What Is an Add To Cash Value Option?

The add to cash value option is a contractual term found in cash value life insurance policies. By exercising the add to cash value option, the policyholder allows for the dividends earned on their policy to be added to the policy’s cash value, rather than being paid out to the policyholder. 

Key Takeaways

  • The add to cash value option is a provision found in many life insurance contracts.
  • It allows the policyholder to have the dividends earned within their policy reinvested in the policy’s cash value account.
  • This in turn can lead to greater benefits in the future, such as allowing the policyholder to borrow against or withdraw from their policy's cash value.

How Add To Cash Value Options Work

Holders of cash value life insurance pay premiums for their insurance coverage, a portion of which are directed into a cash value account. This cash value can then be invested by the insurance provider on the policyholder’s behalf, accumulating interest and dividends in the process. The policyholder can use the cash value in their account in various ways, such as for paying the policy’s monthly premiums, or as a source of collateral for loans.

In order to help build their cash value more quickly, policyholders can also opt to have the dividends earned on their account automatically reinvested into the account’s cash value. Although this will decrease the income paid to the policyholder in the short term, it could benefit the policyholder in the medium or long term.

Ultimately, the decision of whether to exercise the add to cash value option will depend on factors such as the policyholder’s short-term cashflow needs and the prospects for longer-term returns on investment within the insurance policy. After all, the policyholder could withdraw all or a portion of their accumulated cash value and invest the proceeds themselves. Therefore, when deciding whether to reinvest their dividends into their cash value, policyholders will want to first evaluate the level of returns that they can reasonably expect from their insurance policy going forward.

Real World Example of an Add To Cash Value Option

Michaela is a young professional who recently purchased life insurance. Under the terms of her insurance contract, a portion of her monthly insurance premiums accrue to a cash value account that is managed by her investment company on her behalf. The insurer invests this cash value in various investment vehicles, with the intention of growing it over time.

Because she is in her early 30s, Michaela has a long-term investment horizon. Therefore, she decides to exercise the add to cash value option in her insurance contract, allowing the dividends earned on her cash value account to be reinvested into the policy. Her intention in doing so is to allow the policy’s cash value to grow more quickly in the medium and long term. 

Eventually, Michaela can benefit from this cash value through actions such as borrowing against the cash value, withdrawing the cash value, or using the cash value to pay some or all of her monthly insurance premiums.