Understanding Bank-Owned Life Insurance Policies And Their Benefits

Bank-owned life insurance (BOLI) is a financial product that allows banks to purchase life insurance policies on key employees, typically high-earners or board members. The bank acts as the policyholder and beneficiary, paying the premiums and receiving benefits upon the insured's death. BOLI serves as a tax-efficient investment vehicle, providing tax-deferred growth and tax-free death benefits. It helps banks offset employee benefit costs, recover losses from key person deaths, and enhance employee benefits. While BOLI offers advantages like tax benefits and employee retention, it also carries risks, including regulatory compliance, interest rate sensitivity, and potential surrender charges. Overall, BOLI enables banks to protect their financial interests while providing benefits to their key employees.

Banks as beneficiaries

Bank-owned life insurance (BOLI) is a type of insurance where the bank is the policy beneficiary and usually the owner. It is a tax-efficient method that offsets employee benefit costs. The bank purchases and owns an insurance policy on an executive’s life and is the beneficiary. Cash surrender values grow tax-deferred, providing the bank with monthly bookable income. Upon the executive’s death, tax-free death benefits are paid to the bank.

BOLI is used as a tax-efficient method for offsetting the costs of employee benefit programs. In the past, BOLI was often combined with a new executive benefit plan for senior executives. However, in recent years, many banks have added BOLI to offset existing employee benefit expenses.

There are three types of BOLI products currently offered to banks: General Account, Separate Account, and Hybrid Account. The General Account is the oldest form and still the most common product in the market today. When banks make an investment in a general account product, the deposit becomes part of the general account of the insurance carrier. Most insurance carriers primarily invest in real estate and bonds. The Separate Account approach involves the carrier segregating the holdings from their general account into bank-eligible investments managed by well-known fund managers. The Hybrid Account combines the benefits of the General and Separate Account approaches, providing a current and guaranteed crediting rate and transparency.

BOLI is a long-term asset that offers banks a highly-rated investment option with significant tax advantages. The cash values grow tax-deferred, and death benefits are tax-free. BOLI also provides a stable return on investment and can help improve a bank's financial performance.

BOLI policies are exclusively for banks to insure key employees. The bank pays the premiums and receives the policy's death benefit when the insured employee passes away. This arrangement offers banks a tax-efficient investment strategy and a way to manage risks.

Tax-free benefits

Bank-owned life insurance (BOLI) is a type of insurance that banks can purchase to cover key employees. It is a tax-efficient investment strategy for the bank, as the policy's cash value grows tax-free and the death benefits are typically exempt from income tax.

BOLI offers several tax-free benefits for banks:

Tax-Deferred Cash Value Growth:

The increase in the cash value of a BOLI policy is tax-deferred. This means the bank does not pay taxes on the policy's earnings as they accumulate over time. This provides a significant advantage, allowing the bank to benefit from tax-free growth of their investment.

Income Tax-Exempt Death Benefits:

Upon the death of the insured executive or key employee, the bank receives tax-free death benefits. This substantial sum is exempt from income tax, providing the bank with a large amount of money that can be used to offset other expenses, such as employee benefit costs.

Efficiently Offset Employee Benefit Costs:

BOLI enables banks to efficiently offset the costs associated with employee benefit programs. The tax-free death benefits and accumulated cash value can be used to fund employee benefits, such as health insurance, retirement plans, and other compensation packages. This helps banks manage their expenses while still providing competitive benefits to their employees.

Stable and Attractive Returns:

BOLI policies often offer stable and attractive returns that are higher than those from traditional bank investments. The tax-deferred growth and tax-free benefits contribute to the overall improvement of the bank's financial performance, enhancing their financial stability and competitiveness.

Long-Term Asset with Limited Liquidity Risk:

While BOLI is considered a long-term illiquid asset, it can be surrendered at any time without policy charges. However, surrendering the policy will result in taxes and a potential IRS penalty on the gains. Therefore, it is more advantageous for banks to hold the policy until the death of the insured, as the gains become part of the tax-free death benefit with no tax incurred.

In summary, BOLI provides banks with a unique opportunity to benefit from tax-free growth, offset employee benefit costs, and enhance their financial stability and competitiveness. The tax-free nature of BOLI makes it an attractive investment strategy for banks, contributing to the overall health of their business.

Employee benefits

Bank-owned life insurance (BOLI) is a product that offers several benefits to employees of financial institutions. While BOLI is primarily purchased by banks to insure key employees, it is also used as a tax-efficient method to offset employee benefit costs.

