With all of the stock market volatility and low-low interest rates, there has been a resurgence of interest in dividend-generating assets. Most people think of stock dividends, but stocks aren’t the only asset that can generate dividends. In fact, you can buy dividend paying whole life insurance, which is often what we recommend for those looking to automate their savings.
In this article, we’ll address:
- 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?
- And more.
Essentially, we’ll try to answer “everything you always wanted to know about life insurance dividends but were afraid to ask!”
What is Dividend Paying Whole Life Insurance?
Dividend paying whole life insurance is whole life insurance that you obtain through a mutual company, rather than a stock company. Mutual Life Insurance companies share their profits with participating policyholders. They do so via dividends. Insurance companies declare their dividends annually, usually around the end of the calendar year. You may have seen announcements about 2022 dividend payouts. Many companies declared their biggest dividend payouts ever, including:
- Northwestern Mutual, which paid policyholders $6.2 billion in 2021, are on track to pay $6.5 billion this year.
- New York Life expects to pay $1.9 billion to policyholders.
- MassMutual (Massachusetts Mutual) expects a total payout of $1.85 billion, up from last year’s $1.7 billion.
Note this dividend is listed as a dollar figure and only sometimes an interest rate (more later on the latter).
Dividends represent profits that are paid to policyholders 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 well-known mutual insurance companies. Mutual companies, as opposed to stock companies, are companies owned by the policyholders rather than shareholders of company stocks.
Whole life insurance that pays dividends is also known as “participating life insurance” or a “participating policy contract.” This simply means that the policy owners “participate” in sharing in the profits of the insurance company. Participating policies are whole life policies that pay dividends.
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 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. Stock dividends could also 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 policyholders. They distribute profits over and above monies set aside for legacy benefits and operating expenses back to policyholders as dividends.
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. The cash value can never lose value and is guaranteed to grow by at least a minimum guarantee. Therefore, you cannot lose reinvested dividends if the stock market tanks. And any dividends paid and reinvested ensure that your future cash value gains and dividend payouts are actually increased!
Compare this to a stock dividend: if you re-invest your stock dividends and the price of the stock goes down, you have essentially “lost” your dividend. Or, 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 it Mean to Have Declared Whole Life Insurance Dividend Rates?
Annual announcements of dividends (the total dollar figure) are often accompanied by the announcement of an interest rate, as well. This represents the dividends as a “gross” interest rate. The actual distribution of dividends is reduced by the three areas of expense inside a whole life policy: 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 for the individual policyholder. The only thing that has meaning is the net rate (after the three expenses listed above) and the only software I’ve seen that identifies the next rate is Truth Concepts. (Full disclosure, I’m married to its creator, Todd Langford.)
An Example of Whole Life Insurance Dividend Rates:
For example, a mutual company may say its 2019 dividend is 5.9%. As Todd likes to say, that is “just a fun fact.” In order to figure out how much my cash value is growing this year (or over a period of years, which is more meaningful) I must use the Life Values tool and the Funding calculator to analyze this. Then I can tell from that work that my cash value is growing this year at an average rate of 3.9. (This will be similar to yours, give or take a bit for age and gender.)
In other words, by the time it reaches my pocket or policy, the gross dividend is reduced by around 2% of costs.
Guaranteed vs. Non-Guaranteed Growth
It’s also important to distinguish the difference between a dividend, which is non-guaranteed, and your guaranteed policy increase. Although dividends are not guaranteed (because they’re based on the company’s profits), most well-known mutual companies have an impressive track record. They’ve paid dividends during every major recession and war for at least the last century, if not longer in many cases. However, even without dividends, your cash value account is guaranteed to grow.
The guaranteed portion of your policy grows by a guaranteed dollar figure, rather than an interest rate like a typical savings account. 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.
However, the total gross and net dividend rates include your guaranteed policy growth. If you use the same Truth Concepts calculators discussed above, you can interpolate that interest rate for yourself. The guaranteed portion of my policy has a gross rate of 4% and a net rate of about 2%. When you include the dividend in this, the total is the 5.9% gross rate and 3.9% net.
How Can I Use My Life Insurance Dividends? Common Dividend Options
There are more than a dozen options for receiving your dividends, yet 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 your death benefit. This is a way of reinvesting into your policy and is usually the most popular option. If you’re interested in using whole life insurance as your emergency/opportunity fund, this is an ideal way to optimize your growth.
A policyholder may request that the insurer send a check for the dividend amount. In this way, a policy can create an annual income for the policyholder. Companies pay annual dividends on your policy anniversary date.
A policyholder may request that the dividend contribute to future premiums to offset the cost. The insurance company applies annual dividends towards the premium on your policy anniversary. 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 you can withdraw money 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 Life Insurance Dividend Options Do We Recommend?
In most cases, we recommend purchasing paid-up additions during the early years of your policy. This helps accelerate and optimize your early cash value (which is your emergency/opportunity fund). Then in the later years of your policy, you can take the dividend in cash to supplement your income. This optimizes both policy growth and (eventual) income drawn from the policy.
However, if you have outstanding policy loans or if you are having cash flow issues, applying dividends towards loans or premiums may make more sense. The beauty of whole life insurance dividends is that you have the flexibility to change depending on your personal economy. So there’s a potential dividend option for every season of your life.
Aren’t Dividends Just a Return of Overpaid Premium?
The tax code technically classifies whole life insurance dividends as a return of premium, yet 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 (many) 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 policyholders, the IRS defines 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 premium paid. Dividends re-invested as Paid-Up Additions are not taxed because they remain a part of your cash value.
In contrast, cash dividends from public companies in the stock market are taxable.
Are Whole Life Insurance Dividends Guaranteed? If Not, How Reliable Are They?
We love this question because the answer really creates confidence in the asset’s stability! No, whole life insurance dividends are not guaranteed. However, mutual companies have paid dividends every year for over 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 excellent track record!
How Can I Earn Life Insurance Dividends?
Start a whole life policy! We specialize in high cash value whole life insurance. This type of whole life builds cash value faster—earning larger dividends more quickly—than typical whole life insurance policies.
Contact us today to inquire about whole life insurance or convertible term. We can answer questions and provide quotes for policies in the form of illustrations. We also have a lot of experience with multi-generational life insurance (policies for children, grandchildren, or parents), and we use advanced analytics tools such as the whole life insurance policy cash value calculator to help you get the most out of your policy.
How Can I Learn More About Whole Life Insurance?
We have two best-selling life insurance books on Amazon. 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.