What is BOLI (Bank-Owned Life Insurance)?
– Bank-owned life insurance (BOLI) is a life-insurance policy purchased by a bank on the life of an employee (usually an executive). The bank is the policy owner and beneficiary. BOLI is used mainly to fund employee-benefit costs, provide key-person protection, and generate tax-advantaged investment returns for the bank.
Key mechanics — how BOLI works
– A bank contracts with an insurance carrier and pays premiums into the policy or policies. The carrier credits interest or investment returns to the policy’s cash value.
– The bank, as owner and beneficiary, receives the death benefit if the insured person dies while the policy is in force. Death benefits are generally received tax-free by the bank.
– Premiums and the policy’s internal growth typically accumulate without immediate tax on the bank. If the bank surrenders the policy, gains become taxable and may incur a penalty (see risks below).
– The insured employee must consent to the coverage. Banks can only insure employees whose death would cause a financial loss to the bank (commonly high-paid staff or the top quartile of employees).
Common BOLI account types (investment and legal differences)
– General account: The insurer credits returns from the carrier’s general investment pool (often bonds and real assets). These products rely on the insurer’s credit strength; the bank’s deposit is part of the carrier’s general account.
– Separate account: Investments backing the policy are segregated and professionally managed. The bank receives more transparency about holdings and the account is usually insulated from the insurer’s creditors.
– Hybrid account: Combines features of general and separate accounts—offers some guaranteed elements and more disclosure, with creditor protection similar to separate accounts.
Why banks buy BOL
I. Why banks buy BOLI
Banks buy bank‑owned life insurance (BOLI) primarily to reduce the net cost of employee benefit programs and to earn a relatively stable, tax‑advantaged return on excess liquidity. Key motivating points:
– Offset employee benefit expense. Proceeds or policy value growth can be used to help fund post‑retirement obligations, health care subsidies, and other employee benefit costs. This reduces the bank’s net benefit expense reported in the income statement (subject to accounting rules and documentation).
– Improve after‑tax yield. Cash value inside life insurance policies grows tax‑deferred and, when structured correctly, death benefits are generally received income‑tax‑free. That can produce a higher after‑tax yield versus a taxable investment with a similar pretax return.
– Stable, predictable income credits. Many BOLI products credit a contractual or indexed rate (or a mix of guaranteed and experience‑based credits). That can provide more predictable long‑term income than relying solely on trading securities.
– Diversification of asset sources. BOLI provides an alternative asset class exposure (insurance carrier liabilities and pooled insurance investments), and can diversify sources of noninterest income.
– Balance sheet and ROE management. Because BOLI cash surrender value is recorded as an asset and credited income can offset benefit expense, some banks use BOLI to improve reported return on equity (ROE) and
and to offset employee benefit expense over time.
Risks and disadvantages
– Liquidity risk. Life‑insurance cash surrender value (CSV) is not a cash equivalent. Surrenders or withdrawals can be restricted, subject to notice periods, or carry surrender charges. That makes BOL
a less liquid asset on the balance sheet and can restrict a bank’s ability to access cash quickly for unexpected funding needs or for opportunistic uses. Below I finish the list of principal risks, then give practical mitigants, a worked numeric example, and a short due‑diligence checklist.
Additional risks
– Concentration risk. Holding a large share of a bank’s noninterest income or assets in BOLI—especially from a single insurer—creates exposure to that insurer’s business cycle and creditworthiness. Large concentrations can amplify losses if the carrier struggles or if market conditions force early surrenders.
– Insurer credit risk. BOLI benefits and credited yields depend on the insurer’s financial strength. A downgrade
could reduce the insurer’s ability to honor credited rates, increase the risk of delayed or contested death‑benefit payments, and prompt rating‑agency actions that affect a bank’s perceived asset strength. Insurer credit risk is not eliminated by the tax or accounting treatment of B