by KD » Sun Aug 15, 2010 02:55 am
I recently was told that my father had a life insurance policy he intended to go to his six children from his first marriage. His third and last wife told my brother that the policy was cancelled and we would receive nothing. I suspect, if there was a policy, she may have changed the beneficiary to herself shortly before my father died. He was quite ill before he passed. Is there any way we can find out if a policy did exist and do we have an legal rights to contest it?
Posted: Tue Sep 14, 2010 06:09 pm Post Subject:
If my premium is $5,000 and I pay $5100, I'll get $100 back from me because I paid excess premium, but it certainly isn't a dividend.
True, you inadvertently paid an incorrect amount of money. But if your premium is $5000 by the terms of your contract, but they only needed $4900 of your money this year, the $100 you get back is the same thing -- except it's called a dividend. You're obligation is to pay the $5000 again next year, but you can use the $100 as a credit to decrease your out-of-pocket expense at the moment.
“divisible surplus”
Yes, perhaps a more appropriate term. If so, why don't the insurance companies use that language? No one understands it. Dividends . . . now that sounds like something.
From the American College's Fundamentals of Insurance for Financial Planning, a basic textbook for all CFP candidates:
When the premiums [from all policyholders] in a given period are more than adequate to meet losses and expenses, part or all of the excess is returned to the policyowners as a dividend. When premiums are inadequate, dividends may be omitted and, in a few cases, assessments can be levied on policyholders.
Divisible surplus . . . excess premiums . . . returned . . . refunded . . . call it what you will, a "dividend" results from the insurance company having received too much in premiums from policyowners.
Posted: Tue Sep 14, 2010 06:24 pm Post Subject:
And I will admit that in the past, I have stated that mutual insurance company premiums may be higher than those of stock companies. That is perhaps overreaching.
Stock companies have profitable years, too. Only they share the profits with their shareholders.
Premiums are premiums, they are broadly based on the mortality expense, less income, plus expenses. The company that has a better mortality experience, better income, and lower expenses will have more profit. Stock insurer or mutual insurer, it makes little difference.
Some of those companies share the profits with the people who have helped the most to create them -- the ones who pay premiums. Those companies are known as mutual companies. And they are just as reputable as any stock company, if not more so.
It's simply the choice of marketing products based on the illusory concept of dividends (same as marketing mutual funds on last year's returns) that rubs me the wrong way. Sometimes agents do this on their own, sometimes the company leads them down that path.
Posted: Tue Sep 14, 2010 09:11 pm Post Subject:
Max,
Your JP Morgan Chase comments are irrelevant. We aren't talking about the banking division. They are a broker/dealer. They have their own funds. The money isn't being lent out to banking clients.
You aren't getting any argument from me in terms of what causes dividends. Your quote from the American College explains what causes a dividend, but if the book has a glossary, you can bet that the description that is given in that quote is not the definition.
One of the problems of defining dividends as a "return of excess premiums" is that it then means that long term based upon the current dividend scale (and past actual performance) insurance is free. Actually more than that, people get paid to own insurance since the dividends end up being higher than the premiums.
What I'm saying is accurate, but it would be unfair to call the insurance "free", but if a dividend is a return of the extra premium and everything is returned, that seems like a fair conclusion.
It's not fair because it's not accurate to call it a return of excess. It isn't. It is the divisible surplus of the insurer. Heck, this surplus might not even come from their WL insurance business. It could be from term insurance, DI, annuities, or even profits from subsidiaries.
Posted: Wed Sep 15, 2010 02:59 am Post Subject:
Return of excess premium means no taxable event upon distribution until you've received enough dividends--in cash--to go beyond your taxable basis. Reinvested (purchasing PUA's) or reducing/paying for premium will be a wash since it's a return of premium, but then goes back into paying premium (adding to basis). The insurance industry is wise in it's ability to classify certain benefits behind it's products.
This is why I say merely defining an insurance product dividend as a return of excess premium is too literal and too simplistic a view on what's going on.
