First, a disclaimer:
What follows is a regular guy’s very general interpretation of some pretty complex federal financial regulations. Take it with a grain of salt, and if it interests you further, do your own research or talk to an expert, which I am not.
I’m just a guy who’s spent a boatload of time in the past several months trying to crack the code to whole life insurance – and use it to bootstrap my own banking system.
What I’ve discovered (completely by accident, as is often the case when I’m digging around in finances) is that some of the biggest buyers of whole life insurance are banks. There’s even a term for it: BOLI, or bank-owned life insurance, and as it turns out, they use it in pretty much the same way I’ve been writing about – plus more.
And we’re not talking chump change. According to the Dec 31, 2014 report of the Federal Financial Institutions Examination Council, here is how much whole life insurance some of the biggest banks have on their books:
|JPMorgan Chase||$10.6 billion|
|Wells Fargo Bank||$18 billion|
|Bank of America||$20.8 billion|
|PNC Bank||$7.7 billion|
And they aren’t the only ones.
At the end of 2015, almost 3,800 banks in the US reported $156.1 billion in whole life (not term life) insurance policies.
Why do banks do this? Simply put, because they have to, but also because they WANT to.
Rules are Rules
Many of the country’s largest banks are required by federal law to keep a substantial amount of resources that can be used as liquid cash with little notice. The goal is to prevent another bank run.
These laws are taken from a regulatory framework called Basel-III that was created by an international grouping of central banks from developed countries around the world. The idea was to avoid another financial crisis like the one that hit in 2008/9, which almost sank many “too-big-to-fail” banks.
Starting in 2015, the Federal Reserve Board took the Basel-III guidelines and adapted them for the US. A big part of the US rules provides guidelines as to how much Tier 1 Capital (the most liquid assets) each bank must have, relative to how much risk it has on the books (loans, stocks, etc).
Generally, they are seeking a 6% ratio of Tier 1 Capital to risk-based assets. For example, if the bank has $100 million in loans and other risk-based investments, it needs to keep $6 million worth of Tier 1 Capital.
What qualifies as Tier 1 Capital? You guessed it – cash, of course, but also whole life insurance, among other instruments. Because it is stable and can be liquid in the form of loans, according to the Federal Deposit Insurance Corporation, it qualifies – so banks have been loading up on them.
For decades, banks would take out whole life insurance policies on their key executives – CEOs and the like.
However, in the past couple of years, the banks have cast a wider net and are now insuring the lives of many more employees further down the corporate ladder. Depending on state law, they may not even need written employee consent.
Spoonfuls of sugar
It’s one thing to have to take your regulatory medicine. It’s quite another thing to find a medicine so delicious it becomes irresistible, which is exactly what happened with BOLI.
Aside from helping banks meet their Tier 1 Capital requirements, whole life insurance has also given them a great way to:
- Earn steady, low-risk cash value growth that is tax advantaged. A 3.5% growth on BOLI is equal to about a 5% return on taxable instruments
- Borrow cash from the policies, while still earning the cash value growth
- Invest that cash if they so choose, at a higher interest rate, and book the difference as profit
- Receive tax-free life insurance proceeds upon the death of insured employees
Sound familiar yet?
It’s a little ironic that when I started this journey of trying to bootstrap my own bank using life insurance, I discovered that real banks are already way ahead of me. It makes sense, as they have the legal and tax experts to help them find the most profitable path. While individuals like us may not have to worry about Basel-III regulations, we can learn from the banks, to build ourselves an engine that will take us to financial independence.