Dividend recognition is about how a life insurance company pays dividends to policyholders when they take out loans against their insurance policies. The two options are non-direct accounting (where policyholders receive the same dividend regardless) and direct accounting (where policyholders receive an adjusted dividend when a loan is outstanding).
years insurance agents claimed the virtues of one against the other, and many favored non-direct recognition, as it had the bonus appeal of giving people access to their money without losing the income they stood to gain by leaving their money in the policy. It's like taking your money to drive around town and then parking it back in the garage when you're done with it, for example.
But that does not mean that direct recognition lies down and dies next to competing counterparts. While non-direct recognition has a bumper-like-like appeal in the concept, there is nuance in the discussion that reveals give and take on both sides of the debate on dividend recognition.
We originally published our thoughts on this topic as early as 2012. Our opinion has not changed. Dividend recognition is far down the list of priority considerations when choosing an entire life policy – especially if the goal of the entire life policy is to accumulate cash value for later use. If you want to see an exhaustive analysis that we recently did on the subject, you can check out our webinar on dividend recognition.
How does dividend recognition affect income forecasts?
We sell a lot of life insurance to people who want to build an asset for pension income. So we spend a lot of time evaluating how different functions in the entire life insurance affect the insurance's ability to create its owner's pension income. Includes the general ledgers we generate with the insurance company's software that aim to show us values in the policy. These forecasts assume that the current dividend from the company, which may or may not (probably not) be the same for several years to come.
This means that we must make reasonable assumptions about what changes may occur and what impact will have on the calculated. values seen in the general ledgers. Dividend recognition potentially changes forecasts and we wanted to know if direct recognition or non-direct recognition is more accurate in projecting the future income potential of an entire life insurance policy.
My hypothesis that direct recognition would hold the advantage here. Non-direct reporting presupposes that the loan activity has no effect on the dividend. So a decline in the dividend should have a greater negative impact on future values when the plan is income production. Since direct recognition adjusts the dividend when a loan is outstanding and the estimated values assume this reduction, it is unlikely that a dividend reduction will have such a large impact on the policy's income-producing capabilities. ]
To evaluate this, we looked at a selection policy from Guardian, MassMutual and Penn Mutual and compared how an income scenario compared three different dividend scenarios:
- The current dividend rate
- A 50 basis points Reduction of current interest rate  A reduction of the current interest rate by 100 basis points
We used these three specific companies because they are very strong in the whole life market for cash accumulation and they represent a good mix of direct and indirect recognition. The Guardian offers both options while MassMutual and Penn Mutual both represent one or the other.
Here are the results of the analysis:
|Current dividend||Dividend -50bp||Dividend -100bp||Income% Change -50||Income% Change -100|
|Guardian DR||$ 33,033||$ 29,062||$ 26,316||-12%||-20%|
|Guardian NDR||$ 33,215||$ 28,583||$ 25,472||-14%  -23%|
|MassMutual||$ 41,070||$ 33,565||$ 25,593||-18%||19659023] -38%|
|Penn Mutual||$ 49,812  $ 43,376||$ 37,819||-13%||-24%|
The results support the hypothesis. The Guardian's direct recognition projections were more accurate than its non-direct recognition projections. MassMutual (non-direct accounting) showed the largest change in the estimated revenue with the assumed dividend change. Penn Mutual's (direct recognition) change was more in line with the Guardian's change in forecast revenue. the interest rate and the dividend rate. This spread can be positive (when the dividend rate is higher than the loan rate), negative (when the dividend rate is lower than the loan rate) or zero (when the two are the same). In general, this spread is positive and greater among non-direct recognition companies than among companies with direct recognition. This is certainly the case for entire life insurances that are currently issued among insurance companies.
The spread is greater among non-direct recognition companies because there is no adjustment of the dividend to parts of the entire life policy issued as security for an insurance policy. loans (a very important component for using the whole life insurance for pension income).
Direct recognition companies, alternatively, tend to have smaller spreads (sometimes even negative spreads) for parts of the policy that are put as collateral for a loan. This is the result of the direct adjustment that takes place when the insurance owner takes out a loan against the insurance. Life insurance companies that use direct recognition rarely change the adjustment that applies to direct recognition. Even if they change their usual (not adjusted for loans) dividend level, insurers generally do not change the resulting dividend from the direct accounting adjustment.
Ledgers that project the entire life policy values are responsible for the dividend adjustment direct recognition. companies use. So when the dividend changes, which changes the assumption of cash accumulation on the policy, the difference between the loan interest rate and the dividend interest rate does not change.
The dividend increases if one is to increase non-direct accounting income forecasts
While reductions in dividends cause a more sharp decline in the estimated income from non-direct accounting throughout life insurance, the reverse should be true. This means that when the dividend increases, the spread can increase and cause a higher amount of income from the policy.
But in practice, dividend increases will probably not take place without pressure for the loan interest rate to increase as well, so the ratio between dividends increases and significantly higher potential income may be limited. This is the case because rising interest rates play the biggest role in dividend increases. Rising interest rates would likely lead to higher lending rates as non-direct reporting of the entire life policy all uses floating rate lending rates (usually Moody & # 39; s Corporate Bond Index).
There is a lot to take in here; We are here to help
I realize that this topic is quite deep inside the insurance business. But I want to emphasize that it has serious consequences for your overall financial health if you consider adding an entire life insurance policy to your financial plan.
I strongly believe that whole life insurance can add several important security features to your fortune. plans. I also know that it can be done badly and result in overwhelming results. There are many assumptions when looking at estimated whole life insurance values. Most consumers (and unfortunately also many insurance agents) do not fully understand many of these assumptions and how small changes can affect the real value you get from a policy.  That's why we're here to help. For over a decade, I have helped people with the task of designing and implementing such a life policy that works with them through modern technology. We do not have to be in the same room, we simply need to be on the same page. If you think we can help you, do not hesitate to contact us.
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