Thousands of companies buy life insurance policies to help fund executive compensation and benefits. These policies are held on thousands of employees, not just executives. Banks are among the biggest players with billions of dollars in life insurance on employees, according to a story in today's Wall Street Journal. When they collect on these policies after an employee's death they get the money tax free.
Bank of America (BAC) is the biggest player in this game with $17.3 billion at the end of the first quarter, according to bank filings. J.P. Morgan Chase (JPM) had $11.1 billion and Wells Fargo (WFC) has $5.7 plus $12 billion originally held by Wachovia.
These insurance policies are used as informal pension funds. Companies deposit money in the contracts that they use like big, nondeductible IRAs. They can then allocate the cash into investments they choose that grow tax free. As employees, former employees and retirees die they collect the death benefits tax free.
Critics of the practice believe these bank contracts give companies a way to fund pension benefits using tax breaks. Some families complain that employers should not benefit from their loved ones death.
The Journal reports that banks had a total of $122.3 billion in life insurance on employees at the end of 2008, almost double the $65.8 billion held in 2004. Banks are required to disclose their total life insurance holdings in regulatory filings, but other companies aren't. While it's known that thousands of companies do it, figures are not available on how much life insurance is held by other types of corporations. Some major corporations known to use life insurance include AIG (AIG), Fannie Mae, Freddie Mac, Kimberly-Clark (KMB) and Tyson Foods (TSN).
Banks get another boost from using life insurance. Thanks to accounting rules, the gains earned in these life insurance holdings not only grow tax free, but can be reported as income each quarter to help offset compensation and benefits.
Consultants estimate that over the coming decades banks will receive $400 billion in death benefits, according to the Journal report. Employers track the death of former employees by checking Social Security Administration records.
Employees must sign consent for company coverage. To get that consent companies offer a small portion of those death benefits to an employee's family, but, in most cases the portion to go to an employee's family ends when the employee leaves the company even though the policy may still be in force.
Does your company insure you? Does your family get any portion of the death benefits?
Lita Epstein has written 25 books including Trading for Dummies and Reading Financial Reports for Dummies.
What are stocks? Learn how to start investing.View Course »