JP Morgan Asset Management.ppt

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JP Morgan Asset Management.ppt

  1. 1. Business Owned Life Insurance (“BOLI”) John Simone Client Advisor, Structured Solutions Group 312-732-5329 [email_address] FOR INSTITUTIONAL USE ONLY. Not for public distribution.
  2. 2. Insurance companies operate in a universe of strict capital and regulatory constraints <ul><ul><li>Capital requirements and efficiency within risk-based capital framework </li></ul></ul><ul><ul><li>Book income </li></ul></ul><ul><ul><li>Balance sheet diversification </li></ul></ul><ul><ul><li>State insurance regulation / rating agencies restrictions </li></ul></ul><ul><ul><li>Substantial rise in employee benefits </li></ul></ul><ul><ul><li>Rising cost of health benefits </li></ul></ul>Sample insurance constraints
  3. 3. Benefit liabilities are rapidly growing Source: Kaiser/HRET Survey of Employer-Sponsored Health Benefits, 1999-2007; KPMG Survey of Employer-Sponsored Health Benefits, 1993, 1996; The Health Insurance Association of America (HIAA), 1988, 1989, 1990; Bureau of Labor Statistics, Consumer Price Index, U.S. City Average of Annual Inflation (April to April), 1988-2007; Bureau of Labor Statistics, Seasonally Adjusted Data from the Current Employment Statistics Survey, 1988-2007 (April to April) Note: Data on premium increases reflect the cost of health insurance premiums for a family of four. The average premium increase is weighted by covered workers. 1 Estimate is statistically different from estimate for the previous year shown (p<.05), No statistical tests are conducted for years prior to 1999. Average percentage increase in health insurance premiums (1988–2007)
  4. 4. What is COLI/BOLI? <ul><ul><li>Corporate Owned Life Insurance (“COLI”) and Business Owned Life Insurance (“BOLI”) represent the same insurance structure – a group variable life insurance contract purchased on the lives of employees whereby the company purchasing the policy is the owner and beneficiary of the policy </li></ul></ul><ul><ul><li>COLI differs from BOLI in that it is commonly used by corporations to “hedge” or offset a specific benefit liability such as a non-qualified deferred compensation plan. Any gains or losses in the policy value (asset) is offset against gains and losses in plan’s obligation to participants (liability). Because of this direct matching between assets and liabilities, COLI does not provide any incremental earnings benefit to the purchaser of the policy </li></ul></ul><ul><ul><li>In contrast to COLI, BOLI is used by financial institutions as an investment vehicle to informally hedge broad based benefit liabilities such as employee health benefits. Typically there is not a direct asset and liability offset, creating a marginal increase in earnings to the owner of the policy. Typically, BOLI uses a Stable Value Protection (“SVP”) wrapper to smooth gains and losses associated with the contract’s accounting treatment to minimize period to period earnings volatility </li></ul></ul>
  5. 5. What is a BOLI transaction? <ul><ul><li>Size the Transaction: determine number of employees to insure and capital commitment to BOLI asset </li></ul></ul><ul><ul><li>Structure the Contract: choose insurance carrier, select investment option(s) and evaluate SVP </li></ul></ul><ul><ul><li>Receive Periodic Death Benefits: purchaser receives it’s premium plus investment gains minus expenses in the form of tax free death benefits </li></ul></ul>Three steps of structuring the transaction Source: J.P. Morgan Asset Management BOLI provider structures, transacts and sources insurance policy BOLI Buyer A life insurance company purchases a policy to hedge against rising healthcare costs and future liabilities Separate Account BOLI Held as a separate account on balance sheet of the insurance carrier Allows BOLI purchaser to choose from a variety of investment options Buys policy from third party Stable Value Wrap Provided by a third party J.P Morgan Asset Management Manages underlying investment options Undertakes to provide stable redemption values
  6. 6. Evolution of the BOLI marketplace 1994: Limited number of insurers participate in BOLI 1999: Insurers begin to invest in Separate Account SVP contracts 2006: COLI Best Practices Act (“COLI BPA”) is made law as part of the Pension Protection Act IRS Revenue Procedure 2007-61 states insurers receive the full tax benefits of BOLI if they meet the safe harbor provisions of the COLI BPA Recent regulatory action has made it easier for insurance companies and other firms to participate in BOLI 1991: BOLI Marketplace created by OCC
  7. 7. BOLI has favorable GAAP and Statutory Accounting treatment <ul><ul><li>GAAP Accounting treatment </li></ul></ul><ul><ul><li>Balance Sheet: “Other Asset” </li></ul></ul><ul><ul><li>Income Statement: “Other Income,” “above the line treatment due for income is recurring in nature.” Please note that BOLI is accounted for under FASB 85-4 which states that the asset is booked at ‘net realizable value’. Therefore, all realized and unrealized gains and losses of the contract are booked through the income statement which is similar to how a trading security is treated under FASB 115. Because of this treatment, many financial institutions have found it advantageous to ‘wrap’ their BOLI assets with Stable Value Protection to achieve a book value accounting treatment whereby gains and losses are amortized over a period of time to minimize period to period volatility </li></ul></ul><ul><ul><li>Statutory Accounting treatment </li></ul></ul><ul><ul><li>Balance Sheet: BOLI is characterized as “Aggregate Write-In Other Than Invested Asset” on the Statutory Accounting Statements. </li></ul></ul><ul><ul><li>Income Statement: BOLI gains are part of Net Investment Income via Aggregate Write-Ins for Investment Income </li></ul></ul>
