Employers may choose to offer life insurance benefits to their employees. If this optional benefit is one you are thinking of offering, you will have to determine who should be covered, what type of life insurance benefits to offer and how much life insurance is optimal and affordable.
A popular employee benefit for both employers and employees is life insurance. Offering it is completely optional but worth considering if you and your employees can benefit from the possible lower rates of insuring a group. If you're considering including life insurance in your employee benefit package you will have several coverage issues to consider, including whom to cover and the type and amount of coverage to offer. The next step will require finding vendors and making sure the plan is properly administered.
Who should be covered?
Once you've decided you may want to offer life insurance, you need to decide which employees will get these benefits. You may want to offer group-term life insurance benefits to all your full-time employees, especially if you can get lower rates (and avoid individual medical exams) with a bigger group.
If you only want to offer life insurance as a special benefit to a few key employees, you won't be able to deduct the premiums for federal tax purposes, unless you can meet special nondiscrimination requirements.
What are the nondiscrimination requirements you must meet? Generally, nondiscrimination requirements are designed to discourage you from providing benefits only to the most highly compensated employees or providing benefits that limit lower compensated employees from participating because of the price of the benefits. In the case of group-term life insurance, a plan does not discriminate as to an employee's eligibility to participate if any of the following conditions are met:
- The plan benefits at least 70 percent of all employees.
- At least 85 percent of all participating employees are not key employees.
- The plan benefits employees who qualify under a classification that is set up by the employer and found by the IRS not to discriminate in favor of key employees.
In the case of group-term life insurance, the most commonly offered type of employer-provided life insurance, you can offer life insurance to small sub-groups of employees if the distinctions are based on:
- marital status
- job duties
- length of service
- participation in a pension, profit-sharing, stock bonus, or accident and health plan
- other employment-related factors
You aren't permitted to offer benefits to male employees only, for example, because you think they are the main providers for their families and not offer the benefits to your female employees.
Similarly, you cannot offer life insurance benefits only to employees who are married with kids but not extend the benefit to singles or employees who are married but don't have children.
Tax implications. Generally, group-term policies are nondiscriminatory because the amount of insurance is consistently based on some multiple of each employee's compensation. If all the requirements are met, the cost of the premiums for the first $50,000 of group-term life insurance isn't included in the employee's gross income (for tax purposes). If the requirements aren't met, you can still provide the insurance, but the value of the insurance will be taxable compensation to the employee.
Rules for retirees. You can decide to offer life insurance to retirees of your business.
This means that if you retire and the business continues, the business may be able to provide this benefit to you.
Types and amounts of life insurance benefits you can offer
Once you've decided who gets the benefits, you'll need to decide what type of life insurance benefits you want to offer and the amounts of coverage.
Types of life insurance benefits you can offer
Most employers offer group-term life insurance as an employee benefit, although other types can be offered. Term insurance is life insurance that is in effect for a certain period of time only. Generally, in the case of employer-provided term life insurance, the term is for as long as the employee is employed. Group-term life insurance can be offered to employees only, not to their spouses and children.
To take advantage of the tax deduction for group-term life insurance (i.e., the value of up to $50,000 in insurance is tax-exempt for the employee), you must have at least 10 full-time employees. The 10-employee restriction does not apply if you provide coverage to all full-time employees, the method for computing the amounts of insurance is set (such as a uniform percentage of the employee's yearly salary), and no physical exams are required to obtain coverage.
There are other types of insurance that you can offer besides group-term life, including:
- Group accidental death and dismemberment. Commonly known in the industry as "AD&D," this coverage pays benefits to the employee's beneficiary if death occurs due to an accident or if the employee loses use of portions of the body (loss of one arm and leg, for example, may result in payment of a percentage of the total benefits).
- Business travel accident insurance. This insurance covers only a narrow occurrence — the death of the employee while traveling on business. If your employees don't travel or don't travel much, this may not be worth your money.
- Split-dollar life insurance. This insurance pays the employee's beneficiary when the employee dies and returns the premiums paid to the employer. The insurance is paid by both the employer and employee and has a substantial investment element to it. It is something to consider for key employees only, as opposed to your entire employee group.
Life insurance plan riders. A rider is an additional feature or benefit that you can add on to an existing insurance policy. Plans can come with an infinite number of riders that you can add to your plan and that will allow you to customize your plan to a degree. For example, you could add an accidental death and dismemberment rider to a group-term life insurance policy that would pay double the death benefit if the employee was killed due to an accident. Your insurance agent can explain the various riders you can get in conjunction with a life insurance policy.
How much life insurance is the right amount?
Most group-term policies offer either a set amount of insurance (for example, a $10,000 policy for each employee) or are based on the employee's salary (for example, policy values of one, two, or three times the employee's yearly salary). In some cases, you can allow employees to purchase life insurance in increments, the cost of which is based on their age.
Your business offers life insurance that can be purchased in $500 increments. The insurance vendor gives you the following rate schedule per $500 of coverage purchased.
