Tag Archives: employer-sponsored disability insurance

Are Benefits Taxable?

 

The Answer Is: It Depends

Whether your disability benefit payments are taxable depends on what type of policy or plan you have and how your premiums are paid.  This post is not intended as tax advice—we’ve outlined some basic information below only.  You should always speak with a tax professional regarding your particular situation.

Individual Policies:  These are policies that you purchase yourself.  Generally speaking, if you pay the premiums with after-tax dollars, the benefits you receive are tax free.  However, if you pay with pre-tax dollars or deduct your premiums as a business expense, then your benefits will likely be subject to federal income taxation.

Group Policies: Group policies are those offered through associations such as the ADA or AMA.   These types of policies offer special terms, conditions, and rates to members and function much like individual policies, with similar tax consequences.  Generally speaking, if you pay the premiums (with after-tax dollars) then the benefits you receive are tax free.

Employer-Sponsored Policies: These types of policies can be less straightforward when it comes to taxes, as the payment of premiums can be structured several ways.  According to the IRS website:

  • If your employer pays the premium and does not include the cost of the premiums in your gross income, then benefits you receive will generally be fully taxable.
  • If the employer only offers a policy, but you pay the entire premium without taking a tax deduction, then the benefits you receive will generally be tax-free.
  • If both your employer and you pay the premiums then the tax liability will generally be split.

If you are unsure what type of policy or plan you have, and you think your employer might be paying the premiums, you can look at your application (there is typically a portion that states who is responsible for the premiums) or talk to your HR department.  For more information, talk to your accountant.  You can also go to to the IRS website on disability insurance proceeds to find additional information.

It may be tempting to save money by enrolling only in a plan solely paid for by your employer, paying premiums with pre-tax dollars, or deducting premiums as business expenses.  But keep in mind that, if you do become disabled, the amount of your benefits actually available to you will substantially decrease if you are required to pay income tax on them.

Selecting a policy is an important decision, and how benefits will be taxed is a significant factor to consider. With statistics showing that one in four dentists will be disabled long enough to collect benefits at some point in their careers, choosing to save now could hurt you financially down the road.

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Disability Insurance Policies: Which type do you own?

The type of disability insurance policy you have can affect the benefits you receive and the legal rights to which you are entitled. Below is an overview of the basic types of disability insurance policies.

Individual Disability Insurance:

As the name suggests, individual disability insurance policies are purchased by individuals directly from the carrier and provide long-term disability benefits in the event of sickness or injury. Individual polices fall into two categories: “general” and “occupational.” A “general” disability policy insures against sickness or injury that precludes the insured from performing all work while an “occupational” policy provides relief if the insured cannot perform the material and substantial duties of his or her own occupation. Thus, an “occupational” policy will provide greater coverage to the insured, who will be entitled to benefits even if he or she is able to engage in another occupation. Individual policies usually provide coverage in set amounts, e.g., $5,000 per month, rather than as a percentage of the insured’s salary.

Group Disability Insurance:

Group disability insurance polices are made available to participants of organizations, such as members of the American Medical Association. Unlike most individual policies, group policies typically confer benefits calculated as a percentage of the insured’s base salary, usually from 50-75%. These policies may limit the maximum amount of benefits payable, e.g., no more than $5,000 per month, regardless of base salary. Further, group policies often reduce benefits when the insured receives income from other sources such as Social Security disability benefits or worker’s compensation.

Employer-Sponsored Disability Insurance:

Employer-sponsored disability insurance policies are typically the least expensive policies and are similar to the “group” policies described above, providing employees with disability insurance based on a percentage of their base salary as part of the employer’s overall benefits package. Unlike group policies, however, employer-sponsored policies are governed by the Employee Retirement Income Security Act of 1974 (ERISA), which has significantly affected the administration and litigation of disability insurance claims. Unfortunately, ERISA deprives insureds of significant rights to which they would normally be entitled under state law. These include the right to a trial by jury and the possibility of punitive damages where the carrier has acted unreasonably or maliciously.

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