The alternative would be not classifying it this way. Which would make dividends taxable (regardless to what the insured does with them) to be taxed just like distributions from a taxable asset (e.g. stocks, bonds, and mutual funds sitting in a general brokerage account).
So think about this, instead the insurance company "rebated excess premium collected" and you can use it to purchase additional insurance with immediate cash value that grows on a tax deferred basis, and is accessible on a non-taxable basis (through surrender to basis FIFO and/or policy loans). That's what classifying it as a return of premium accomplishes.
Posted: Wed Sep 15, 2010 08:39 pm Post Subject:
So think about this, instead the insurance company "rebated excess premium collected" and you can use it to purchase additional insurance with immediate cash value that grows on a tax deferred basis, and is accessible on a non-taxable basis (through surrender to basis FIFO and/or policy loans). That's what classifying it as a return of premium accomplishes.
No argument. But it still defines the concept of "EXCESS PREMIUM". The whole point is that there is a "scheduled premium" in a whole life policy. That premium puts the policy on track to endow at age 100/121, with interest, for the full face amount of the policy. If you pay too much money into the policy, it takes the policy off-track in a way that would cause it to endow early.
So what's the company to do? It cannot simply put the excess money into the contract. It can put it into its reserve fund where it will earn taxable interest as long as it's there. It can be paid back to the policyowner, without a tax liability, since it is merely a refund of after-tax money anyway. Or it can be used to (a) pay the current year's premium in whole or in part, (b) can be used to repay loan interest or principal, (c) purchase paid-up additions, increasing both the cash value and the face value, or (d) buying a one year term policy.
Many people choose (c) and end up with much more insurance over time. Nothing wrong with that. Some eventually cash in those additions to pay premiums in later years. Nothing wrong with that, either.
If there's anything "wrong" with dividends (which there really is not), it's the creation of an impression in the mind of a policyowner that they are something other than a way of receiving one's own money back. It's not "free insurance" -- it's insurance that has been paid for by paying, in essence, too much money in premiums.
As for textbooks and glossaries, the book referred to above does not have a definition of "dividend" in it, but it does have one for "divisible surplus":
That portion of an insurer's surplus that is declared as a dividend to be distributed to policyowner's and/or stockholders of the insurer.
So here's the "gotcha" -- Why is a dividend to a stockholder taxable, and a dividend to a policyowner not taxable?
Answer: the dividend to the stockholder represents OTHER PEOPLE'S MONEY. We understand that in the same way as we do "interest" or "gain", and Uncle Sam understands it as taxable revenue. On the other hand, to the policyowner it is not taxable because it represents his own money being refunded -- not interest or gain.
We have to go to Webster's for a definition of "surplus":
sur·plus
/ˈsɜrplʌs, -pləs/ Show Spelled [sur-pluhs, -pluhs] Show IPA noun, adjective, verb, -plussed or -plused, -plus·sing or -plus·ing.
–noun
1. something that remains above what is used or needed.
2. an amount, quantity, etc., greater than needed.
3. agricultural produce or a quantity of food grown by a nation or area in excess of its needs, esp. such a quantity of food purchased and stored by a governmental program of guaranteeing farmers a specific price for certain crops.
4. Accounting .
a. the excess of assets over liabilities accumulated throughout the existence of a business, excepting assets against which stock certificates have been issued; excess of net worth over capital-stock value.
b. an amount of assets in excess of what is requisite to meet liabilities.
And divisible:
di·vis·i·ble
/dɪˈvɪzəbəl/ Show Spelled[dih-viz-uh-buhl] Show IPA
–adjective
1. capable of being divided.
2. Mathematics .
a. capable of being evenly divided, without remainder.
b. of or pertaining to a group in which given any element and any integer, there is a second element that when raised to the integer equals the first element.
Disguise it however you want to, with whatever words or phrases you choose. Dividend, rebate, divisible surplus, they are all fine with me.
