What are life insurance dividends and how do they work? What kinds of companies pay dividends? Are life insurance dividends taxable? What are your life insurance dividends options? In this article, we’ll try to answer “everything you always wanted to know about life insurance dividends but were afraid to ask!”
What are life insurance dividends?
Mutual Life Insurance companies share their profits with participating policy holders. They do so via a dividend. This dividend is declared annually, usually around the end of the calendar year. You may have seen recent announcements about 2019 dividend payouts. Many companies declared their biggest dividend payouts ever, including:
- Northwestern Mutual, which will pay policy holders $5.6 billion in 2019.
- New York Life announced that the company expects to pay eligible participating policy owners a record dividendpayout of $1.8 billion.
- MassMutual (Massachetts Mutual) expects to increase dividend payments to $1.72 billion.
- Guardian Life will pay a $978 million dollar dividend this year, also a record payout.
Note this dividend is listed as a dollar figure and only sometimes an interest rate (more later on the latter).
Dividends represent profits are paid to policy holders annually. We’ll cover dividend options below.
What kind of life insurance pays dividends?
Dividend-paying life insurance is almost always whole life insurance from a mutual company such as Guardian, MassMutual or New York life, to name some of the better-known mutual insurance companies. (MetLife is an exception… they have demutualized but still pay a small dividend.)
Mutual insurance companies are companies owned by the policy holders. In contrast, “stock” insurance companies are corporations owned by shareholders of company stocks.
Policies that pay whole life dividends are also known as “participating life insurance,” or a “participating policy contract.” That simply means that the policy owners “participate” in sharing in the profits of the insurance company.
Term life insurance, universal life insurance, and variable life insurance policies do not pay dividends. (Term life purchased from a mutual company is not a participating policy.)
How do whole life dividends from a life insurance company differ from other dividends?
The word “dividend” causes confusion because it is most often used in connection with a public company paying a stock dividend. If you own stock in a public company that pays dividends, you might receive a quarterly check from the company. A stock company might also pay stock dividends, which come in the form of additional shares rather than cash. Dividends represent corporate earnings and are determined by a company’s board of directors.
Life insurance dividends also represent earnings. However, mutual life insurance companies, by law, must share ALL profits of the company with participating policy holders. Profits over and above monies set aside for legacy benefits and operating expenses are distributed back to policy holders in the form of dividends. (In contrast, the objective of a stock insurance company is to make a profit for its shareholders or stockholders.)
If dividends are paid and reinvested into the policy as paid-up additions, they become part of the guaranteed cash value and part of a new, higher basis or floor that increases future gains—both guaranteed gains and dividend payouts. Cash value can never lose value is guaranteed to grow by at least a minimum guarantee. Therefore reinvested dividends cannot be lost due to a market downturn. Any dividends paid and reinvested ensure that any future cash value gains and dividend payouts are actually increased!
Compare this to a stock dividend. Most people re-invest their stock dividends. If the price of the stock goes down after that reinvestment, you have essentially “lost” your dividend. You must wait for the price of the stock to go back up in order to “recover” your dividend. (Of course you can take dividends in cash in which case, you wouldn’t lose it.)
What does the declared whole life dividend interest rate mean, exactly?
Annual announcements of dividends are usually accompanied by the announcement of an interest rate, as well. This represents the dividends as a “gross” interest rate. The actual dividends distributed are reduced by the three areas of expense inside a whole life policy: the mortality cost, commissions, and the expenses of running the mutual company.
It is tempting, yet not necessarily helpful to compare “gross dividend rates” from one company to another. This gross rate does not have meaning to the individual policy holder. The only thing that has meaning is the net rate (after the three expenses listed above.) The only software we’ve seen that identifies the next rate is available at TruthConcepts.com. (Full disclosure, Todd Langford is one of the founders of the Prosperity Economics™ Movement.)
For example, your mutual company may say its 2019 dividend is 5.9%. That is, as Todd likes to say “just a fun fact.” In order to figure out how much your cash value is growing this year (or over a period of years, which is more meaningful) special calculators must be used to analyze this. These might reveal that your cash value is growing this year at an average net rate of 3.9. In other words, by the time it reaches your pocket or policy, the gross dividend is reduced by around 2% of costs.
