Life Insurance Dividends Left to Accrue Vs. Paid-Up Insurance

Certain life insurance policies earn dividends from the insurance company -- the dividends are a portion of the profits earned by the insurance company. When you apply for a whole life policy, you must decide what to do with the dividends earned on the policy. The dividends can be paid out to you as cash, or you can use the dividends to reduce the annual premium. Alternatively you can allow the dividends to accrue and earn interest, which allows you future access to the money if you need it; or you can use the dividends to buy paid-up additions, meaning that each dividend buys a small amount of additional life insurance.

Leaving dividends to accrue at interest is a little bit like keeping the money in a savings account. Your life insurance dividends accumulate, and the insurance company pays interest too. If you use this option, the face value of the life insurance policy stays the same. When you die, this face value plus the accrued dividends would be paid to your beneficiaries. In the meantime, however, choosing to let the dividends accrue at interest gives you flexibility to withdraw some or all of the money if you need it. This money is considered taxable income.

The paid-up additions option uses each annual dividend to purchase an additional amount of life insurance. The result of a paid-up addition is a larger amount of life insurance. In turn, each paid-up addition builds its own cash value and also earns dividends. The cash value build-up is tax-deferred under the tax rules for life insurance cash value.

Selecting paid-up additions produces both an increased death benefit and increasing cash value. Leaving dividends to accrue at interest allows you to access the cash build-up without affecting the life insurance coverage. The life insurance agent should show you the projected dividends and cash value for each of the options, so you can make the best choice for your situation.