Debt Views

If your policy is issued by a mutual company or as a special policy by a stock company, you will receive annual dividends. You have several choices in their use. Which one you select is of importance in your estate picture.

• You can take your dividends in cash. Since a dividend is considered a return of a part of the premium, there is no income tax on the dividend receipt until they exceed the premiums paid.

• You can apply them to your premium payments, thus reducing your annual payments to the company.

• You can leave them to accumulate with the company, and receive in return a guaranteed rate of interest on them. This interest rate is often increased because of increased company earnings. The accrued interest is taxable, and must be reported annually, whether or not you withdraw it. You may withdraw it at any time (at which point you would owe tax), or leave it as a savings account.

• You can buy additional paid-up insurance with your dividends. This is an attractive option; the insurance is at “pure cost” (meaning there is no overhead or “loading” charge); therefore, it is cheaper than insurance purchased in the ordinary way. The additional insurance will have a cash value like any other type of permanent insurance and often this cash value may be used to pay the premium on the policy, or it may be used to purchase additional paid-up insurance.

• You can use a portion of your dividends to automatically buy each year one-year term insurance equal to the cash value of the policy. No physical examination is required for this purchase. This option is called the “fifth dividend option.” If you use it, you are purchasing additional protection at “pure” insurance rates.

The fifth dividend option is important. It cancels out one of the major objections to life insurance as an investment: The fact that the owner becomes a “coinsurer” with the insurance company on the policy.

How does this happen? Ordinarily, as the policy continues in force the cash value grows; the death value, however, remains the same. When the death claim is finally paid, the company is in effect returning the cash value (which belonged to the insured anyway) plus the balance of the face value. This balance is the only amount which really represents the insurance risk. But when the fifth dividend option is used, the company must pay at risk, over and above the cash value, the full face value of the policy at most ages.

In addition, the fifth dividend option has a number of uses in helping to finance a policy-which is a subject in itself.