It is, always has been, and always will be a refund of excess premiums paid when it comes from a mutual insurer's participating policy. Same as it is in a Workers' Comp policy. "We didn't need all that money from everyone to pay the bills this year, so we're giving some of it back to you. Enjoy!"
Posted: Wed Sep 15, 2010 08:43 pm Post Subject:
Your JP Morgan Chase comments are irrelevant. We aren't talking about the banking division. They are a broker/dealer. They have their own funds. The money isn't being lent out to banking clients.
Not entirely relevant, true. But a reasonable illustration of the concept of what people can choose to do with their money. Insurance, investments, banks, shoeboxes.
To that extent, I still think the illustration is germane to the overall discussion.
Besides, next to lawyers, the banks I could do without, too, if they didn't have such a strangle hold on things.
Actually more than that, people get paid to own insurance since the dividends end up being higher than the premiums.
If this proposition was true in the majority of policies, you can bet the tax laws would change. It can be true for a small number of folks with high dollar value policies with big single premiums that are being paid up front. But it is probably not true for the vast majority of policyowners.
I doubt that there are any published statistics on this, just our own anecdotal information. I've seen policies that pay thousands of dollars in dividends, later in the life of the policy, which are enough to pay the annual premium. But, cumulative to that point, they have not been equal to the premiums paid -- nowhere near it. So I think the direction you were taking toward free insurance is perhaps misguided to some extent.
Posted: Wed Sep 15, 2010 09:17 pm Post Subject:
Max, my conversation here really isn't directed at the subject of dividends in general. Rather, I'm specifically addressing the fact that I believe that it's incorrect to define them as a "return of excess premium". Let me give an example of why I say that this simply deals with how they are treated from a taxation point of view.
Let's assume that tax laws changed today and all dividends were considered taxable income. A dividend would still be the exact same thing that it's always been (the divisible surplus of the insurance company), but we would no longer say that it is a return of excess premium.
Posted: Thu Sep 16, 2010 12:53 pm Post Subject:
This is a test.
If the tax laws changed today, making the "dividends" in a participating policy taxable, and the policyowners did not want that big taxable event in the future, please tell me the two things that would avoid that?
In the meantime, then, give us a definition of "divisible surplus" that is entirely different in meaning than "refund of excess premiums" in a mutual insurance company's participating policies.
From what does the divisible surplus principally derive? From the premiums paid by policyowners. These folks pay their premiums. The insurance company uses the money to pay all its expenses -- including claims. The money it does not need TODAY for those things, it puts into state-mandated (and other) "policy reserves" for the eventual payment of claims. Those reserve accounts bear interest (and the annual interest income is probably less than the total premiums being paid annually), and the insurance company pays tax on the interest income as part of its costs of doing business (EXPENSES).
At the end of the year, if it has more money than it needed to cover its expenses ("liabilities" in the definitions I posted above), then the company has a profit and there may be SURPLUS as a result (and divisible if profits exceed a certain threshold). The surplus may be divided to whatever extent the board of directors determines they are comfortable giving back to policyowners (I would expect them to retain a significant portion as a hedge against years in which their investments don't do so well).
Since the money was generated principally by premium payments, the surplus represents accumulated excess premiums. If you get a check that represents accumulated excess premiums, call it a dividend or call it divisible surplus, doesn't matter to me which term is used, it still means a REFUND OF PREMIUMS PAID. It is one's own money and they already paid income tax on it, and they get it back "tax free" since it is no different than overpaying a bill from any other entity, insurance company or not.
This whole "discussion" (or argument, if you prefer) is one of splitting hairs semantically.
=========================
ANSWER to the test:
(a) The board of directors stops declaring dividends, and the profits remain with the insurance company, since there is no one else to give them to (no "shareholders")
(b) If the board of directors is embarrassed by the amount of profit (aka: surplus) it has each year, it can REDUCE premiums to reduce profits, and the "problem" vanishes (not the same as "vanishing premiums")
=========================
How do I know that (b) is an answer to the the test question? It's the same premise Congress applied to health insurance. They sit back in their ivory tower looking down on America, and they see "wealth" accumulating in the health insurance companies. They perceive that it has come from (a) excessive premiums and (b) lack of payments for claims.
