Which statement is true regarding policy dividends?
A) Dividends are always guaranteed
B) Nonparticipating policies issue dividends
C) Dividends are always taxable
D) A dividend option is selected by the insured at the time of policy purchase
The Correct Answer and Explanation is :
The correct answer is:
D) A dividend option is selected by the insured at the time of policy purchase.
Explanation:
In the context of life insurance, dividends are typically associated with participating policies. These policies are issued by mutual insurance companies, which may share profits with policyholders in the form of dividends. The purpose of these dividends is to return a portion of the company’s profits to policyholders, based on the company’s overall performance.
Here’s a breakdown of the statements:
- A) Dividends are always guaranteed:
This statement is false. Dividends are not guaranteed because they depend on the performance of the insurance company, including factors such as investment returns, mortality rates, and operating expenses. Therefore, while some years may result in dividends, other years might not. - B) Nonparticipating policies issue dividends:
This statement is also false. Nonparticipating policies, by definition, do not pay dividends. These policies are typically issued by stock insurance companies and do not share in the company’s profits. - C) Dividends are always taxable:
This statement is misleading. Dividends from life insurance policies are generally not taxable as income when received, as they are considered a return of premium. However, if dividends are left to accumulate interest or if they exceed the amount of premiums paid, they may become taxable. It’s important to understand the specifics of the tax laws in your jurisdiction, but in general, the dividend itself is not taxable. - D) A dividend option is selected by the insured at the time of policy purchase:
This statement is true. When purchasing a participating policy, the policyholder is typically given a choice regarding how to receive or use any dividends the policy generates. Common options include taking the dividend in cash, using it to purchase additional insurance (paid-up additions), leaving it to accumulate interest, or applying it toward future premiums. This decision is usually made at the time of the policy purchase but can often be adjusted later.
Therefore, the correct answer is D, as it reflects the flexibility policyholders have in selecting how their dividends will be handled.