insurance
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