Which statement about whole life insurance is true?

• A. When a whole life policy is surrendered, income taxes may be owed
• B. Dividends are always tax-free
• C. The policy's cash value grows without credits
• D. Premiums never change

Answer: (A)

The key idea is how surrendering a whole life policy is taxed. The cash value built up in the policy represents a return of the money you paid for the policy plus any growth. When you surrender, you’re effectively cashing out the policy, and any amount that exceeds the total premiums you’ve paid (your cost basis) is considered a gain and is taxed as ordinary income in the year of surrender. If you have an outstanding loan against the policy, the amount you actually receive is reduced by that loan, but the tax treatment still centers on the gain above your cost basis.

Dividends aren’t guaranteed to be tax-free; they’re generally tax-free up to the amount of premiums paid or the policy’s cost basis, but if they exceed that basis or aren’t used to reduce premiums, they can become taxable. The cash value growth happens because of credited interest or dividends, not “growth without credits.” And while many whole life policies have level premiums, saying premiums never change is too absolute—some policies or riders can alter payment requirements, so this statement isn’t universally true.