• Dividends are paid to policyholders if their preimums are too high.money money money image by Arman Zhenikeyev from Fotolia.com
  
  Many insurance companies offer dividends each year to policyholders. Often, policy owners do not understand how they earn dividends. Usually there are three different places that an insurance company can receive money that they can pass on to customers as dividends. If you know what dividends are, you can make a more informed decision on how to use the money.
  
  

Divisible Surplus

• Policy dividends are calculated by adding the surplus that was used for premium expenses and dividing any extra between the people who paid more than they needed to during the year. Essentially, an insurance policy dividend is like a tax refund for your insurance premiums. The dividends are determined after the company pulls money to fulfill contractual obligations, business expenses and any contingencies. Any surplus after these expenses is returned to customers as dividends.
  
  

Expense Savings

• One of the largest areas that produce dividends for customers is the area of expense savings. In the insurance business, these savings could come from mortality savings and savings on general expenses. Mortality savings are accrued when fewer death claims are paid out through the year than the company budgeted for. General expense savings occur from any area of the business that saves money throughout the year. Generally this rarely occurs, but when it does, dividends are higher.
  
  

Investment

• Another area where dividends can be accrued is through business investing. When the company invests the premiums that customers pay into the business, interest is gained on the money. When the interest gained is higher than the required rate to pay claims and fulfill other business obligations, the excess money is paid to customers as dividends. Some years this amount may be very small, while other years it might be much larger.
  
  

Taxation

• Generally, dividends are not considered taxable income. A dividend is not considered taxable when it is considered a return on premium. Essentially, the dividend is considered a refund for an overcharge. However, in some cases dividends are not considered return on premiums. If this is the case, then the dividends are taxable. You can discuss with a tax professional the tax obligations of any dividends you have received throughout the year.
  
  

Uses

• Dividends can be used in a variety of ways. One way to use dividends is to purchase additional premiums. If this occurs, and dividends are accrued on those additional benefits, then you will make even more dividends the next year. You can also use the dividends to invest in other accounts, or as a personal cash bonus.