Key Things to Know
Dividend-paying whole life insurance, or participating policies, share in the insurance company’s profits, potentially increasing the policy’s cash value and death benefit. Factors influencing dividend payments include the company’s profitability and policyholder choices regarding dividend options. While dividends are generally tax-free, withdrawals may impact the policy’s overall value.
- Dividend-Paying Whole Life Insurance: A type of whole life insurance that shares in the insurance company’s profits, potentially resulting in dividend payments.
- Non-Dividend-Paying Whole Life Insurance: A type of whole life insurance that does not earn dividends, regardless of the insurance company’s profitability.
- Dividend Impact on Cash Value: Dividends can enhance the cash value of a whole life policy through the paid-up additions dividend option.
- Dividend Impact on Death Benefit: Dividends can increase the death benefit of a whole life policy through paid-up additions or purchasing term life insurance.
- Impact of Profitability on Dividends: Increased profitability for the insurance company often leads to higher dividend payments for policyholders.
- Factors Affecting Dividends: Factors that can lead to a dividend reduction include policy owner withdrawals, reduced paid-up nonforfeiture benefits, policy loans, and the life insurer’s change in profitability.
- Tax Implications of Dividends: Whole life insurance dividends are generally not taxable, but there are some circumstances that could make them taxable.
- Dividend Rate Variation: Insurance companies exhibit varying dividend rate changes over time, with some showing more fluctuation than others, but there is a noteworthy uptrend that began two years ago due to rising insurer profitability brought on by increased interest rates.
As its name suggests, dividend-paying whole life insurance is a type of whole life insurance that generates dividends. The official insurance term used to identify a dividend-paying whole life policy is “participating,” as the policy shares in the divisible surplus (profits) of the insurance company.
The alternative to a dividend-paying whole life policy is a non-dividend-paying (also known as non-participating or non-par) whole life policy. Once a non-dividend-paying whole life policy is issued, it will never earn dividends, regardless of the insurance company’s profitability. Conversely, a dividend-paying whole life policy is eligible to receive dividends, although this does not guarantee dividend payments.
Life insurance dividends provide significant value that enhance various features of a whole life policy beyond its guaranteed benefits. Additionally, life insurance dividends enjoy several tax-favorable benefits.
How do Whole Life Dividends Work?
Each year, the life insurance company’s board of directors evaluates the company’s profits and determines the proportion of these profits to distribute to policyholders who own dividend-paying policies. Upon declaration, the policyholder receives the dividend at the subsequent policy anniversary. The dividend earned is allocated to the dividend option selected by the policy owner.
It is crucial to comprehend that while dividend payments can accumulate over time, the factors influencing a rising dividend are diverse. Consequently, the actual dividend payment may deviate from the previous year’s dividend payment. This is pertinent because most life insurance ledgers presume a scenario of continuous dividend growth. While this is conceivable, it seldom materializes in practice.
How do Dividends Affect A Whole Life Policy's Cash Value?
Dividends can significantly enhance the cash value of a whole life policy through the paid-up additions dividend option. This option utilizes dividends to acquire additional mini whole life policies that are immediately paid up and accumulate immediate cash value. These policies are attached to the original whole life policy, and their death benefit and cash value contribute to the overall death benefit and cash value of the whole life policy.
Furthermore, these paid-up additions have the potential to earn dividends, effectively compounding the growth of the whole life policy. The dividend purchases paid-up additions, which in turn earn more dividends. These additional dividends can be used to acquire even more paid-up additions, leading to a continuous cycle of dividend reinvestment and growth.
How do Dividends Affect A Whole Life Policy's Death Benefit?
Dividends can impact the death benefit of a whole life policy in two distinct ways.
Firstly, the utilization of paid-up additions will also augment the death benefit. For every dollar used to purchase paid-up additions, a multiplier of the death benefit is generated (e.g., $1 invested in paid-up additions may result in $3 in death benefit). The specific multiplier varies based on the age of the insured. As previously discussed, paid-up additions accumulate dividends over time, leading to exponential growth in the overall whole life death benefit.
Secondly, most whole life policies offer a dividend option to purchase term life insurance. This utilizes the dividend payment to acquire term life insurance that enhances the gross death benefit of the whole life policy. This option will undoubtedly increase the overall death benefit of the policy. However, it is essential to recognize that the death benefit associated with term insurance is not permanent. Additionally, it should be understood that this dividend option is chosen in lieu of paid-up additions, necessitating a comparison of the benefits provided by both options in the present and future. It is also important to note that this dividend option does not contribute to the accumulation of cash value in the whole life policy.
What Causes the Dividend Payment to Go Up?
Two variables influence an increasing dividend payment over time. One of these variables policyholders can control and the other is influenced by the insurance company’s profitability. The policyholder can control the dividend payment by utilizing the paid-up additions dividend option or making elective paid-up addition payments through a specific rider.
The other variable is the insurance company’s profitability. If the insurance company experiences increased profitability year-over-year, there is a strong likelihood that the company will increase the dividend payable to policyholders. It is noteworthy that most dividend-paying whole life policies come from mutual life insurance companies. These types of insurance companies entrust ownership of the company to policyholders, resulting in exclusive benefits for policyholders. Given this structure, it is logical that a more profitable mutual life insurance company would be inclined to pay more dividends to its policyholders.
What Causes the Dividend Payment to Go Down?
Once again, the factors that contribute to a dividend decline are partially under the control of the policy owner and partially under the influence of the life insurance company. Examples of factors that can lead to a dividend reduction include: the policy owner’s withdrawal of specific cash values from the policy, the activation of a reduced paid-up nonforfeiture benefit, taking a loan against the policy (in some cases), and the life insurer’s decline in profitability from one year to the next.
Can you Withdraw Dividends from a Whole Life Policy?
Yes, you can withdraw dividends from a whole life policy. There are two primary methods for doing so:
1. Dividend Option: You can utilize the dividend option to receive the dividend payment in cash. This will result in a direct payment of the dividend to you annually. The insurance company will pay you the calculated dividend payable on your whole life policy as a cash dividend sent via check around the time of your policy anniversary.
2. Paid-Up Additions Dividend Option: If you are utilizing the paid-up additions dividend option, you can request a withdrawal from the policy (some companies may specifically refer to this as a withdrawal of dividend additions). This action involves surrendering the paid-up additions purchased with dividends. Consequently, the overall death benefit on the policy will be reduced (the death benefit created by the paid-up additions you are withdrawing). You will then receive a check in the amount of the cash value of the paid-up additions you requested to withdraw.
Are Whole Life Dividends Taxable?
For the most part, life whole life insurance dividends are not taxable when paid. But there are some circumstances that could make the receipt of a whole life dividend taxable. Here is a video we did to explain dividend taxability in more detail:
Historical Whole Life Dividend Chart
Whole life dividends can and do change over time. Here's a chart that maps out changes among various whole life companies over the past 20 years:
You can see from this chart that insurance company experience variations in their dividend rate—some more than others. While we cannot compare the quoted rate from one company to the other, we can look at how the dividend changed over time and make inferences about how dividends rate change at each company. More dramatic changes during the time frame are less favorable vs companies that had more consistent dividend rates for the entire period.
Lastly, there is a noteworthy uptrend in dividend rates beginning in. the last two years. Rising interest rates, which are a primary driver of increased profitability among life insurers, is the key driver behind this trend. We can anticipate this trend continues if interest rates remain higher than rates experienced during the second half of this 20-year period.