It makes perfect sense to dedicate some time to the discussion of paid-up additions and their role in cash value life insurance. You’ll find them under a few different names (additional insurance rider, enricher rider, enhanced paid-up additions, etc.), but it all means the same thing.
This feature of a whole life insurance policy is critical for creating a cash-rich policy, and we’ll take some time to explore what paid-up additions are, how they function inside a policy, and, most importantly, why you want them.
To begin, paid-up additions are immediately paid-up miniature life insurance policies. They have a cash value equal to the amount of the incoming money (e.g., if you put in a dollar, the paid-up additions cash surrender value is immediately one dollar, minus a load fee where applicable).
Every insurance company assesses a load fee against paid-up additions (and this amount varies widely) so the cash surrender value will reflect this deducted amount.
Also, because paid-up additions are an immediately paid-up insurance policy, they come with a death benefit that is a multiple of the incoming money (e.g., $1 in yields $5 in death benefit), and these miniature policies are participating whole life insurance, meaning they earn dividends.
Keep in mind that mutual insurance company ownership is vested in policyholders, so the more death benefit, the greater the ownership.
Typically, the default dividend option on a policy is to use the cash to purchase paid-up additions, and this use has a compounding effect (for the mutual fund savvy among us, think reinvested dividends).
So, the cash paid from the dividend purchases paid-up additions, which earn additional dividends, which also go towards purchasing more paid-up additions, which earn even more dividends, which buy more paid-up additions, which…well, you get the idea.
The dividend option alone can be pretty powerful, but the most enriching use of paid-up additions is through a rider that enables the policy owner to place his or her own money into the policy to purchase paid-up additions.
It’s like making an extra deposit of money (but, for the sake of not being sued or censured by the state insurance department, please understand that it’s not a deposit; we’re happy to clarify this point – just contact us).
Because they are immediately paid up and begin earning dividends right away, paid-up additions will grow cash surrender value faster than a policy without a rider with which the policyholder adds money.
For this reason, using paid-up additions to yield better returns on one’s life policy is a common practice.
It’s also safe to say that the more money you put towards your policy that goes to paid-up additions, the more money you’ll have in the policy (probably), and the better your overall internal rate of return will be.
As you know by now, we’re not big fans of general rules of thumb and suggest you always take time to review your proposals.
Brandon launched the Insurance Pro Blog in July of 2011 as a project to de-mystify the life insurance industry. Brandon was born in Northern New England, and he currently calls VT home. He attended Syracuse University and graduated with a triple major in Economics, Public Administration, and Political Science.