This discussion should include the difference between typical savings accounts and the guaranteed cash value of a life insurance policy (whether or not dividends are being added to it). A savings account or CD grows each year by a specified interest rate. The guaranteed cash value of a policy grows every year by a guaranteed dollar figure, not by an interest rate. This is important because if your account has no money in it, you should not care what the interest rate is. Money growing by a dollar figure is more meaningful.
Of course, an interest rate can be extrapolated from the growth. Using the above calculators, we can interpolate the interest rate and see the guaranteed cash value has a gross rate of 4% and a net rate of about 2%. The dividend then adds to the guaranteed amount, increasing gains for a total of 5.9% gross and 3.9% net in the example mentioned above.
What are common whole life dividend options?
There are more than a dozen options, but these are the most-used:
Purchase “Paid-Up Additions.” PUAs represent additional “prepaid” insurance which builds cash value, earns dividends, grows tax-deferred, and increases the death benefit. This is a way of reinvesting into the policy and is usually the most popular option.
Cash / Check: A policyholder may request that the insurer send a check for the dividend amount. In this way, a policy can be used to create an annual income for the policy holder. Dividends are paid annually on the policy anniversary date.
Premium Reductions: A policyholder may request that the dividend be put towards future premiums to offset the cost. Annual dividends are applied towards the premium on the policy anniversary with this option. With established policies, dividends can eliminate premium payments completely.
Policy Loan Reductions: Dividends can help pay off a policy loan, reducing and even eliminating the need for cash-out-of-pocket.
Accumulate at Interest: The annual dividend may remain with the insurer to earn interest. This functions like a savings account. The interest earned is taxable to the policy owner annually, 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.
What option do we recommend? In most cases, we recommend purchasing paid-up additions during the early years of your policy, then taking the dividend in cash during the later years or your policy (or policies). This maximizes both policy growth and (eventual) income drawn from the policy. If you have outstanding policy loans or if you are having cash flow issues, applying dividends towards loans or premium can make the most sense.
Aren’t whole life dividends just a return of overpaid premium?
They are technically classified as a return of premium, but they don’t necessarily work that way in the real world. Dividends paid over time can exceed the total amount of premium paid—sometimes significantly! Therefore, it’s more accurate to say that dividends also represent the profits of the company. Dividends must be paid when companies are profitable—it’s one of the guarantees of whole life insurance. Because life insurance companies are managed very conservatively, there is almost always a modest profit.
Are life insurance dividends taxable?
Fortunately for whole life policy holders, the IRS does define dividends as a return of excess premium and therefore not taxable. However, be aware that if you take dividends in cash, you can owe taxes on dividends paid over and above the amount of premiums paid. Dividends re-invested as Paid-Up Additions are not taxed.
In contract, cash dividends from public companies in the stock market are taxable.
Are whole life dividends guaranteed? If not, how reliable are they?
We love this question, because the answer really creates confidence in the stability of the asset! No, whole life insurance dividends are not guaranteed. However, mutual companies have paid dividends every year for more than 150 years, even throughout:
- The Civil War
- World War I
- The Influenza Epidemic
- The Great Depression
- World War II
- The Savings and Loan Crisis
- The Dot Com crash
- The Subprime Mortgage Crisis and Great Recession.
We think that’s a pretty good track record!
How can I earn whole life insurance dividends?
Start a whole life policy! This type of whole life builds cash value faster—earning larger dividends more quickly—than typical whole life insurance policies.
Ask your Prosperity Economics™ advisor about whole life insurance or convertible term. If you do not have an advisor who is experienced with mutual life insurance, contact the Prosperity Economics™ Movement for assistance.
How can I learn more about whole life insurance?
The Prosperity Economics™ Movement has published two best-selling life insurance books on Amazon.com. Live Your Life Insurance will change how you think about whole life insurance! It explains why it is not just “death insurance,” but has many benefits you can use throughout life to build wealth and financial certainty. It is a quick read (less than 100 pages) with many examples of how to use life insurance effectively at every stage of life.
Busting the Life Insurance Lies addresses 38 myths and half-truths about (primarily) whole life insurance, including “pro” whole life myths from overzealous agents! You have heard some of these myths and misconceptions… now get the whole scoop.
Do you have any other questions about life insurance dividends? Feel free to leave a comment below!