Corporate disability buy-ups: getting more coverage for less for highly compensated employees.Being unable to work for medical reasons is one of the greatest financial threats workers can face. CPAs, CFOs and in-house financial managers need to know what types of disability protection and what insurance programs are available so an employer can offer greater benefits to highly compensated employees. This article explains how CPAs can help employers negotiate group disability buy-up policies that offer executives more monthly income-replacement coverage tax-free and at less cost to the company GROUP INCOME-REPLACEMENT PLANS Most workers who have disability insurance acquire it through group plans established by their employers. Such plans are tax-favored under the Internal Revenue Code The Internal Revenue Code is the body of law that codifies all federal tax laws, including income, estate, gift, excise, alcohol, tobacco, and employment taxes. These laws constitute title 26 of the U.S. Code (26 U.S.C.A. § 1 et seq. , which says group premiums are deductible That which may be taken away or subtracted. In taxation, an item that may be subtracted from gross income or adjusted gross income in determining taxable income (e.g., interest expenses, charitable contributions, certain taxes). by the employer and nontaxable to the employee. Group disability-insurance plans are the fundamental insurance building block for all workers. However, highly compensated employees often feel the hidden limitations of this coverage. All carriers have set limits on the percentage of employees' income they will insure Insure can mean:
v. in·sured, in·sur·ing, in·sures v.tr. 1. a. To provide or arrange insurance for: a company that insures homeowners and businesses. b. is 60% of total compensation. The rationale for this limit is that insurers consider higher percentages a disincentive dis·in·cen·tive n. Something that prevents or discourages action; a deterrent. disincentive Noun something that discourages someone from behaving or acting in a particular way Noun 1. to return to work. The percentage of insurance coverage decreases as compensation increases. For example, coverage for someone earning $50,000 annually yields a $2,500 monthly benefit (60% of monthly income). However, coverage for someone with an annual income of $100,000 provides a maximum $4,167 monthly benefit (50% of monthly income). Insurers also put a cap on the maximum monthly benefit under the group plan. In most cases the top monthly benefit is $10,000; in some cases it is $15,000 and only rarely $20,000 or above. Insurers base the maximum benefit amounts they will issue on factors such as the size of the group, the type of industry, the geographic location and the aggressiveness of the particular carrier. Nonetheless, maximum monthly benefits, when combined with the percentage limits discussed above, further curtail cur·tail tr.v. cur·tailed, cur·tail·ing, cur·tails To cut short or reduce. See Synonyms at shorten. [Middle English curtailen, to restrict payments to highly compensated employees. For example, an executive earning $300,000 annually faces a maximum benefit of $10,000 per month (only 40% of compensation). GROUP SUPPLEMENTAL APPROACH The rise in compensation over the last decade, combined with the acknowledgement that the highest paid employees are the least insured, has prompted a number of insurers to develop supplemental group disability plans, which are popularly known as disability buy-ups. Before delving into the details of these plans, however, more discussion about compensation is in order. How a group disability plan defines compensation is a matter of negotiation between the group and the insurance company. Under the most restrictive definition, compensation is defined as salary (in a corporate environment, this means W-2 income) excluding overtime and bonuses. The most liberal definition equates compensation with all of the cash payments a highly compensated individual receives (including pension and profit-sharing contributions). TYPES OF BUY-UPS CPAs will find that these plans come in several different shapes and sizes. * Employer-paid plan. Company-paid premiums are deductible by the employer as an ordinary and necessary business expense. While these premium payments are not taxable income Under the federal tax law, gross income reduced by adjustments and allowable deductions. It is the income against which tax rates are applied to compute an individual or entity's tax liability. The essence of taxable income is the accrual of some gain, profit, or benefit to a taxpayer. to the employee, he or she does have to pay tax on any benefits received. Employer costs are the primary constraint Constraint A restriction on the natural degrees of freedom of a system. If n and m are the numbers of the natural and actual degrees of freedom, the difference n - m is the number of constraints. in adopting this type of plan. * Employer-sponsored plan employer-sponsored plan, n a program supported totally or in part by an employer or group of employers to provide dental benefits for employees. The plan may be administered directly by the employer or another person or group under a contractual . This is the most popular approach. The employer merely acts as plan sponsor, allowing the insurance company to directly solicit employees, making it one of the few fringe benefits fringe benefits, n.pl the benefits, other than wages or salary, provided by an employer for employees (e.g., health insurance, vacation time, disability income). employers can provide without a cash outlay. The employees pay premiums with aftertax dollars and do not pay any tax on the benefits they receive. If the employer has an IRC (Internet Relay Chat) Computer conferencing on the Internet. There are hundreds of IRC channels on numerous subjects that are hosted on IRC servers around the world. After joining a channel, your messages are broadcast to everyone listening to that channel. section 125 plan in place, employees can pay premiums with pretax pre·tax adj. Existing before tax deductions: pretax income. pretax adj [profit] → vor (Abzug der) Steuern dollars and any benefits they receive are taxable. Because employees own these disability policies, they stay with them if they change jobs. * Hybrid plan. The employer pays the premiums for a select group of employees. Those premiums are tax deductible to the employer. However any benefits covered employees receive are taxable to them. Other employees can purchase policies on a voluntary basis with their own funds. Any benefits they receive are not taxable because the employee paid the premiums with aftertax dollars. COMMON ELEMENTS Here's what CPAs need to know about how buy-up plans operate. Plans are two-tiered. The first tier is a guaranteed-issue policy--the carrier asks no medical questions and is obligated ob·li·gate tr.v. ob·li·gat·ed, ob·li·gat·ing, ob·li·gates 1. To bind, compel, or constrain by a social, legal, or moral tie. See Synonyms at force. 