What is the tax treatment of dividends from a participating life policy?

Dividends from a participating life policy are considered a return of excess premium and not taxable to the extent of the policyholder's basis in the policy. This means that the amount of dividends received up to the total premiums paid into the policy is not subject to income tax. Essentially, since these dividends represent a return of money that the policyholder has already paid, they do not incur any additional tax obligations until the total dividends exceed the cumulative premiums paid into the policy.

Once the dividends exceed the basis, any amount received above that point is subject to taxation. This tax treatment is important for policyholders to understand, as it allows for the potential to receive monetary benefits from their policy without immediate tax implications on the initial investment. Recognizing how dividends function in relation to the basis helps policyholders make informed decisions regarding their life insurance policies.