The Disability Insurance Myth

The single biggest financial concern employees face is “Money to survive a sudden and protracted income loss,” according to  MetLife’s eigth-annual  “Study of Employee Benefits Trends.” Discussing disability insurance with Senior executives, partner professionals and business owners are often unaware of the issues associated with their own disability insurance. This group of highly compensated employees (HCE) believes they have adequate disability insurance through their employer sponsored Group Long Term Disability Program (LTD).

Most HCEs believe their LTD covers 60% of annual compensation.  Unfortunately this is not true.  The real numbers are far less.  Executives should be asking their employer what is covered, including:

•     Base Salary?

•     Annual Bonus?

•     Multi-Year Bonus?

Other questions include:

  • How are my disability benefits taxed?

•     Are my benefits capped?

•     What is the definiton of ‘disabled’?

The majority of LTD plans cover 60% of base income; benefits are capped at $10,000/month and taxable when paid.  These standard features create a significant gap in coverage for highly compensated professionals.

Here is a typical scenario:  The CFO of a closely held business earns $250,000 in base compensation and has a potential $100,000 bonus.  She becomes disabled due to an accident.  The company’s LTD plan provides 60% coverage for base compensation capped at $10,000/month.

The CFO’s earnings before the accident are $227,500 per year after tax. ($350,000 – 35% tax)  The CFO’s post accident after tax earnings are $84,000 per year . This is calculated by taking $120,000 annual maximum disability benefit and reducing this by a 30% tax rate.  The CFO has suffered a 63% reduction in after tax income.

This situation is often compounded by additional medical expenses, cost of care and, in the case of long term disability, the additional burden of health and welfare insurance premiums.  Most households cannot weather this unfortunate storm of events.

The biggest factor is the LTD plan cap on benefits.  Even if the plan sponsor raised the cap to $25,000 permonth, these limits are still too low when coveraing senior executives who often earn in excess of $1,000,000/year.

This gap is demoralizing to the highly compensated executives,  often forcing them to consider new opportunities with other companies or competitors.  For a privately held company, losing key team members over critical supplemental benefits is unacceptable.

The good news: Programs- whether firm paid, voluntary, or individual–are available to fill the disability gap.  In fact 50% of employers carve out highly compensated executives for additional benefits.  Disability is among the most common. These programs offer tailored disability benefits to the partner professionals, highly compensated executives, and business owners with preferred access, terms and pricing.

These custom plans can cover a wider range of compensation ensuring the maximum benefit is available to the executive.  Additionally the custom program can provide a more generous definition of disability resulting in more claim dollars for the stricken executives.

Advantages for the executives:

  • Guaranteed Issue Coverage, which means no pre-existing condition limitations/exclusions
  • Enhanced Income Protection,maximizing disability benefits and helping to maintain pre-disability lifestyle
  • Addresses shortfalls and gaps within a traditional LTD plan that an executive would be faced with at claim time—i.e. covered compensation limitations, legislative benefit offsets, benefit maximums, tax implications

o      Can cover bonus and commissions

o      No offsets for social security disability or worker’s compensation

o      Provides benefits above the LTD plan maximum

  • /Lock in rates based on current age and health plus portability-coverage cannot be cancelled by insurer upon employment termination
  • Significant Premium Discounts
  • Maximizes Income Replacement
  • Covers Total, Partial, or Catastrophic Disabilities on or off the job
  • No Offsets for Social Security Disability or Worker’s Compensation (that are found in traditional group LTD plans)
  • Protection In Own Occupation To 65
  • Policy and Premium Discount are fully portable
  • Full Mental/Nervous-Substance Abuse Disorder Coverage , Cost of Living Adjustment
  • Long Term Care Options

There are also numerous advantages for the Employer, including:

  • Improves Retention, morale and recruitment of key talent
  • Enhances benefits to a select group of employees
  • Provides an enhanced disability benefit plan at a fixed, significantly discounted cost
  • Group Style Enrollment often with minimal underwriting
  • Provides a more comprehensive and stable disability plan
  • Does not impact the pricing or claims experience on the group LTD
  • Allows for a fixed rate structure that provides greater rate stability over the long term vs. the variable rate structure of group LTD
  • No Pre-Existing Condition Clauses

Employers should annually review their LTD plans suitability for their senior executives.  If a gap exists, Lockton Executive Benefits can determine how best to fill this gap.  There is no more important asset than one’s ability to earn income.  It makes prudent sense for employers to assist their highly compensated executives in insuring this asset.

About thebenefitblog

Eric is a Producer at Lockton Insurance Brokers, Inc., the world’s largest privately held commercial broker. Eric has over 23 years of experience in the insurance industry and has spent the last 11 years with Lockton. Eric specializes in Health & Welfare Benefits, Retirement Planning, and Executive Benefits. Eric's clients utilize his expertise in the areas of Plan Due Diligence, Transaction Structure, Fiduciary Oversight, Investment Design, Compliance and Vendor negotiation to improve the operational & financial outcome for each client. The Benefit Blog is a place to share that expertise and industry news.
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