How Whole Life Dividends Are Calculated

Near the end of last year we posted a blog reporting the 2019 dividend payouts for the big four mutual companies, all whose primary product line is whole life insurance. Dividends are a return of premium when carrier results exceed a very conservative projection for investments, income, and expenses.  Dividends are paid annually on participating whole life insurance and determined at the discretion of the board of directors.  They are paid in addition to the guaranteed cash values in the policy, but the dividends themselves are not guaranteed and will fluctuate. Over the last twenty to thirty years dividends have trended downward causing many whole life policies to underperform relative to expectations at policy issue.  The primary driver of this decline in dividends has been the drop in the dividend interest rate or DIR, the investment component of the dividend, but the dividend itself is based on the performance of three parts.

Investment Results: The interest rate portion of the dividend, the DIR, is based on the actual rate of return generated from the investment portfolio.  The cash value of a whole life policy is invested primarily in fixed instruments, a typical breakdown for the investments might be:

  • Bonds: 70%
  • Mortgages: 12%
  • Policy Loans: 4%
  • Cash and Short Term: 4%
  • Stocks: 4%
  • Real Estate: 1%
  • Other Assets: 5%

Over the last few years with low-interest rates affecting investment decisions, carriers have become a bit more aggressive in their investing style, but regulations limit the investment that can be made in equities.  Some carriers have developed venture capital investments in companies that can help them compete in the changing technology environment.  Investment returns are still driven by fixed investments that have lagged, and it is hoped that with current higher fixed market returns, carrier investments will trend upward.

Mortality: Carriers make conservative assumptions about the underwriting risks in their whole life policies.  The mortality most carriers experience is less costly – meaning there are fewer death claims than projected.  When this occurs, the dividend is affected positively.

Operating Expenses: Operating expenses of a carrier are reasonably easy to predict and include overhead and marketing expenses, including commissions and underwriting costs.  But as with mortality charges, the carriers make conservative assumptions about them, and when the operating costs are less than expected, the savings accrue to the dividend paid to the policyholder.

Dividends paid on a particular policy will be affected by the cash value in the policy, whether the policy has a loan and whether out of pocket premiums are still being paid on the policy. In general, a loan-free, premium-paying policy will have the highest dividend payments, all else equal.

The actual dividend paid will have a dramatic effect on the performance of a whole life policy and should be tracked annually especially if dividends will be or are currently being used to pay a premium.  Out of pocket premium expectations may have to be adjusted based on the actual dividends paid. 

Trustees of ILITs should monitor carrier dividends as part of the policy management process.

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