So they write some new laws that mandate 80% or 85% loss ratios (a reasonable solution, and one I proposed), but then they go completely berserk and impose other profit-killing mandates: elimination of underwriting exclusions for preexisting conditions and unlimited lifetime coverage . . . utterly ignoring the actuarial science behind ratemaking, and the underwriter's mandate to protect the insurance company from adverse selection.
All of this, plus more, is supposed to "drive down the cost of insurance premiums" and healthcare.
Now, tell me, Mr. Congressman, how does an insurance company set aside enough money to cover an unknown/unlimited amount of liability, maintain an 85% loss ratio, and reduce premiums all at the same time?
The answer is: IT CANNOT. So it (a) goes bankrupt, leaving bills unpaid, or (b) it voluntarily exits the marketplace, together with all its competitors, leaving the government as the SINGLE PAYER the Democrats have envisioned since the time of Harry S. Truman in the 1940s. The government can "manage" these otherwise unfunded liabilities by creating more bonded debt. And while none of us will be paying "premiums", we'll have to cover the cost the only way the government knows how to do that . . . HIGHER TAXES.
So why didn't they just write a simple, one paragraph law that said, "On January 1, 2014, there will be no more health insurance companies in America. The US government will pay all the bills for healthcare in America according to the Medicare provider payment schedules in effect."
They didn't do it that way, because the American people are not quite that stupid to miss what it means. But it is the subtext of Obamacare. And it is has been insidiously buried throughout the 2,000+ pages of legislation behind it.
The demise of private health insurance in America is inevitable under Obamacare. That is the plan.
It is the epitome of SOCIALISM as envisioned by Marx and Engels. And history tells a different tale. It did not work in the Soviet Union. It, ultimately, will not work in China (hence, the government's tacit approval of profitmaking in the "private sector" and emerging Chinese stock market). And it cannot work in America.
Sure, no health insurance premiums will definitely "drive down the cost of insurance premiums" but at what cost? 60%, 70%, 90%, 100% taxation. That's the ultimate goal. A society entirely dependent on the government for everything it has, and willing to give all back to the government in exchange.
That is NOT the definition of DEMOCRACY. We can debate that if you'd like, too.
Posted: Thu Sep 16, 2010 10:14 pm Post Subject:
In the meantime, then, give us a definition of "divisible surplus" that is entirely different in meaning than "refund of excess premiums" in a mutual insurance company's participating policies.
It won't be entirely different because what you are saying is correct, but only in terms of how it is treated from a tax standpoint. That is not the same as the definition. In my opinion, here is the best definition of a life insurance dividend:
"An equitable portion of the company's earnings"
From what does the divisible surplus principally derive? From the premiums paid by policyowners.
That is not where the dividends principally derive. That is where the money comes from to pay what is guaranteed. Dividends are primarily derived from 3 sources:
1) Mortality Savings (actual mortality vs. assumed mortality)
2) Interest Earnings (actual earnings vs. guarantees needed to meet requirements)
3) Expenses (actual expenses vs. assumed expenses)
It is the interest earnings that is the primary driver of dividends.
Dividends are tax free because Congress says that they are tax free. It’s not even completely accurate to say that they are a return of excess premium from a tax standpoint. They are treated that way, but only up to a point. If they were truly a return of excess premium, they wouldn’t be taxed when the total dividends received exceed the premiums paid. Yet, they are.
Posted: Thu Sep 16, 2010 10:17 pm Post Subject:
Let's make this easy:
Dividends are treated as a return of excess premiums for tax purposes, but only up to the basis.
The definition of dividend is: "an equitable portion of the company's earnings"
"Equitable portion of company's earnings" isn't synonymous with "excess premium".
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