Participating policy

A participating (or "par") policy lets the policyowner participate in the insurer's divisible surplus through policy dividends. When the company's actual results beat its assumptions — fewer death claims, better investment returns, or lower expenses than projected — it can return part of that surplus to participating policyowners as a dividend.

Participating policies are the hallmark of mutual insurance companies, which are owned by their policyholders rather than stockholders. Stock insurers, owned by shareholders, traditionally issue nonparticipating policies and pay their profits out as shareholder dividends instead. Policy dividends are never guaranteed, and it is an unfair trade practice for a producer to promise them.

Policyowners choose how to receive dividends through the policy's dividend options: take them in cash, apply them to reduce premiums, leave them to accumulate at interest, buy paid-up additions of coverage, or purchase one-year term insurance. For tax purposes, dividends are generally treated as a return of overpaid premium, so they are not taxable income — though interest earned on accumulated dividends is taxable.

Life and health insurance licensing exams test participating policies in two places: the dividend options within life insurance provisions, and the taxation rules for dividends. Know that participating means dividend-paying, that mutual insurers issue them, that dividends cannot be guaranteed, and that dividends themselves are a nontaxable return of premium.