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FE D E R A L RESER VE BANK
OF N EW YORK
r Circular No. 9 0 6 6
L
May S, 1981
]
Disposition of Income from Sale of Credit Life Insurance
To A ll S tate M em ber B an k s, and O thers Concerned,
in the Second F ed eral R eserve D istric t:
Following is the text of a statement issued by the Board of Governors of the Federal
Reserve System:
The Federal Reserve Board has adopted a policy statement generally prohibiting employees,
officers, directors or others associated with a State member bank from profiting personally from
the sale of life insurance in connection with loans made by the bank.
The policy adopted by the Board— effective May 1, 1981— calls for such income to be credited
to the bank, or, alternatively, to a bank holding company or other affiliate of the bank, so long as
the bank receives reasonable compensation for its role in selling the insurance.
The policy permits State member banks to allow their employees and officers to participate
in the income under a bonus or incentive plan not to exceed more than 5 percent of the recipient’s
annual salary. The policy statement calls for compliance within two years unless there is a further
delay for clearly demonstrated hardship.
The policy statement was recommended to the Board, and to the other Federal regulators of
financial institutions represented on the Council, by the Federal Financial Institutions Examination
Council.
Enclosed is a copy of the Board’s policy statement, as submitted for publication in the
Federal Register. Questions on this matter may be directed to our Bank Examinations
Department (Tel. No. 212-791-5887).
A
n t h o n y
M.
S
o l o m o n
,
President.
(
http://fraser.stlouisfed.org/
Federal
Reserve
...
.....Bank
. . of St. Louis
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FEDERAL RESERVE SYSTEM
Policy Statement on the Disposition
of Income From the Sale of Credit
Life Insurance
[Docket No. R-068]
AGENCY:
Board of Governors of the Federal Reserve System.
ACTION:
Policy Statement.
SUMMARY: The Board has adopted a policy statement that generally prohibits
individuals associated with a state member bank from personally profiting
from credit life insurance sales and requires that income from this
activity be credited to the state member bank. The policy statement,
however, permits crediting such income to bank holding companies or
other affiliated organizations, if the state member bank making the
loan receives "reasonable compensation" for its role in selling credit
life insurance. The policy statement also allows state member banks
to permit their employees and officers to participate in the income
from credit life insurance sales under a bonus or incentive plan not
to exceed 5 per cent of the recipient's annual salary. Finally, the
policy statement requires complete compliance within two years of its
effective date; however, there is provision for further extension in
the case of clearly demonstrated hardship.
EFFECTIVE DATE:
May 1, 1981
FOR FURTHER INFORMATION: Sandra Greene (202/452-2742), Division of
Banking Supervision and Regulation, or Richard Whiting (202/452-3779) ,
Legal Division, Board of Governors of the Federal Reserve System, Washington,
D.C. 20551.
SUPPLEMENTARY INFORMATION: On January 4, 1980, on behalf of the Board
and its other member agencies, the Federal Financial Institutions Examination
Council published for comment a joint notice of proposed Policy Statement
on Disposition of Credit Life Insurance Income (45 Federal Register
1152). The proposed policy statement addressed the longstanding financial
practice whereby officers, directors and principal shareholders receive,
either directly or indirectly, income derived from the sale of credit
life, health or accident insurance in connection with loans made by
the financial institution. The proposed policy statement stated the
belief that this practice may constitute an unsafe and unsound financial
practice. Accordingly, the proposed policy statement would have prohibited
all insiders or affiliates of financial institutions from personally
profiting from the sale of credit life insurance and would have required
all such income to be credited to the financial institution's income
account.
[Enc. Cir. No. 9066]
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A large majority of the approximately 650 comments received
opposed the policy statement as proposed. Most comments came from small
state chartered banks located in the Midwest. Very few national banks
submitted wholly negative comments, suggesting that they had adjusted
without difficulty to a similar regulation promulgated by the Comptroller
of the Currency in 1978. Few state banking associations opposed the
policy statement, and no opposition came from state insurance commissioners.
A number of small banks, and others applauded the policy statement.
