Insurance Broker Certification Practice Exam

What type of insurer is characterized by the non-taxable dividend checks received by policyholders?

1. Stock insurer

2. Mutual insurer

3. Fraternal insurer

4. Reciprocal insurer

The correct answer is: Mutual insurer

A mutual insurer is characterized by the non-taxable dividend checks received by policyholders because it is organized as a nonprofit entity aimed at providing insurance to its members, rather than generating profit for shareholders. The dividends paid to policyholders in a mutual insurance company arise from the insurer’s surplus, which is the excess of premiums collected over claims paid and administrative costs. Since these dividends are not considered income under tax law, policyholders do not have to pay taxes on them. In contrast, a stock insurer operates for profit and issues shares to investors. Any dividends this type of insurer pays to its shareholders represent a distribution of profits and are taxable. Fraternal insurers focus more on providing services and benefits to members of a certain group or society and may also issue dividends but not on the scale or in the same manner as mutual insurers. Reciprocal insurers are made up of members who exchange insurance contracts among themselves, and while they may also offer dividends, the model of mutual insurance is distinctly more recognized for its non-taxable dividends.