When it comes to life insurance, the myriad of options available can be overwhelming. But has your bank considered the benefits of utilizing bank-owned life insurance? According to research, bank-owned life insurance (BOLI) is a strategy that more than 75% of banks implement today. So, should you hop on the bandwagon? What are the pros and cons? At Newcleus, we’re here to help you navigate any questions that may arise. We’ve created your guide to bank-owned life insurance.

What is bank-owned life insurance?

In simple terms, bank-owned life insurance, often referred to as BOLI, is “a form of life insurance purchased by banks where the bank is the beneficiary and also usually the owner of the policy,” according to Investopedia.

BOLI allows banks to retain ownership and the benefits associated with the policy, which includes tax-free death benefits. These policies earn non-interest income every month for the length of the policy. Additionally, a BOLI policy’s initial cash value is 100% of the premium paid.

Who Are BOLI Policies Purchased For?

Banks typically purchase these insurance policies for their top executives and directors. They pay a premium, which in time has a cash redemption value. BOLI policies, according to The Motley Fool, are a “creative tax-free way for the banks to fund their employee benefit programs, while also helping to offset the potential loss of a valuable executive’s services.”

What’s the Incentive?

Bank-owned life insurance (BOLI) is one avenue for banks that can improve non-interest income, decrease tax burdens, offset employee benefit expenses, and avoid risk.

One of the most appealing aspects of BOLI at Newcleus, however, is its tax-advantaged component. Typically, banks use BOLI agreements to fund employee benefits at a much lower rate. This is achieved as such; first, the bank sets up the policy, and second, the bank makes payments into a specialized fund set aside as the insurance trust.

BOLI can offer tax-equivalent yields up to 3 to 4%. This is an attractive investment, especially when compared to the current low-interest-rate environment. At a basic level, BOLI is intended to offset and recover employee benefit costs, like healthcare and 401(k). 

Another attractive quality of these policies is that they can almost completely offset the cost of non-qualified executive compensation plans, including SERPs, deferred compensation plans, healthcare premiums, and other employee benefit expenses.

Additionally, BOLI is a great tool in helping banks move excess liquidity on balance sheets to a performing asset. BOLI offers banks an investment opportunity that provides absolute returns and provides a risk management tool for banks in the event of a key executive passing, which can be an important aspect of diversifying your bank portfolio.

In today’s marketplace, BOLI policies are designed to reduce the policy owner’s interest rate and mark-to-market risk allowing for steady policy growth. Beyond that, BOLI allows the bank to share a portion of the returns with key executives, allowing for competitive recruitment and retention. This unique type of life insurance plan generates stable revenue from non-loan sources and enhances the other non-interest income component of a bank’s income statement.

Capital Regulations

Under current capital regulations, banks are able to invest up to 25% of their Tier 1 capital into BOLI. The earnings generated from this policy boost the non-interest income earnings, while lowering the capital (efficiency) ratios of the bank. 

In the current financial climate, the yields on BOLI are equivalent, if not better, than current yields due to the global pandemic. Now, yields are equivalent to about 3-4% on a pre-tax basis. 

For those interested in learning more about capital regulations and risk in bank investment strategies, visit this article.

Common Misconceptions about BOLI

There are often some hesitations in implementing BOLI policies. Some of these are due to common misconceptions about BOLI plans, including:

• A BOLI plan must include all bank officers on a non-discriminatory basis 
• If a life insurance carrier is more highly rated, it must offer banks lower interest rates 
• All BOLI carriers offer generally similar BOLI products and investment portfolios 
• BOLI is an illiquid asset that the bank cannot get rid of 
• All BOLI producer groups provide the same level of service and support

Not convinced? Reach out to our team to chat!

A Final Philosophical Obstacle to Consider

Some banks struggle with implementing BOLI policies seeing as a bank is essentially profiting off the death of their employees. Bill McCandless of Lone Star Capital Bank speaks on BOLI policies: “You hope that it is many days and years in the future, but one day that [bank-owned life insurance] policy will come back to benefit the bank.”

Executive Benefits Network explains the benefits from the perspective of reputation risk, which should, of course, always be considered. Here are five benefits of BOLI to help banks better understand the reason for implementing such policies. 

BOLI policies:

• “Generate tax-advantaged income to offset the liabilities and recover the costs of certain employee benefit plans
• Generate stable revenue from non-loan sources
• Provide competitive returns with superior credit quality
• Increase earnings per share and shareholder value
• Protect the bank from the death of a key management employee by reimbursing the bank for lost skills and knowledge and to fund the search for a replacement”

Research shows that previously, BOLI policies were often purchased for the sole purpose of protecting a bank from financial loss. Today, however, it is more common for BOLI policies to be used to enhance investment money while also avoiding additional taxes.

The truth is, plan design matters greatly for and to your executives. Those who implement BOLI policies increase profitability which sequentially benefits bank employees and the bank as a whole. Considering these points, bank executives may understand the give and take of using effectively designed programs.

Your Plan Design Experts

At Newcleus, we understand how important executive retention is to the success of your bank. It is essential that you create executive compensation plans that aid in retaining your top talent and senior leadership. For this reason, we specialize in structuring compensation packages to fit the whole and the individual. In other words, meeting both the needs of your executives while also benefiting your organization. 

We provide the solutions you need to offset employee benefit expenses, retain your top employees, and improve your balance sheet. For those seeking more information on how your organization can benefit from BOLI, reach out to our team of professionals today!