Similar sentiments of a general nature were expressed by larger banks
and bank holding companies, although most bank holding companies urged
a modification allowing holding company affiliates to receive credit
life insurance income.
The principal criticisms of the proposed policy statement
were: (1) it is unreasonable to label the insider retention of credit
life income an "unsafe and unsound banking practice" when the practice
is one of long standing, is approved by the bank's board and has not
been the cause of many bank failures; (2) to obtain competent management
in small banks, it is necessary to provide an incentive in addition
to salary; (3) unless loan officers share in the credit life premiums,
they will have no incentive to mention the availability of credit life
to borrowers; (4) receipt of credit life income will not cause a loan
officer to make an unsound loan or coerce a borrower to purchase unneeded
or unwanted credit life insurance; (5) the policy statement threatens
the ability of individuals to buy bank stock and controlling ownership,
thereby restricting the transfer of ownership of small institutions
and the maintenance of local ownership-management and encouraging acquisition
of banks by multibank holding companies; and, (6) the disposition of
credit life income is more properly a responsibility of the bank's board
of directors.
In light of these comments, the following significant changes
have been made in the policy statement recommended by the Federal Financial
Institutions Examination Council on December 31, 1980, and finally adopted
by the Board:
1. The policy statement has been expanded to cover income
from the sale of mortgage life insurance, a form of credit life insurance
sold on mortgage loans.
2. A footnote has been added to make it clear that the policy
statement does not intend to govern that portion of the insurance premium
required to cover the underwriting risk.
3. The policy statement's first paragraph contains a new
sentence permitting limited bonuses to be paid to officers and employees
for credit life insurance sales. Allowing limited bonuses responds
to the comment voiced by many financial institutions that an incentive
is required to motivate loan officers to sell credit life insurance,
while still reducing the potential for abusive sales practices.
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4. The final policy statement reaffirms that credit life
income should be credited solely to the state member bank's income accounts
and not to individual employees, officers, directors, principal shareholders,
their interests, or other affiliates. However, an exception allows
credit life income to be credited to an affiliate operating under the
Bank Holding Company Act or, in the case of an individual shareholder,
to a trust for the benefit of all shareholders, provided that the financial
institution is paid "reasonable compensation". This latter condition
recognizes both the role of the state member bank in generating credit
life insurance sales and the rights of any minority stockholders to
share in the benefits of such sales. As a general rule, "reasonable
compensation" should amount to a minimum of 20% of the net income attributable
to the state member bank's credit life insurance sales. For example,
where a bank holding company operates an insurance agency selling credit
life insurance to both the bank's customers and to customers of the
holding company's finance company subsidiary, the minimum reasonable
compensation to the bank would be 20% of the net income from credit
life sales related to loans made by the bank. If management feels that
less than 20% should be the appropriate measure of compensation, it
may discuss the matter with its principal federal regulator.
5. The last paragraph of the policy statement increases from
one year to two years, the period within which compliance is to be achieved
by the state member bank. While an additional year may not be necessary
for most institutions to comply with the policy, an extra year will
ensure that adequate time has been provided for virtually all institutions
to be in compliance. The provision for hardship extensions beyond the
initial implementation period is retained as well.
The policy statement is issued pursuant to the authority granted
to the Board by section 11 of the Federal Reserve Act (12 U.S.C. § 248)
and the Financial Institutions Supervisory Act of 1966 (12 U.S.C. § 1818(b)).
POLICY STATEMENT
ON THE DISPOSITION OF INCOME FROM
THE SALE OF CREDIT LIFE INSURANCE
For the purposes of helping to preserve the safety and soundess
of financial institutions, the Board of Governors of the Federal Reserve
System, establishes the policies set forth below on the disposition
of income-7from the sale of credit life, health and accident, and mortgage
life insurance ("credit life insurance") related to loans made by state
member banks.
1/ "Income" includes commissions and experience rating credits; it
does not refer to that portion of the premium required to cover the
underwriting risk.
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1.
Individual employees, officers, directors and, principal
shareholders of a state member bank should not personally
profit by retaining commissions or other income from the sale
of credit life insurance to the institution's loan customers.