2. To cause to be grateful or indebted; oblige. to issue a policy at standard rates. The second tier requires some simple medical questions: Are you presently at work? Have you been hospitalized in the last year? With second-tier plans, the carrier may decline to issue the policy, charge extra premiums or partially restrict coverage, perhaps excluding coverage for something such as a spinal spinal /spi·nal/ (spi´n'l) 1. pertaining to a spine or to the vertebral column. 2. pertaining to the spinal cord's functioning independently from the brain. spi·nal adj. injury. The guaranteed-issue coverage will help the employer solve any problems with executives who have medical problems. The eligible group is always limited to the highly compensated. Clearly, the larger the group, the more significance this holds. A buy-up policy targets those in need of a higher percentage of coverage and excludes, by definition, lower-paid workers. Despite continuing concerns among insurers about overinsurance, the competitive realities of the market have brought a significant change in insurance company outlook, thereby offering the highly compensated a new opportunity to increase coverage. Underwriting Underwriting 1. The process by which investment bankers raise investment capital from investors on behalf of corporations and governments that are issuing securities (both equity and debt). 2. The process of issuing insurance policies. requirements are negotiable NEGOTIABLE. That which is capable of being transferred by assignment; a thing, the title to which may be transferred by a sale and indorsement or delivery. 2. . Because this is a lucrative market for insurance companies, competition is fierce. Employers can and should negotiate the number of persons in the group, the amount of benefits in both tiers and the definitions of compensation and disability, along with premium rates. Buy-up policies generally are individually owned. In other words Adv. 1. in other words - otherwise stated; "in other words, we are broke" put differently , the employee can continue coverage after his or her employment ends by continuing to pay the premium. That is not the case with the underlying group coverage. Returning to the executive earning $300,000 a year who was entitled en·ti·tle tr.v. en·ti·tled, en·ti·tling, en·ti·tles 1. To give a name or title to. 2. To furnish with a right or claim to something: to only a $10,000 monthly benefit under the company's group plan, here's how a typical buy-up plan might work. Most carriers will discount the underlying group coverage of $10,000 by 25% (or 35%) as a marketing strategy to garner more business. Because of discounting, the executive is deemed to have only a $7,500 monthly benefit from that plan. The company then offers and issues a first-tier (guaranteed-issue) monthly benefit amount of $2,500. It also issues a second-tier benefit (nonguaranteed, but simplified underwriting) of $2,500. The result is a $15,000 monthly disability income benefit ($10,000 base group, $2,500 first tier, $2,500 second tier) or 60% of covered compensation instead of only 40%. WHAT'S NEXT? CPAs need to look at several additional factors when helping clients and employers evaluate disability buy-up plans. * When the employer pays for the buy-up, the key issue is the availability of cash to pay premiums, presumably pre·sum·a·ble adj. That can be presumed or taken for granted; reasonable as a supposition: presumable causes of the disaster. for the long term. Failure to make premium payments means coverage for top executives ends--a group not likely to be happy when it hears their employer no longer is paying for these benefits. * CPAs/CFOs need to evaluate the company's current base group disability-insurance coverage to see whether it can increase maximum benefits. If so, the employer must determine what the cost will be for lower-paid vs. highly compensated employees. As a result of the two limits discussed earlier, the increases in coverage that buy-up policies provide go only to higher paid staff members. * CPAs should consider asking the insurance companies bidding on the group buy-up coverage to quote the employer's base group disability coverage as well. This may make the prospective buy-up carriers more liberal in amounts of coverage, compensation definitions and guaranteed issue amounts while at the same time putting the current base group carrier on notice that it needs to be competitive in pricing and coverage. * CPAs should help the employer analyze the "company census" to determine who might be eligible for the buy-up and to make sure the plan fits into the current benefits package offered to the company's highly compensated executives. STANLEY B. SIEGEL, JD, is president of HR&S Financial, a Philadelphia-based financial services The examples and perspective in this article or section may not represent a worldwide view of the subject. Please [ improve this article] or discuss the issue on the talk page. company offering insurance and personal-financial-planning services. His e-mail address See Internet address. e-mail address - electronic mail address is ssiegel@hrs financial.com. |
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