Participating insurance is a type of life insurance that not only provides basic life protection but also allows you to share in the insurer’s profits. When you purchase participating insurance, you may receive dividends from the insurance company annually. These dividends come from the insurer’s investment profits, lower-than-expected mortality rates, and lower-than-expected operational costs.
You can use these dividends in several ways:
- Cash Payment: Receive the dividends as cash.
- Purchase Additional Coverage: Buy more insurance coverage with the dividends.
- Premium Reduction: Use the dividends to pay part of your next year’s premium, reducing your out-of-pocket cost.
- Accumulate Interest: Leave the dividends with the insurance company to earn interest, potentially increasing the amount of money you receive in the future.
In simple terms, participating insurance not only provides you with life protection but also helps you grow your wealth, making it suitable for those who want both insurance protection and investment returns.
In Canada, participating insurance offers several specific tax advantages:
- Premium Tax Exemptions: Although premiums paid for participating insurance are generally not tax-deductible, the other tax advantages provided by participating insurance make it an attractive option.
- Tax-Free Dividends: Dividends received from a participating insurance policy are generally tax-free during the policy term. This means you can use these dividends for reinvestment, increasing coverage, or other purposes without paying income tax on them.
- Tax-Deferred Cash Value: The cash value accumulation in a participating insurance policy is tax-deferred. You do not have to pay taxes on the cash value growth each year; taxes are only due when you choose to withdraw this cash. This tax deferral allows your funds to grow without the immediate tax burden, enhancing the compounding effect of the investment.
- Tax-Free Death Benefit: When the insured person passes away, the death benefit received by the beneficiaries is tax-free. This provides crucial financial support to your family, ensuring they receive adequate funds during critical times without the burden of income tax.
- Tax-Free Loans: You can borrow against the cash value of your participating insurance, and these loans are generally tax-free. This feature allows you to access needed funds without selling assets or incurring significant tax liabilities while retaining the other benefits of the policy.