Commentary: The financial security long-term disability insurance provides is extraordinary as compared to most other nonmedical benefits. For example, while normative dental benefits only provide a risk transfer of $1,500 per year, an LTD benefit could provide over $40,000 in income replacement per year, depending on the plan design. However, given the time and attention required by our medical plans nowadays and the higher value employees often place on those nonmedical benefits that feature higher claim frequency (e.g., dental, vision), it’s not uncommon for benefit professionals to allow LTD plans to stay the course, without critical review.
Given the immense value of LTD benefits, now is a great time to ensure that your plan is optimized for 2016. Following are 8 quick considerations:
1. If financially feasible, make the LTD benefit employer paid versus voluntary. If your organization cannot afford to offer both employer-paid LTD and employer-paid short-term disability insurance, consider making the short-term disability insurance voluntary (100% employee-paid) and the LTD employer-paid. While certain employees can self-fund a short-term disability via paid time-off and/or personal savings, the only individual that can self-fund a long-term disability is one that can essentially afford to retire.
Importantly, sponsoring an employer-paid LTD benefit also eliminates the ethical and legal conundrum of what do when a long-time, loyal employee becomes disabled. Have you heard stories about employers in those predicaments?
2. Reevaluate base/buy-up arrangements. Fifteen years ago, it wasn’t uncommon for an employer to provide a modest amount of employer-paid LTD coverage and allow employees to buy additional coverage under the same group policy. For example, the base might be 50% to $5,000 per month. Nowadays, the mathematics on this dual offering rarely makes sense. If your organization sponsors a base/buy-up arrangement, please compare the employee-paid premiums to the added cost of making the entire benefit employer paid.
3. Fine-tune the benefit percentage and monthly maximum. The benchmark plan design is 60% to $10,000 maximum per month. A $10,000-per month benefit protects up to $200,000 in income ($10,000 divided by 60% and multiplied by 12 months). Adjust this maximum up or down based upon your budget and the income levels of your key employees. The benefit percentage can also be adjusted up or down to meet your budget.
If further income protection is needed for your key and/or highly compensated employees, evaluate an employer-paid individual LTD carve-out benefit.
4. If financially necessary, extend the elimination period. The elimination period is generally the time between the date of disability and the beginning of the LTD benefit payment. Short-term disability benefits, if offered, should naturally end when the LTD elimination period ends. If short-term disability benefits are voluntary and your budget does not allow for a normative 90-day LTD elimination period, consider extending the LTD elimination period to 120 or 180 days. Continue to dovetail the end of voluntary short-term disability benefits with the beginning of LTD benefits.
5. Construct the LTD benefit as a tax-choice offering. Under this arrangement, employees are offered the option of electing employer-paid LTD resulting in taxable benefits or electing a tax-advantaged option. Under the tax-advantaged option, the employee pays for the LTD premium with post-tax dollars and receives the premium amount back from the employer as taxable income. This technique generally results in:
- The employee paying payroll and income tax on the premium equivalent;
- The employer paying payroll tax on the premium equivalent; and
- Any benefits paid to the employee becoming income-tax free.
This tax advantage is significant. For example, depending on one’s federal, state, local and payroll tax situation, an $8,000 taxable monthly benefit could become just $5,600 after tax. An $8,000 tax-advantaged benefit provides 43% more income replacement than does $5,600!
Please note that your insurer might charge higher premiums for this plan design. If so, negotiate. Further, given the complexities of this design, it’s prudent to collectively consult with your benefits consultant, attorney and tax adviser during your evaluation and implementation.
6. Inflationary risk remains. Evaluate a cost-of-living adjustment provision. Adding a COLA to an LTD policy is relatively expensive. That’s because inflationary risk is real. If history is any guide, a $6,000 monthly benefit, for example, will dramatically lose its purchasing power over a 10-year timeframe. Thus, an LTD benefit that allows this $6,000 benefit to keep pace with inflation is invaluable. If your budget allows for a COLA provision, please consider it.
7. Confirm the reasonableness of underlying commissions. Partnering with an experienced benefits consultant or broker on the design, competitive bidding and implementation of your LTD benefits can be an excellent investment. If you choose to pay your adviser via commissions, ensure that the compensation amount is reasonable for the service and expertise provided.
8. Review alternative vendors.
One of the biggest insurance myths, unfortunately, is that vendor loyalty produces lower premiums. It remains a best practice to shop the LTD benefit to highly rated insurers every few years. Keep in mind that flat LTD renewals are often a symptom of premiums being above the market rate.
Do you have additional suggestions? Please let us know via the below comment section or via Twitter: @zpace_benefits.
Zack Pace is a senior vice president, benefits consulting at CBIZ, Inc. He can be reached at ZPace@cbiz.com. Follow him on Twitter at @zpace_benefits and LinkedIn. His past EBN essays are availablehere.
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