Participating Policy

What is a Participating Policy?

A participating policy is an insurance contract that pays dividends to the holder. Dividends are generated from the profits of the insurance company that sold the policy and are typically paid out on an annual basis over the life of the policy. Most policies also include a final or terminal payment when the contract matures. Some participating policies may include a guaranteed dividend amount, which is determined at the onset of the policy. A participating policy is also referred to as a "with-profits policy."

Key Takeaways

  • A participating policy pays dividends to the holder of the insurance policy. They are essentially a form of risk sharing, in which the insurance company shifts a portion of risk to policyholders.
  • Policy holders can either receive their premiums in cash through mail or keep them as a deposit with the insurance company to earn interest or have the payments added to their premiums.

Understanding Participating Policies

Participating policies are typically life insurance contracts, such as a whole life participating policy. The dividend received by the policyholder can be taken in different ways: in can be used to pay the insurance premium; it can be left with the policy to generate interest like a regular savings account; or the policyholder can take a cash payment like that on a stock.

Participating Policies vs. Non-Participating Policies

Insurance companies' premiums are based on a number of things including expenses. Non-participating policy premiums are usually lower than those for participating policies because of the dividend expense: they charge more with the intent of returning the excess. This has implications for the policy's tax treatment. The IRS has classified the payments made by the insurance company as a return on excess premium instead of dividend payouts.

For example, an insurance company will base premiums on higher operating costs and lower rates of return than are actually expected. By operating from conservative projections, an insurance company can better protect against risk. In the end, this is better for the individual policyholder because it helps offset their insurance company's insolvency risk, resulting in lower long-term premiums. Participating policies are essentially a form of risk sharing, in which the insurance company shifts a portion of risk to policyholders.

Though the interest rates, mortality rates and expenses that dividend formulas are based on change year to year, an insurance company will not vary dividends that often. Instead, they will alter dividend formulas periodically based on experience and anticipated future factors. These statements apply to whole life insuranceUniversal life insurance policy dividend rates can adjust much more frequently, even monthly.

Participating policies can cost less than non-participating policies over the long term. With cash value policies, the dividend will typically increase as the policy’s cash value increases. From the perspective of the policyholder, whole life policies are essentially risk-free because the insurance company bears all risk – although with participating whole life policies, the insurance company shifts some risk to the policyholder.

However, the question of whether participating policies are superior to nonparticipating policies is a complex one and depends largely on individual needs. Term life insurance is generally a nonparticipating policy with low premiums. It may suit the requirements of an individual interested in providing for their beneficiaries with less payments. But individuals interested in earning regular dividends from their policy in their lifetime may opt for a participating policy.

A participating policy enables you as a policy holder to share the profits of the insurance company. It is also known as a with-profit policy. In non-participating policies the profits are not shared and no dividends are paid to the policyholders.

Mutual companies can issue only participating policies, which allow a portion of the company's premiums to be paid out in the form of policy dividends as refunds, which makes those funds nontaxable as income.

Why choose participating over non-participating life insurance?

A participating policy, also called "with-profit," enables a policy holder to share in the profits of the insurance company in the form of a dividend. The dividend can be used to pay the insurance premium; it can be left with the policy to generate interest like a regular savings account; or the policyholder can take a cash payment like that on a stock. In non-participating policies the profits are not shared and no dividends are paid to the policyholders.

What might a participating policy not be for you?

They may cost more. Non-participating policy premiums are usually lower than those for participating policies because of the dividend expense: they charge more with the intent of returning the excess. This has implications for the policy's tax treatment. The IRS has classified the payments made by the insurance company as a return on excess premium instead of dividend payouts.

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  1. Prudential.com. "Life insurance dividends." Accessed Sept. 16, 2021.

  2. Equitable.com. "Will I be taxed on the growth of the cash value of my life insurance?" Accessed Sept. 16, 2021.