BOLI is a permanent life insurance policy that a bank purchases for high-earners, board members, or executives. The bank is typically the policy beneficiary and owner, and the insurance covers the economic loss in the event of a key employee's premature death. This coverage ensures that the bank can continue to fund employee benefits and compensation plans, even after the insured individual's death.

BOLI provides tax advantages for the bank, as cash surrender values grow tax-deferred, resulting in monthly bookable income. Additionally, upon the death of the insured individual, the bank receives tax-free death benefits. These tax benefits enable banks to use BOLI to fund employee benefits at a lower cost.

BOLI can also help banks provide competitive employee benefits while managing costs. It allows banks to offset the expenses associated with superior benefits and informally fund executive benefits. BOLI is particularly useful for offsetting the costs of employee health and welfare plans, as well as pre- and post-retirement compensation and benefit plans.

Furthermore, BOLI offers a stable and secure investment option for banks. It is considered a long-term asset with a significant tax advantage over other permissible bank investments. The gains from BOLI can be used to diversify the bank's investment portfolio and increase its return on equity (ROE) and return on assets (ROA).

While BOLI is not available to all employees, it demonstrates a bank's commitment to providing comprehensive benefits and securing the well-being of its key personnel.

BOLI accounts

Bank-Owned Life Insurance (BOLI) is a type of life insurance policy that banks and other financial institutions purchase for their employees, usually high-level employees like senior executives and managers. BOLI provides financial benefits to the bank, such as tax advantages and a potential source of income. The bank pays the premiums for the insurance policy and becomes the beneficiary, receiving a death benefit upon the insured employee's death.

BOLI is typically held in different types of accounts within the bank, and there are three main types of BOLI accounts: General, Hybrid, and Separate. Each type of account offers varying levels of investment control, risk, and potential returns to align with the bank's objectives.

The most common type of BOLI account is the General Account (GAA), where the bank's general assets back the BOLI policies. This means that the bank assumes the investment risk and controls the investment strategy. The Separate Account (SA), on the other hand, is separate from the bank's general assets, and the cash value is invested in specific portfolios chosen by the policyholder, who bears the investment risk and returns potential.

A Hybrid Account combines features of both GAAs and SAs, allowing a portion of the cash value to be invested in separate accounts while the bank's general assets back the remaining portion. This provides a guaranteed credit rating and detailed information about investment holdings.

Regulatory compliance

Bank-owned life insurance (BOLI) is a type of life insurance product that banks use as a tax shelter and to fund employee benefits. BOLI is a permanent life insurance policy often purchased for high-earners and/or board members of a bank, which pays for the policy and benefits after the insured individual's death.

• Senior Management and Board Oversight: Effective oversight by senior management and the board is crucial for the safe and sound use of BOLI. Institutions should have comprehensive risk management processes in place, including pre-purchase analysis and ongoing risk monitoring.
• Risk Management and Interagency Guidelines: Federal banking agencies provide guidance on the safe and sound banking practices expected for the purchase and risk management of BOLI. Institutions should establish policies and procedures with meaningful risk limits and conduct thorough pre-purchase analyses to understand the risks, rewards, and unique characteristics of BOLI.
• Permissible Usage: BOLI purchases and holdings are subject to regulatory restrictions. Banks can generally purchase BOLI policies in connection with employee compensation and benefit plans, key person insurance, insurance to recover pre- and post-retirement benefit costs, insurance on borrowers, and insurance taken as security for loans. However, banks cannot purchase BOLI for all employees and must have an "insurable interest," meaning they would suffer financial loss due to the employee's death.
• Consent and Disclosure: Obtaining written consent from insured individuals is a recommended practice. This ensures awareness and agreement to the policy, reducing potential reputation risks. Additionally, proper documentation and disclosure of BOLI holdings are essential for compliance.
• Accounting and Reporting: BOLI accounting should follow relevant guidelines, such as FASB Technical Bulletin No. 85-4, which specifies how BOLI should be recorded on the balance sheet and how increases in cash surrender or contract value should be treated. Compliance reporting at regular intervals is also necessary.
• State-Specific Regulations: BOLI compliance must also consider state-specific regulations, such as the North Dakota Administrative Code (NDAC) § 13-02-14, which outlines rules for holding BOLI on employees and directors. These rules address key person insurance, compensation and benefit plans, and consent requirements.

Frequently asked questions