Bank-Owned Life Insurance in Today's Banking Environment

How does bank-owned life insurance fit in today’s highly scrutinized banking marketplace?

According to Federal Deposit Insurance Corporation (FDIC) data, the U.S. currently has more than 4,100 insured commercial banks. Among the banks with assets under $100 million, approximately forty percent utilize bank-owned life insurance as an employee benefits funding or investment strategy. In banks with assets of $250 million and up, the use percentage climbs as high as seventy to eighty-plus percent.

These statistics reflect the confidence the banking industry, in general, has placed in BOLI while showing there is still margin in the market for increasing its use. But will changes in the banking environment change the confidence of bank decision-makers about BOLI?

Understanding Bank-Owned Life Insurance

BOLI is institutionally priced life insurance owned by a bank and typically carried on the bank’s directors or senior leadership. BOLI policies are purposefully designed for banks.

The bank is the policy owner, pays the insurance premiums and is the beneficiary. Although individuals must consent to be insured, the policy always belongs to the bank, even if the insured employee or board member resigns, is terminated, or retires.

The use of BOLI can be highly tax efficient. Over time, the cash value of a BOLI policy grows tax deferred. As it is a life insurance product, in almost all circumstances, if the policy is held for payout until the insured’s death, the policy proceeds are paid tax-free to the bank as the named beneficiary.

Why Do Banks Buy BOLI?

A BOLI plan can offset or underwrite employee benefits for the bank’s executives, adding to the bank’s competitive appeal in attracting and retaining key talent. BOLI plans can also help fund the costs of benefit plans for employees companywide. Either approach potentially helps stabilize a bank’s workforce. A bank may also elect to share part of the policy with the insured’s family, making the policy one more valued benefit in an executive’s total rewards package.

In addition to offsetting or covering the cost of pre and postretirement benefits, a BOLI plan can function as a key person insurance plan. Key person life insurance helps cover the cost of replacing a valued employee whose death might create significant and disruptive loss to the bank’s operations or growth.

Beyond being a funding strategy, BOLI offers an investment strategy for banks. Over the years, the financial performance of BOLI has exceeded the after-tax returns of traditional bank investments. Adding BOLI to a bank's collective investments can help diversify the assets in the portfolio.

Under Scrutiny

The failures of Silicon Valley Bank (SVB), Signature Bank and, most recently, First Republic Bank have put the banking industry under heightened scrutiny from regulators and lawmakers. As part of its response to the situation, the Federal Reserve has already released a self-assessment about its accountability and increased focus on banking practices.

BOLI, however, falls comfortably under regulatory guidance. In December 2004, the Board of Governors of the Federal Reserve System, the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation collaboratively issued the "Interagency Statement on the Purchase and Risk Management of Life Insurance." The document provided detailed guidance to banks for safe and sound banking practices when purchasing and managing BOLI.

As part of the assessment of the strategic use of bank-owned life insurance, the FDIC inspires further confidence, stating,

Because the cash flows from a BOLI policy are generally income tax-free if the institution holds the policy for its full term, BOLI can provide attractive tax-equivalent yields to help offset the rapidly rising cost of providing employee benefits.

To learn more about changes in the banking environment, read: Q2 2023 Markets In Focus: Keeping an Eye on Recent Bank Failures and Persistent Inflation.

This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, accounting, legal or tax advice. Any tax advice contained herein is of a general nature. You should seek specific advice from your tax professional before pursuing any idea contemplated herein.

Christopher H. Nyland is affiliated with Valmark Securities, Inc. Securities offered through Valmark Securities, Inc. member FINRA, SIPC. Investment Advisory Services are offered through Valmark Advisers Inc., a SEC Registered Investment Advisor. 130 Springside Drive, Suite 300, Akron, OH 44333. 800-765-5201. OneDigital is a separate entity from Valmark Securities, Inc. and Valmark Advisers, Inc.

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