How to Invest in Bank-Owned Life Insurance

Bank-Owned Life Insurance (BOLI) is a specialized financial product primarily utilized by banks. It involves a bank purchasing life insurance policies on its employees, typically key personnel. This asset helps manage various financial liabilities and obligations within the institution’s balance sheet.

Understanding Bank-Owned Life Insurance

Bank-Owned Life Insurance (BOLI) is a permanent life insurance policy where the bank is the policy owner and beneficiary. The individuals insured are typically high-level executives or other key employees. The bank pays premiums and receives the death benefit upon the employee’s passing.

BOLI’s cash value accumulates on a tax-deferred basis, representing an asset to the bank. This cash value can be accessed through policy loans or withdrawals, though surrendering a policy can have tax implications. The death benefit received by the bank is generally tax-free.

BOLI structures typically fall into two categories: General Account BOLI (GABOLI) and Separate Account BOLI (SABOLI). General Account BOLI places the policy’s cash value within the insurer’s general investment portfolio, making it an unsecured obligation. This type offers a stable crediting rate, often with a guaranteed minimum. Separate Account BOLI segregates underlying investments from the insurer’s general account into a separate portfolio. With SABOLI, the bank assumes more investment risk, and the crediting rate is determined by the performance of these specific investments.

BOLI generates income through the tax-advantaged growth of its cash value. Earnings accumulate without current income tax liability, and death benefits are received tax-free. This tax efficiency provides a higher after-tax yield compared to many traditional bank investments.

Strategic Considerations for Banks

Banks strategically acquire BOLI to finance various employee benefit programs. The income generated by BOLI can help offset expenses related to executive compensation, deferred compensation plans, and post-retirement medical benefits. By aligning BOLI earnings with benefit costs, banks can manage their financial commitments more efficiently.

BOLI serves as a non-qualified funding mechanism for various bank liabilities. It provides an informal source of funds to meet future obligations arising from employee benefit plans that are not subject to the strict funding rules of qualified plans. This allows banks flexibility in how they manage and fund these long-term commitments.

Acquiring BOLI can also contribute to the diversification of a bank’s overall investment portfolio. The returns from BOLI cash values may have a low correlation with other fixed-income assets, potentially enhancing portfolio stability. While BOLI typically represents a small percentage of a bank’s total assets, its unique characteristics can improve financial metrics.

Acquiring Bank-Owned Life Insurance

The acquisition of Bank-Owned Life Insurance begins with a thorough planning and feasibility study phase. Banks assess their specific needs, such as the scale of employee benefits to be offset, and project the financial impact of a BOLI program. This analysis helps determine the appropriate size and structure of the BOLI investment.

Following the planning stage, banks engage in a comprehensive due diligence process. This involves evaluating potential BOLI providers, scrutinizing their financial stability, business expertise, and risk management policies. Selecting a reputable provider that offers in-depth analysis of policy structures and investment options is important for the program’s long-term success.

Internal committees and the bank’s board of directors play a central role in the decision-making process, with board approval being a required step. Regulators expect the board to conduct a thorough pre-purchase risk-reward analysis, ensuring the investment aligns with sound banking practices. The board also establishes policies regarding BOLI ownership, including acceptable purposes and investment thresholds.

Legal and contractual considerations are paramount when purchasing BOLI policies. Banks must comply with state insurable interest laws, which generally require a financial institution to demonstrate a legitimate financial interest in the life of the insured employee. Additionally, the insured employee must provide written consent for the policy to be placed on their life.

Implementation steps include the actual issuance of policies and the initial funding, often through a single premium payment. While the bank is the owner and beneficiary, some institutions may choose to share a portion of the death benefit with the insured employee’s beneficiaries. Ongoing monitoring and review of the BOLI portfolio are essential for its continued effectiveness and compliance. Banks are expected to conduct annual reviews of their BOLI holdings, assessing performance, carrier ratings, and overall risk exposure. This continuous oversight helps ensure the program remains consistent with the bank’s financial objectives and regulatory expectations.

Accounting and Regulatory Framework

The accounting treatment for Bank-Owned Life Insurance follows specific guidelines to ensure accurate financial reporting. The cash surrender value (CSV) of BOLI policies is recognized as an “other asset” on the bank’s balance sheet. This asset represents the amount the bank would receive if it surrendered the policy, net of any surrender charges.

Income generated from BOLI, including the growth in cash surrender value and the receipt of death benefits, is typically recognized as “other income” or “non-interest income” on the bank’s income statement. This accounting treatment is guided by principles such as FASB Technical Bulletin 85-4. Changes in cash surrender values are recorded based on premiums paid, less expenses, plus accreted interest income.

Regulatory bodies provide comprehensive guidance for banks holding BOLI to ensure safe and sound banking practices. The Office of the Comptroller of the Currency (OCC) issued OCC Bulletin 2004-56, known as the Interagency Statement on the Purchase and Risk Management of Life Insurance. This bulletin outlines supervisory expectations for both pre-purchase analysis and ongoing risk management of BOLI. This guidance emphasizes thorough pre-purchase analysis, evaluating carrier financials, policy design, and potential risks. It also mandates an effective system for ongoing risk assessment and management.

Regulators, including the Federal Deposit Corporation (FDIC), echo these principles, focusing on due diligence, permissible purposes, and robust risk oversight. Furthermore, there are specific reporting obligations, such as filing IRS Form 8925 annually with federal income tax returns. This form details the bank’s holdings of employer-owned life insurance contracts.