Paid-up additions are the way to add significant value to a whole life insurance policy. Used as both an elective rider and a dividend option, this unique feature of whole life insurance will deliver the best bang for your buck with respect to cash value accumulation. It will also add significantly to your outstanding death benefit amount.
But there is a cost to this feature and you should understand that the paid-up additions feature varies from company to company. You cannot assume that this feature works universally across all life insurance companies. So today we're going to understand what the PUA fee is, where it goes, where you can find out more about it on your own policy, and if the fee can change over time.
Also, if you're looking for the most comprehensive guide on paid-up additions including not only fees but specifically how they work and how you can maximize the benefit they offer, check out the Ultimate Guide to Paid-up Additions.
How the Fees Work
The insurance company charges the PUA fee when you purchase the paid-up addition. For example, if you have a PUA rider for $1,000 on your whole life insurance policy, each time you pay $1,000 to the rider, the fee will come from this payment. This is the only time that you pay a fee for your paid-up additions.
To walk through a more complete example using the $1,000 rider amount. If the load fee is 8% (roughly average for today's whole life policies), the insurance company will deduct $80 from every $1,000 payment that you make to the rider. That $80 deduction will only take place when you make a payment to the rider. It is not a recurring fee from the cash value.
What about dividends?
The policy on PUA fees for dividends varies considerably among life insurance companies. Some charge the fee, some charge a different fee, and some charge no fee (sort of) when purchasing paid-up additions with a dividend. The majority of life insurers assess a fee against paid-up additions purchased through the dividend option. This fee, however, is part of the dividend calculation and is not necessarily the same flat fee used for the elective rider. Also, because the dividend calculation can change based on company circumstances, the fee can theoretically change (see more information in the last section of this blog post about fees changing).
Where Does the Money Go?
The money collected as part of the PUA fee goes towards company revenue–like all fees collected on all insurance contracts issued. This revenue goes towards whatever objective the insurance company has for its cashflow.
But the majority of dividend-paying whole life policies come from mutual life insurance companies. These companies operate with a fiduciary obligation to their policyholders, so theoretically anything that drives cashflow also drives profits to share with these policyholders. This means at least a part of the fees collected on PUA's likely becomes a component of the dividend payable to whole life policyholders.
Now, there's certainly no guarantee that the majority of the fee collected goes towards paying a dividend to policyholders. While there are legal obligations mutual insurance companies who issue participating policies have to policyholders, these obligations do not specify where the insurer must derive its profits shared with policyholders.
Disclosure in the Illustration
The paid-up additions fee is part of the life insurance illustration. Many illustrations will mention the fee somewhere in the Narrative Summary, but if you cannot find it there, you should also know that all guaranteed and projected values assume the fee.
This means that if you buy a whole life insurance policy, the cash value projected in the ledger (assuming the dividend doesn't change and you pay the premiums as assumed in the illustration) will be the cash value you have at the end of the policy year. It will not be the case that an additional adjustment occurs to your cash value because of the PUA fee. That fee is already “baked in” to the figures you see in the illustration ledger.
Can the Paid-up Additions Fee Change?
For the majority of whole life policies in existence, the fee assessed on the paid-up additions rider will not change. While some companies do contractually mention the ability to change the fee, it's our understanding that they only intend that change for newly issued policies if the company decides it needs to charge more for the rider at that time–i.e. it will not apply the new fee to current policyholders. Insurance companies word their contracts in this fashion to avoid having to reissue a new rider, which involves new filings with all states' insurance regulators.
So whatever fee you currently have on your whole life policy will be the fee you pay for its lifetime. In a few unique situations, there are some companies that issue policies with known fee changes. A few companies issue policies with higher fees in the very first year and a lower fee in all subsequent years. This fee structure exists to put a disincentive on single premium/intentional MEC sales. There are other whole life contracts out there that have a declining fee over the lifetime of the policy. Generally, the fee doesn't drop until the insured reaches a very advanced age–e.g. age 80 and beyond.
Fees on PUA's purchased through the dividend option can theoretically change. In truth, this doesn't mean the actual fee assessed on the paid-up addition changes, but the actual dividend might change as an expression of the insurance company's need. The insurance company knows how many policyholders currently use the dividend option to purchase paid-up additions. If this will result in diminished financial performance at the insurance company, the insurer could choose to adjust the dividend payment across all policyholders to avoid financial stress otherwise created by the dividend payment and subsequent purchase of paid-up additions. We have no evidence that any insurer has ever done this.