  8. 8. Regulatory capital treatment <ul><ul><li>Statement of Statutory Accounting Principles (SSAP) 21-BOLI is an Admitted Asset </li></ul></ul><ul><ul><li>NAIC Life Risk-Based Capital Report—zero percent default RBC confirmed by NAIC </li></ul></ul><ul><ul><li>Risk-Based Capital Charge for P&C: 5% </li></ul></ul>
  9. 9. Rating Agency, IRS and NAIC Guidelines <ul><ul><li>AM Best BCAR Models for 2007 and 2008: BOLI carries the same risk charge of Class 1 Bonds </li></ul></ul><ul><ul><li>S&P Risk-Based Capital Model: The asset default charges are the same as those applied to bond securities: For Separate Account SVP, S&P will evaluate the SVP counter party and agreement </li></ul></ul><ul><ul><li>IRS Revenue Procedure 2007-61 released in September of 2007 provides clear guidelines on the tax treatment specifically for insurers </li></ul></ul><ul><ul><li>NAIC Liquidity/Cash Flow Testing: no negative impact when applying the liquidity/cash flow test to BOLI.  Insurers that utilize SVP, use the current crediting rate to model liquidity/cash flow of the BOLI contract which is the current book value </li></ul></ul>
  10. 10. Case study/marginal benefit analysis: Why is this an attractive investment? 1 Forward looking returns (10 to 15 years) based on J.P. Morgan Asset Management Capital Market Assumptions as of 11/30/08 2 RBC rates will be 0% on BOLI if XYZ is owner and beneficiary RBC rate is 0% because BOLI is reported on &quot;Aggregate write-in for other than invested assets” line of statutory statement (current instructions) 3 Assumes XYZ invests its statutory surplus in Investment Grade Bonds 4 $ designates dollar amount 5 % designates percentage amount 6 BOLI Contract Expenses: Investment Management: 17 BPS: SVP 20 BPS: Insurance Expenses 43 BPS. Above chart is shown for illustrative purposes only. Marginal benefit analysis $ millions
  11. 11. Why invest in BOLI now? <ul><ul><li>Recent regulatory changes give clear guidance to insurance companies </li></ul></ul><ul><ul><li>Tax efficiency </li></ul></ul><ul><ul><li>Balance sheet and income statement advantages </li></ul></ul><ul><ul><li>Capital efficient diversification </li></ul></ul><ul><ul><li>Transparency </li></ul></ul>
  12. 12. J.P. Morgan Asset Management This document is intended solely to report on various investment views held by J.P. Morgan Asset Management. Opinions, estimates, forecasts, and statements of financial market trends that are based on current market conditions constitute our judgment and are subject to change without notice. We believe the information provided here is reliable but should not be assumed to be accurate or complete. The views and strategies described may not be suitable for all investors. References to specific securities, asset classes and financial markets are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations. Indices do not include fees or operating expenses and are not available for actual investment. The information contained herein employs proprietary projections of expected returns as well as estimates of their future volatility. The relative relationships and forecasts contained herein are based upon proprietary research and are developed through analysis of historical data and capital markets theory. These estimates have certain inherent limitations, and unlike an actual performance record, they do not reflect actual trading, liquidity constraints, fees or other costs. References to future net returns are not promises or even estimates of actual returns a client portfolio may achieve. The forecasts contained herein are for illustrative purposes only and are not to be relied upon as advice or interpreted as a recommendation. The value of investments and the income from them may fluctuate and your investment is not guaranteed. Past performance is no guarantee of future results. Please note current performance may be higher or lower than the performance data shown. Please note that investments in foreign markets are subject to special currency, political, and economic risks. Exchange rates may cause the value of underlying overseas investments to go down or up. Investments in emerging markets may be more volatile than other markets and the risk to your capital is therefore greater. Also, the economic and political situations may be more volatile than in established economies and these may adversely influence the value of investments made. All case studies are shown for illustrative purposes only and should not be relied upon as advice or interpreted as a recommendation. They are based on current market conditions that constitute our judgment and are subject to change. Results shown are not meant to be representative of actual investment results. Past performance is not necessarily indicative of the likely future performance of an investment. Any securities mentioned throughout the presentation are shown for illustrative purposes only and should not be interpreted as recommendations to buy or sell. A full list of firm recommendations for the past year is available upon request. J.P. Morgan Asset Management is the marketing name for the asset management business of JPMorgan Chase & Co. Those businesses include, but are not limited to, J.P. Morgan Investment Management Inc., JPMorgan Investment Advisors Inc., Security Capital Research & Management Incorporated and J.P. Morgan Alternative Asset Management, Inc. Copyright © 2009 JPMorgan Chase & Co. All rights reserved.

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