Death Benefits on BOLI Policies Could be Taxable Post-Merger

• November 19, 2018
• Amanda Garnett

As a result of a provision in the Tax Cuts and Jobs Act (“TCJA”) primarily aimed at certain viatical settlement companies, banks completing mergers and acquisitions after January 1, 2018 could acquire BOLI policies that may have taxable death benefits.

This appears to be an inadvertent consequence of the tax bill, but all institutions that have recently completed acquisitions or are contemplating transactions should review their BOLI policies.

Transfer for Value Rules

The tax law has long included transfer for value rules.  Under these provisions if an institution sold their BOLI policies to a third party, the purchaser would not be eligible for tax free treatment of the death benefits.  They would have to pay tax on the gain recognized on the insured’s death based on the cash received and their basis in the policy.

For banks doing acquisition transactions structured as a purchase of assets, the taxability of the death benefits has historically been a consideration in the negotiations. But under the old rules, there was an exception to the transfer for value provisions if the policies were purchased as part of a transaction involving carryover basis such as a stock acquisition or a merger structured as a tax-free reorganization.

Recent Change

The TCJA includes a new provision that defines a Reportable Policy Sale as the acquisition of an interest in a life insurance policy where the acquirer has no substantial family, business, or financial relationship with the insured.

We do not yet have clear guidance on how the IRS will define “substantial”, but it is quite common for banks going through acquisitions to acquire policies on former employees of the target, retirees, or employees that will not continue with the organization post-acquisition.

So even though the transaction may be a tax free reorganization with carryover tax basis, an acquirer could run into the transfer for value rules under these new provisions and could end up owning policies with taxable death benefits.

Next Steps

We are hoping that this issue will be corrected by Congress as part of a technical correction bill.  It is our understanding that the insurance industry has been in communication with Congress related to this issue.

In the meantime, entities completing acquisitions should consider the possible impact of the BOLI policies they are acquiring.  In some cases, it may be preferential to redeem BOLI policies post-acquisition.  Records related to BOLI policies acquired should also be maintained permanently as the death benefits on the policies may not be recognized for decades.

CLA is here to help.  Please contact us for more information.

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