One of the most common questions we get from our clients at Paradigm Life is, “Why have I not heard about this strategy before?” After discussing all the basic benefits of the Perpetual Wealth Strategy, it’s hard to believe this strategy is not widely known.
The basic benefits include:
- Guarantees: Guaranteed growth – guaranteed loan provision
- Safety: Your money is with a financial institution established in the mid 1800’s
- Liquidity: You can access up to 95-100% of your cash value at any time
- Tax Benefits: Premiums are paid with after-tax dollars – cash value grows tax-deferred and can be borrowed against income-tax free for future use – death benefit pays to the beneficiary income-tax free
- Private Contract: Your policy is not publicly known
These basic benefits are truly beneficial; however, what is not commonly known is this strategy has been widely used by banks and corporations for many years. Let’s discuss these two uses and why banks and corporations choose to take advantage of them.
#1 Bank-Owned Life Insurance (BOLI)
According to Investopedia, “A bank-owned life insurance (BOLI) is a form of life insurance purchased by banks where the bank is the beneficiary, and/or owner. This form of insurance is a tax shelter for the administrating bank, as it is a tax-free funding scheme for employee benefits.” The insurance policy is on an executive’s life and the bank is the beneficiary. Cash surrender values grow tax-deferred providing the bank with monthly bookable income. Upon the executive’s death, tax-free death benefits are paid to the bank. BOLI is used as a tax efficient method for offsetting the costs of employee benefit programs.
How Does BOLI Work?
- A bank purchases the life insurance with either a single premium, or a series of annual premiums, on a select group of key employees and/or bank directors. The bank is the owner and beneficiary, although many banks opt to share a portion of the insurance proceeds with the participants. The tax-adjusted cash value growth within a BOLI policy produces a return greater than the opportunity cost of what the bank would have made in an alternative investment if it had not purchased BOLI. From a compliance standpoint, the BOLI gains are used to offset the costs of the employee benefit programs.
- BOLI is a long-term asset when properly implemented and administered, offers the bank a highly-rated investment option with a significant tax advantage versus other bank permissible investments.
Advantages of BOLI
- BOLI is a tax favored asset with returns that typically exceed after-tax returns of more traditional bank investments such as Muni Funds, Mortgage Backed Securities and 5 & 10 Year Treasuries
- Cash values grow tax-deferred (tax-free if held until death)
- Death benefits are tax-free
- Ability to efficiently generate gains to offset costs associated with employee benefits programs
- Risks that are well within standard business risks in the bank’s investment portfolio
- Cash values are considered a Tier 1 Capital Reserve
- No surrender charges
- Diversifies investment portfolio
How much BOLI is in the market place today?
In order to get a total, one would need to research every bank in the country to get an estimate. However, going to the FDIC website gives an idea how much is out there. As of this writing, Wells Fargo had $18.337 billion on their balance sheet, JP Morgan Chase had $10.968 billion and US Bank had $5.773 billion. As you can see this is not a small amount. After looking up the amounts for all other banks, the amount would be staggering.
#2 Corporate-Owned Life Insurance (COLI)
According to Wikipedia, Corporate Owned Life Insurance (COLI) is life insurance on employees’ lives that is owned by the employer (corporation) with benefits payable either to the employer (corporation) or directly to the employee’s families. The corporation pays non-deductible premiums, receives tax-deferred cash values, and receives tax-free death benefit proceeds. Properly configured life insurance funding solutions can afford the company the opportunity to recover all costs associated with a program, including lost earnings on the premium deposits.
Cash value may be accessible via withdrawals of cumulative premium (to basis) and policy loans. As long as the loans are repaid through the tax-free death benefit proceeds, no income tax is due on the distributions. Alternatively, some plans book the cash value to offset the accrued liability and pay distributions from the company’s current cash, recouping the cost through the tax-free death benefit proceeds.
Since the cash values are not subject to taxation during the accumulation period, the company does not need to pay the income tax costs incurred. The full interest, or gain, remains within the asset, and enjoys the benefits of tax deferred growth and/or compound returns. Therefore, the company can achieve improved after-tax results.
Advantages of COLI
- Premiums paid by the corporation are non-deductible
- Tax-deferred cash value accumulation
- Tax-free death benefit proceeds
- Able to book an asset to offset the account balance liability
- Cash value is able to be borrowed against to aid in future cash flow or future corporate program funding
How much COLI is in the market place today?
According to an industry survey conducted in 1999 and cited by New York Life Insurance Company, 68% of the Fortune 1000 companies use COLI programs. These are 1,000 of the largest companies in the United States. We cannot look up the balance sheets of these corporations like we can with banks. However, the amount of COLI in existence today would also be a staggering number.
In conclusion, BOLI and COLI have been common practices of life insurance policies for many years and will continue to be so. If banks and top corporations see the value of a properly designed life insurance policy, shouldn’t that be a great indication it would be good for each individual as well? If you would like to learn more for you personally or if you are a business owner and would like to see how COLI could apply to your corporation feel free to contact us at Paradigm Life.