However, employees and officers may participate in a bonus
or incentive plan under which payments based in whole or in
part on credit life insurance sales are made in cash or in
kind out of the state member bank's funds in an amount not
exceeding in any one year 5% of the recipient's annual salary.
Such payments may not be made to employees and officers more
frequently than quarterly.
2.
As an accounting and operations matter, income derived from
credit life insurance sales to loan customers should be credited
to the income accounts of the state member bank and not to
the state member bank's individual employees, officers,
directors, or principal shareholders, their interests,
or other affiliates. However, such income may be credited
to an affiliate operating under the Bank Holding Company Act
or in the case of an individual shareholder, to a trust
for the benefit of all shareholders, provided that the state
member bank receives reasonable compensation in recognition
of the role played by its personnel, premises and good will
in credit life insurance sales.—
3.
Where state insurance laws or other legal considerations preclude
a financial institution from using a particular procedure
for selling credit life insurance or from disposing of the
income in a particular manner, a state member bank that wishes
to provide this service to its loan customers shall seek and
utilize an alternative method that complies with 1 and 2 above.
4.
The proper method for the distribution to shareholders of
income derived from credit life insurance is through a declaration
of dividends in conformity with law, rule, regulation and
prudent financial practices.
5.
State member banks should be in compliance with 1 and 2 above
within two years following publication in the Federal Register
of this policy statement. Modifications beyond that time
will be granted only where a clear hardship exists and satisfactory
assurance is provided that compliance with 1 and 2 above will
be achieved within an appropriate time period.
2/ As a general rule, "reasonable compensation" means an amount equivalent
to at least 20% of the affiliate's net income attributable to the financial
institution's credit life insurance sales.
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REGULATORY ANALYSIS OF POLICY STATEMENT
The Board has adopted a policy statement that generally prohibits
individuals associated with a state member bank from personally profiting
from credit life insurance sales and requires that income from this
activity be credited to the state member bank. The policy statement,
however, permits crediting such income to bank holding companies or
other affiliated organizations if the state member bank making the loan
receives "reasonable compensation" for its role in selling credit life
insurance. The policy statement also allows state member banks to permit
their employees and officers to participate in the income from credit
life insurance sales under a bonus or incentive plan not to exceed 5
per cent of the recipient's annual salary.
The policy statement as adopted is significantly different
from the proposed policy statement, which constituted the principal
alternative considered by the Board. As adopted, the policy statement
in effect exempts bank holding companies and their affiliates from the
prohibition against receiving income from the sale of credit insurance,
except that "reasonable compensation" must be paid to the state member
bank. Under the policy statement as proposed there existed no such
exemption. The exemption was adopted after considering all comments
received and, in light of this exemption, it is likely that the effect
of the policy on the majority of bank holding companies will be immaterial.
The Board further believes that because the policy requires a state
member bank to be reasonably compensated for its role in effecting the
sale of credit life insurance, it is expected that any burden associated
with adjusting operations to comply with the policy statement generally
will be more than offset by benefits to the institution. Finally, the
majority of individuals associated with financial institutions who currently
rely on income from the sale of credit life insurance to supplement
salary or dividend income are expected to have little difficulty in
adjusting to the policy. Salary or dividends can often be increased
by a financial institution sufficiently to replace foregone credit life
insurance income. While under certain circumstances a financial institution
may be unwilling or unable to replace an individual's lost insurance
income with an increase in salary or dividends, and where a severe or
insurmountable problem is encountered an appeal may be made to the
hardship extension provision of paragraph 5. Because the policy statement
pertains to the accounting of income among persons associated with state
member banks, it imposes no new regulatory burden upon the general public.
Consequently, as a result of the revisions made by the Board in the
final policy statement, the Board believes that the burdens imposed
by the policy will be minimal, while the objective of the Board in ensuring
the safety and soundness of state member banks will be preserved.
By order of the Board of Governors, April 24/ 1981.
(signed)
Theodore E. Allison
Theodore E. Allison
Secretary of the Board
[SEAL]
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