Breaking Down Financial Institution Bonds

February 4, 2020

Financial institutions face many risks in their business operations, including risks that come from both external and internal sources. One of the primary emerging internal risks plaguing the financial services industry is that of employee dishonesty, which can take several forms. While many safeguards are in place, risk management experts like U.S. Risk Underwriters know that certain types of insurance policies can protect against the illegal acts employees commit in financial institutions. These policies are referred to as financial institution bonds. Here is a look at financial institution bonds, how they work, and what they mean for business continuity in the financial industry. 

Before delving into financial institution bonds and how they work, it can be valuable to understand a broader category of business insurance known as fidelity bonds. In simple terms, fidelity bonds protect against the monetary or physical losses resulting from employees’ fraudulent activity. Fidelity bonds provide coverage for a range of losses, including:

• Employee theft
• Employee forgery
• Embezzlement
• Fraudulent trading practices

Financial institution bonds are a form of fidelity bond, or a type of business insurance designed to protect companies in the financial services field. In addition to providing coverage for the risks illustrated above, financial institution bonds also provide loss coverage for fraudulent account activity, such as employees creating false customer accounts or skimming from inactive existing accounts. There are four main types of financial institution bonds, each designed for specific financial entities. The four main financial institution bonds are:

• Form 14: For investment banks and companies, stock exchanges, stock brokerages, and mutual funds, among others.
• Form 15: For loan and small-business finance companies as well as mortgage and real estate investment trusts.
• Form 24: For commercial banking on the national level as well as for U.S. subsidiaries of foreign banks, trust companies, title insurance companies, and similar large-scale financial operations.
• Form 25: For insurance companies and reinsurance firms. 

According to the Association of Certified Fraud Examiners (ACFE) in their groundbreaking study entitled Report to the Nations: 2018 Global Study on Occupational Fraud and Abuse, the financial services sector is especially susceptible to fraud, facing billions of dollars in losses each year due to illegal employee activity. Financial institution bonds, then, offer a counterpunch to rising levels of employee fraud. 

Banker’s Blanket Bonds: Unique Fidelity Bond Coverage

In addition to financial institution bonds as a means of insurance protection for companies in the financial services industry, there is another fidelity bond option. This is called the Banker’s Blanket Bond, or BBB. These bonds are obtained from insurance brokers like U.S. Risk Underwriters and many others. Just like other fidelity bonds, they provide coverage against losses resulting from dishonest or illegal employee activity.

Banker’s blanket bonds typically provide coverage against:

• Financial losses from employee forgery
• Cyber fraud
• Damage or loss of physical property
• Extortion
• Dishonest employee acts

The key difference with banker’s blanket bonds is that coverage is only provided if employees have committed dishonest acts for personal gain. In other words, dishonest or fraudulent acts committed to make the financial institution appear more financially stable are not covered. Banker’s blanket bonds are also considered first-party insurance, as they cover the institution and its assets itself, not the assets of account holders or shareholders. In many states, these bonds and other forms of fidelity bond protection are required by law. In other states, while not required, financial institution bonds offer valuable protection for business interests and the assets held by financial firms. 

It is important to understand that fidelity bonds, particularly financial institution bonds, are not credit insurance. These insurance protections do not offer credit to the financial firm, nor do they assume the credit risks of borrowers affected by fraudulent employee activity. Many financial institutions will also opt for specialized credit insurance to fill the coverage gaps inherent in financial institution bonds and other fidelity bonding solutions. ◼