Managing Rising Health Care Costs with Bank-Owned Life Insurance (BOLI)
By Fred Bean, CLU and Bob Hamilton, CLU, CLTC – Bean Hamilton Corporate Benefits Harry L. “Trey” Deupree III – Equias Alliance LLC | September, 2011
Key employees demand exceptional benefits—including excellent health care coverage. Yet for the last decade, employer health insurance costs have been rising at a rate that far exceeds increases in both the rate of general inflation as well as workers’ earnings1. How can you manage these inevitable increases in health care costs while still providing competitive benefits for your executives?
Offsetting health care and other benefit expenses
In addition to considering the latest cost-sharing trends, prudent bankers are also managing rising health care insurance expenses by reallocating bank assets into bank-owned life insurance (BOLI). A reallocation of a small portion of your bank’s assets into BOLI can likely offset 47% to 55% percent of the cost of providing employee health insurance over the next five years (see chart below).
1A new study by the Kaiser Family Foundation, a nonprofit research group that tracks employer-sponsored health insurance on a yearly basis, shows that the average annual premium for family coverage through an employer reached $15,073 in 2011, an increase of 9 percent over the previous year.
More than 50 percent of U.S. commercial and savings banks now use BOLI to recover employee benefit costs, according to the FDIC2
Via the Interagency Statement on the Purchase and Risk Management of Bank Owned Life Insurance (often referred to as OCC 2004-56), the various regulatory agencies have confirmed that financial institutions can use BOLI to finance not only employee medical benefits, but also group life and other employee benefit plan expenses including long-term care and supplemental (nonqualified) benefits (e.g., supplemental disability coverage, executive deferred compensation and SERP benefits.)
BOLI is an excellent tool for offsetting rising benefit costs because:
• BOLI durations are generally consistent with the long-term nature of benefit plan liabilities.
• BOLI is designed to provide a higher after-tax yield than most bankeligible investments.
How BOLI works: Life insurance that provides income with tax advantages
The bank purchases individual life insurance policies on a group of employees. The eligible group is usually an officer group (e.g., assistant vice president and above), but may be based on salary or other parameters. The bank pays the premium(s), owns the cash value of the policies, and is the beneficiary of the insurance. The coverage does not interfere with any other insurance provided by the bank (e.g., group term life insurance).
The annual cash value growth and future death benefits are nontaxable if policies are held until death, which provides an attractive tax advantage3.
Accounting for BOLI: No initial change to the balance sheet, but income contributes to net worth
The bank typically sells Treasuries or other securities—or uses funds generated through other cash flow—to purchase BOLI. Since both the source of these funds and BOLI are assets, there is no initial net change to the balance sheet.
The bank earns BOLI income from two sources:
• Growth in cash surrender value
Cash surrender value determines the asset value for accounting purposes for the bank’s BOLI policy. This value increases by the amount of interest credited by the carrier and decreases by the internal cost of insurance charges.
• Net death benefit
The other source of income from BOLI is the net insurance proceeds paid to the bank when a covered employee or former employee dies. The incremental net insurance proceeds above the cash value asset is booked as additional gains.
2 Per FDIC Call Report Data as of 9/30/11.
3 Death proceeds on corporate-owned life insurance, including policies owned by a grantor trust established by the employer, will be received tax-free to the extent they comply with Internal Revenue Code Section 101(j) as well as other applicable state and federal laws.
Because of the inherent tax advantages, BOLI can earn a higher rate of return after-tax than a Treasury investment. By working with quality carriers (those with S&P ratings of A+ and higher) that provide flexible plan features and attractive rates of return, BOLI can drive an increase in earnings per share. The annual increase in cash value and the net insurance above cash value at death are both recorded as gains on a bank’s income statement. By combining BOLI with effective cost-containment/sharing measures, banks can wield a powerful weapon for combating the ever-rising cost of employee health care coverage as well as other employee benefits.
Utilizing the combined expertise of Equias Alliance and Bean Hamilton Corporate Benefits, Arkansas bankers may put themselves in greater control of future benefit costs.
Equias Alliance is the only Arkansas Bankers Association-endorsed provider of Bank Owned Life Insurance services. Bean Hamilton Corporate Benefits is the only endorsed benefit consultant for the Arkansas Bankers Association. Visit www.arkbankers.org for more information on these exclusive endorsements. To learn more about BOLI for your bank, contact Trey Deupree of Equias Alliance at 469-252-1038 or Fred Bean and Bob Hamilton at 501-221-9408.
Trey Deupree is a registered representative of and securities are offered through ProEquities, Inc. ProEquities, Inc. is a Registered Broker/Dealer, and member FINRA and SIPC. Equias Alliance, LLC and Bean Hamilton Corporate Benefits are independent of ProEquities, Inc. 7200 Bishop Road #240, Plano, TX 75024 Ph: 469-252-1038
This article is for information purposes only; it is not intended as an offer or solicitation for the purchase or sale of any financial instrument and is not intended to present an opinion on legal, tax, accounting or investment matters.