Employees under 25 pay $.25 per $500 per month; employees 25 - 45 pay $.29 per $500 per month; and employees 45 - 55 pay $.35 per $500 per month.
Jim, age 24, wants to purchase $7,500 of life insurance. He will have to pay 15 times $.25 = $3.75 per month for his insurance. Sebastian, age 32, will have to pay 15 times $.29 = $4.35 per month for the same amount of coverage.
The $50,000 threshold for non-taxable compensation. Remember, the cost of employer-provided group-term life insurance in excess of $50,000 is taxable to employees. That means that if you pay the premiums for employees' life insurance, any premiums you pay for more than $50,000 in coverage for one employee count as taxable income for that employee. Not only will the employee pay income taxes on it, you'll both have to pay payroll taxes on it as well.
Arts and Crafts, Inc., pays the premiums on a $175,000 group-term life insurance policy on Rita, who is 48 years old. The monthly rate for employees in the 45-49 age group under the plan is $.32 per thousand. If Rita makes no contribution toward the plan, the cost of the $125,000 coverage ($175,000 minus the $50,000 exclusion) counts as taxable income for Rita. The amount included in taxable income would be $480 for the year (125 [thousand-dollar increments] times $.32 [per thousand] times 12 [months]).
If Rita contributes $11 per month toward the coverage, then the taxable amount included as gross income for the year is $348 ($480 minus $132 [Rita's contribution]).
Finding life insurance providers and administering benefits
Once you've done some thinking about whom you want to offer life insurance to and the types of insurance and amounts of coverage you want to offer, you're ready to contact vendors for price quotes.
Finding life insurance providers
As with other types of insurance for small businesses, the best way to find out who's offering benefits to employers of your size is to do a little survey.
Ask friends, neighbors, and other business people that you work with. You can even ask your customers. It always pays to check out the local chamber of commerce, as well, who may be able to put you in touch with small business purchasing alliances, trade groups, or other associations that you can join with in purchasing life insurance and that can help you get a better group rate.
Questions to ask. Ask the following questions in doing your research:
- which company they are insured with
- which agent, if any, they used and, if they recommend doing business with this agent, the agent's phone number and address
- what type of insurance they have: group-term insurance, split dollar, or accidental death and dismemberment coverage
- what the insurance amounts are based on: a multiple or percentage of salary, a flat amount, in increments
This basic information should help you get a few leads on who to contact for some quotes for life insurance for your employees.
Administering life insurance
On the whole, life group-term benefits are easy to administer because they do not require constant monitoring and hopefully don't generate many claims.
The insurance company should provide you with the necessary forms to enroll employees. Keep a copy of the employee's enrollment document for the employee's benefit file.
Designating a beneficiary. The beneficiary is the person who will get the money if the employee dies and the policy covers it. Sometimes the plan will allow people to designate several people as beneficiaries and to split the benefit into percentages. The insurance company should provide you with forms for this purpose.
Impress upon your employees how important it is to keep beneficiary information current by making changes to their beneficiary designation when appropriate. Examples of situations that might warrant a change in beneficiary include marriage, legally separation, or divorce, if employees have a child, or when a spouse, parent, or other close relative dies.
Proof of insurability. Generally, with group-term life insurance, employees will not be asked to complete a medical questionnaire.
However, if you should offer the employee the option of purchasing additional life insurance to complement what you provide, employees who want to purchase that additional insurance may be required to complete a medical questionnaire. That questionnaire will either be mailed directly to the insurance company by the employee or the employee may return it to you to submit to the insurance company.
Some employers keep a copy of everything to create a paper trail in case of a problem later. Don't make a copy of the employee's medical questionnaire. In fact, don't even look at it. You can suggest that the employee mail it directly to the company, or you can give the employee an addressed, stamped envelope to put the form in.
You don't want to keep a copy because you don't want the employee to be able to claim that you discriminated against him or her on the basis of a disability or medical condition that was disclosed on the form. This is particularly important for employers with 15 or more employees who are subject to the Americans with Disabilities Act (ADA), a federal law.
Processing life insurance claims. If one of your employees should die, it will no doubt be a stressful time for you as you try to maintain the flow of work in your business while grieving for the loss of your employee and coworker. Part of your duty as the employer will include filing for life insurance benefits.
In most instances, the situation will unfold this way: The employee's next of kin will call you to let you know that an employee has died or been killed. If that call comes, notify your insurance company. There will be forms that you need to complete to start the claims process rolling. You'll need a certified death certificate, which is usually available from the funeral home/crematorium or directly from the deceased employee's executor or next-of-kin. Make a copy of the completed claim form and any supporting documents for your files and be sure to submit the claim via registered or certified mail.
Terminating life insurance benefits benefits. When an employee leaves, if you have group-term life insurance, some policies may allow a conversion privilege. What that means is that if your employees leave or otherwise have to terminate the life insurance offered by you, they may be able to get a private policy through the insurance agency. Generally these policies are much more expensive than the group-term policy that you'll most likely offer, and sometimes they have low coverage limits and require proof of insurability.