Life Policy Options

Life Policy Settlement Options

Settlement options allow policyowners or beneficiaries to choose how the death benefit of a life insurance policy will be paid out, providing alternatives to a lump sum payment.

Key Characteristics:

• Lump Sum Default: Death benefits are typically paid in a lump sum unless an option is selected.

• Settlement Mode: Specifies how the payout is made.

• Selection Rights: Policyowners can choose options while the insured is alive; beneficiaries can choose after death if no option was selected, but cannot change it once selected.

Tax Considerations:

• Principal: Not taxable as income.

• Interest: Taxable as ordinary income.

• Lump Sum: Income tax-free payment of the death benefit.

Types of Settlement Options:

1. Interest-Only Option: Insurer retains principal, pays interest to the beneficiary; interest is taxable.

2. Fixed Amount Option: Fixed payments until the benefit is exhausted; payment amount is constant.

3. Fixed Period Option: Regular installments over a fixed period; payments guaranteed for that period.

4. Life Income Option: Payments for the beneficiary’s lifetime; amount varies by age and life expectancy.

Each option offers unique benefits and flexibility based on beneficiaries' needs, with death benefits not subject to tax but interest being taxable.

Summary of Life Insurance Settlement Options

Settlement options determine how a beneficiary receives death benefits, offering flexibility in distribution over time.

1. Interest-Only Option

• How it Works: Death benefit proceeds remain with the insurer; only interest is paid to the beneficiary.

• Tax Implication: Interest is taxable income.

• Benefit: Suitable for beneficiaries not needing immediate access to the principal.

2. Fixed Amount Option

• How it Works: Fixed payments until the death benefit is exhausted.

• Tax Implication: Only interest is taxable.

• Benefit: Predictable payments, but total received can vary with interest rates.

3. Fixed Period Option

• How it Works: Payments over a set period (e.g., 10, 20 years).

• Tax Implication: Interest is taxable income.

• Benefit: Guaranteed payments for a fixed timeframe.

4. Life Income Option

• How it Works: Death benefit purchases an annuity for the beneficiary’s lifetime.

• Tax Implication: Interest payments are taxable.

• Sub-Options: a) Straight Life: Payments for lifetime only. b) Life Income Period Certain: Payments for lifetime or specified period. c) Life Refund: Remaining balance refunded if full benefit not received. d) Joint and Survivor: Payments to multiple recipients; continues for survivors. e) Joint Life: Payments until first recipient dies.

Here’s a detailed breakdown of the life insurance settlement options in a comparison chart:

Nonforfeiture Options (Guaranteed Values)

Nonforfeiture options are features in cash value life insurance policies that allow policyholders to retain benefits if the policy lapses or is canceled. The three primary options are:

1. Reduced Paid-Up Option

• How it Works: Uses accumulated cash value to purchase a reduced amount of paid-up permanent insurance without needing ongoing premiums.

• Coverage Duration: Coverage lasts until age 100.

• Benefit: Maintains coverage at a lower benefit for life.

2. Extended Term Option

• How it Works: Utilizes cash value to buy a term insurance policy with the same face amount as the original, lasting as long as cash value allows.

• Coverage Duration: Varies; provides coverage for a limited period.

• Benefit: Larger death benefit than reduced paid-up option, but expires before age 100.

3. Cash Surrender Option

• How it Works: The policyholder surrenders the policy to receive the cash surrender value, which is the accumulated cash value minus any loans and interest.

• Tax Implications: Excess over total premiums paid is taxable.

• Benefit: Accesses cash value but loses all coverage.

Key Considerations:

• Flexibility: Options cater to changing financial needs.

• Permanent Coverage: Reduced paid-up and extended term options offer varying degrees of permanent coverage.

• Taxation: Cash surrender excess is taxable.

These options help retain some benefits despite failure to pay premiums or policy cancellation.

Dividend Options Dividends are a benefit for policyholders of participating life insurance policies issued by mutual insurers, which allow sharing in the insurer's financial success (e.g., excess investment earnings, lower mortality rates). While not guaranteed, dividends offer various options for policyowners.

Characteristics of Dividends:

• Source: From favorable financial performance, including excess investment earnings and savings on expenses.

• Payment: Typically paid annually if declared.

• Taxation: Not taxable until total dividends exceed total premiums paid; excess is taxable as ordinary income.

• Control: Policyowners can choose and change dividend options.

Common Dividend Options:

1. Cash Payment: Dividend paid in cash for any use.

2. Premium Reduction: Dividends applied toward policy premiums, reducing out-of-pocket costs.

3. Paid-Up Additions: Dividends used to purchase additional permanent insurance, increasing benefits without extra premiums.

4. Accumulate at Interest: Left with insurer to earn interest, which is taxable as ordinary income.

5. One-Year Term Option: Dividends purchase a one-year term life policy equal to the face value.

6. Convert to Paid-Up Insurance: Dividends increase face value without extra premiums.

Key Considerations:

• Variability: Dividends depend on the insurer’s performance and can be non-existent in poor years.

• Flexibility: Options can be changed based on needs.

• Tax Implications: Generally not taxable until exceeding premiums; interest on accumulated dividends is taxable.

Conclusion: Dividend options offer flexible means to benefit from the insurer’s performance, allowing for reduced premiums, increased coverage, or interest accumulation.

Dividend Options Available

Policyholders of participating life insurance policies can choose from several dividend options to manage their benefits.

1. Cash

   • Description: The policyowner receives the declared dividends in the form of a check on or near each policy anniversary.

   • Benefit: Provides immediate access to cash for any purpose, including paying premiums, saving, or investing.

2. Premium Reduction

   • Description: Dividends are applied toward the next premium due.

   • Benefit: Reduces out-of-pocket premium payments; if dividends cover or exceed the premium, no payment is required for the next year.

3. Accumulate at Interest

   • Description: Dividends are retained by the insurer, earning interest compounded annually.

   • Benefit: Allows dividends to grow over time; however, interest earned is taxable as ordinary income.

4. Paid-Up Additions

   • Description: Dividends purchase single premium, additional permanent benefits at the insured’s attained age, paid out in addition to the original death benefit.

   • Benefit: Increases death benefit and cash value without extra premium payments; the added coverage is permanent.

5. 1-Year Term

   • Description: Dividends purchase a single premium, 1-year term insurance policy based on the insured’s attained age.

   • Benefit: Provides temporary coverage without the need for new underwriting, adding short-term protection.

6. Paid-Up Option

   • Description: Dividends pay off the policy more quickly than originally scheduled. However, premiums may need to be resumed if insurer performance declines.

   • Benefit: Accelerates the policy’s paid-up status, reducing the number of premium payments and potentially paying off the policy sooner.

Summary

These dividend options provide flexibility in managing life insurance policies. Whether reducing premiums, increasing coverage, or accumulating savings, each option offers distinct advantages, allowing policyholders to choose based on their financial goals and circumstances.