How Accumulation Option Works

Each year, some insurance types pay the policyholders dividends if an insurance company's performed better than estimated. For the dividends the policyholders receive, they have several options planned for them, including accumulation. The interest earned through reinvesting back the dividends to the accumulation policy is taxed annually. The option of accumulation gets enjoyed by people who have permanent life insurance.

As long as the insurance companies pay the dividends as accumulation part remain in the cash value, the tax-free consideration of capital return. An amount above the return of capital is constantly subjected to taxing whenever there is a withdrawal in dividends. Taking the entire amount as a loan will, however, remain free from tax.

At the death of the insured, there is no payment of the portion of any cash value. At times in whole life policies, as the cash value continues to grow, the death benefit may also develop. It results from the automatic buying of mini insurance policies by dividends, increasing the face value. Only the cash value will be available for you to withdraw upon surrender.

Real-World Example of Accumulation Option

John has a life insurance policy of $100,000. The procedure requires him to pay $3,000 as the annual premium payment.

In his account of accumulating interest by the insurance company where the dividend amount gets deposited, he earns an annual interest of $1,000. As premiums, he decides to reinvest the amount.

There will be an increase in interest rates and dividend amount with time, so John's accumulation options cover his premiums. However, a few years later, the interest rates are no longer favorable, and his interest rate is no longer sufficient for the premium payments.

Types of Accumulation Option

There are five types of options when it comes to accumulation. They are:

  • Premium reduction: The dividend amount is subtracted from the policyholder's current due premium. The policyholder also remits the insurer difference.
  • Cash option: The policyholder receives dividends in cash.
  • Term Insurance Purchase: Some insurers, especially those that offer the fifth dividend option, usually use a portion of the dividend to purchase term insurance for one year. On the other hand, the remainder gets used for interest accumulation or purchase additions that get paid up.
  • Buying paid-up additions: Every dividend gets used to purchase an additional small amount, whole life insurance whose payment is based on the age of insured. The buying process is done at rates with no loading expenses, and there is no insurability evidence required.
  • Accumulation at interest: The policy owner's dividends are maintained equivalently to the saving account that bears interests. There is a minimum rate guarantee, but there might be crediting of interest of a higher rate when the conditions warrant.

The policyholders might get dividends for the buying of more insurance (paid-up insurance). The insurance that gets paid up can also earn dividends and build cash value. The growth of income tax-deferred is a result of dividends and cash value. The total death benefits get increased as a result of additional paid-up insurance.

When all the premiums paid to the whole policy are less than the cash value, the taxes will be due. The policyholder may use the dividends to pay for a portion of the existing premiums. Also, the policyholder may opt to receive the dividends in the form of cash. Some insurance companies have been paying dividends to policyholders of whole life insurance for about 100 years.