3.2 Riders, Nonforfeiture, Dividend & Settlement Options

Common Life Insurance Riders

A rider is an attachment that adds, limits, or modifies coverage. The most-tested riders are:

• Waiver of premium: Waives premiums if the insured becomes totally disabled, usually after a 6-month waiting period; the policy stays fully in force.
• Payor benefit (payor rider): On a juvenile policy, waives premiums if the premium-paying adult (the payor) dies or becomes disabled before the child reaches a set age.
• Accidental death (AD) / accidental death & dismemberment (AD&D): Pays an extra benefit - often double the face amount (double indemnity) - if death results from an accident; AD&D also pays scheduled amounts for loss of limbs or sight.
• Guaranteed insurability rider (GIR): Lets the owner buy additional coverage at specified ages or events without evidence of insurability.
• Term riders: Add temporary coverage on the insured or a family member (spouse/children rider).
• Accelerated death benefit (ADB): Advances part of the face amount during life upon a terminal illness diagnosis (often <12-24 months to live).
• Return of premium (ROP): Pays back premiums paid as an added death benefit (uses increasing term).
• Cost of living (COL) rider: Increases the face amount to keep pace with inflation, usually tied to the CPI, without new underwriting.

Nonforfeiture Options

Nonforfeiture options protect the cash value a permanent policy has built when the owner stops paying premiums or surrenders. Texas law requires the insurer to make these available. The three statutory options are:

1. Cash surrender value: The owner terminates the policy and takes the cash value in cash (gain above premiums paid is taxable).
2. Reduced paid-up insurance: The cash value is used as a single premium to buy a smaller, fully paid-up policy of the same type (whole life) with no further premiums.
3. Extended term insurance: The cash value buys term insurance for the same face amount for as long a period as the cash value will fund. This is the automatic default if the owner stops paying and selects nothing.

Extended term is the default precisely because it preserves the original (full) death benefit for as long as possible.

Dividend Options

Dividends are paid on participating (par) policies - typically issued by mutual insurers. A dividend is legally a return of overpaid premium, so it is not taxable as income (though interest earned on accumulated dividends is taxable). Dividends are never guaranteed. The standard dividend options are:

• Cash: The insurer mails a check.
• Reduce premium: The dividend is applied against the next premium due.
• Accumulate at interest: Dividends are left with the insurer to earn interest (the interest is taxable).
• Paid-up additions (PUA): Dividends buy small single-premium whole life additions to the face amount; these themselves earn dividends and build cash value.
• One-year term (fifth dividend option): Dividends buy one-year term insurance, often equal to the policy's cash value.

A common exam trap: dividends differ from interest; an accumulate-at-interest dividend is the only option that generates taxable interest income.

Settlement Options

Settlement options govern how the death benefit (or surrender value) is paid to the beneficiary. The owner may select them, or the beneficiary may choose at the time of claim:

• Lump sum: The entire proceeds are paid at once (the default); income-tax free to the beneficiary.
• Interest only: The insurer holds the principal and pays interest to the beneficiary; principal is paid later.
• Fixed period: Proceeds plus interest are paid over a set number of years; a larger benefit shortens, a smaller benefit lengthens, the payment.
• Fixed amount: A chosen dollar amount is paid each period until proceeds and interest are exhausted (the period varies).
• Life income options: Payments last for the beneficiary's lifetime:
  • Straight life income - payments stop at death, no refund.
  • Life with period certain - guarantees payments for a minimum number of years.
  • Joint and survivor - continues over two lives.

For fixed-period vs. fixed-amount: in fixed period you set the time and the amount flexes; in fixed amount you set the amount and the time flexes.

Comparing Riders, and Choosing an Option

Exam questions often ask you to match a need to the right rider. A young family worried about affordability may add a term rider for temporary protection; a growing professional who expects to need more coverage later chooses the guaranteed insurability rider to lock in future purchases without new medicals; a worker concerned about disability adds waiver of premium. The accelerated death benefit is increasingly common because it requires no separate underwriting and lets a terminally ill insured access funds.

When advising on options, remember the tax treatment, since it is frequently tested:

• Death benefits paid in a lump sum are income-tax free.
• Cash value gains at surrender (amount exceeding total premiums paid, the cost basis) are taxable.
• Dividends are not taxable, but interest they earn is.
• The interest portion of settlement-option installments is taxable, while the principal portion is not.

A producer should document the client's objective - liquidity, lifetime income, or creditor protection - before recommending a settlement or nonforfeiture choice, because each option serves a different goal.