In today's market, the vast majority of Long-Term Care Insurance (LTCI) policies are tax qualified. Those policies issued after 1996 technically meet the definition of a qualified LTCI policy if the only insurance protection provided under the policy is coverage of long-term care services, the policy does not cover expenses incurred for services that could be reimbursed under the Social Security Act, the policy is guaranteed renewable, it does not provide for a cash surrender value or other money that can be paid, assigned or pledged as collateral for a loan or borrowed, and all premium refunds and dividends under the policy are to be applied as a reduction in future premiums or to increase future benefits (except for death of insured or complete surrender or cancellation).100
In addition, there are other consumer protection provisions concerning modal regulation and model act provisions, disclosure and nonforfeitability.
In practice, there are several other factors that determine whether a policy is "qualified" or non-qualified, and there are advantages to both. Basically, the principal difference is whether long-term care benefits are taxed. This rather important point was never directly addressed by the IRS until HIPAA provided guidelines for an LTCI policy to become "qualified" and thereby benefits would not be taxed to the policyholder. Interestingly, there never had been an instance of the benefits being taxed prior to the legislation, and even after HIPAA there have been no instances of benefits being taxed on "non-qualified" plans. Hard to imagine the IRS going after some widow with Alzheimer's in a nursing home having their LTCI benefits being taxed!
Further information as to what constitutes a "Qualified" LTCI policy is available from the IRS at Internal Revenue Code 7702.
Any product that is advertised, marketed or offered as long-term care insurance is NOT a qualified benefit under a Cafeteria Plan.101
However, LTCI premiums can be paid through a Health Savings Account (HSA) included in a cafeteria plan.
Employer-provided coverage for qualified long-term care services provided through a flexible spending arrangement (FSA) is includable in the employee's gross income.102
COBRA continuation coverage does not apply to plans under which substantially all of the coverage is for long-term care services.103 This is another result of HIPAA.
As a general rule, amounts paid for any qualified LTCI policy or for qualified long-term care services are included in the definition of "medical care" and are, therefore, eligible for income tax deduction subject to some limitations. Amounts paid for the medical care of a taxpayer, his spouse or dependent are deductible subject to the 7.5% of adjusted gross income.104
The deduction for eligible long-term care premiums paid during any taxable year for a qualified LTCI policy is subject to an additional dollar amount limitation that increases with the age of the insured individual (which is indexed). These tables can be found in IRC 213(d)(10).
Thanks to HIPAA '96, which, among other things, decided that Long Term Care Insurance is health insurance and must be treated as such. Any plan of an employer that provides coverage under a qualified LTCI contract is treated as accident and health insurance and therefore, premiums paid for long-term care coverage by an employer are not includable in the gross incomes of employees.105
Further, an employer may usually deduct health insurance premiums paid for employees as a business expense, so, now, premiums for a qualified LTCI policy paid by an employer for employees are deductible.
Again thanks to HIPAA, amounts (other than dividends) received under a qualified LTCI policy are treated as amounts received for personal injuries and sickness and are treated as reimbursement for expenses actually incurred for medical care. Amounts received for personal injuries and sickness are generally not includable in gross income.106
There is a limit on the amount of qualified long-term care benefits that may be excluded from income—if the total periodic payments received under all qualified LTCI contracts and any periodic payments received as an accelerated death benefit exceed a per diem limitation, the excess must be included in income, unless the insured is terminally ill when such a payment is received, in which case the payment would be ignored.
The per diem excess is an amount that is the greater of $250 per day (2006 - adjusted annually for inflation) or the costs incurred for qualified long-term care service provided for the insured over the total payments received as a reimbursement for qualified long-term care services for the insured.107
Policies that do not meet the definition of a qualified LTCI contract under IRC Sec 7702B(b) are considered as "non-qualified" LTCI policies. The Internal Revenue Code does not address the income taxation of premiums paid or benefits received from these policies. However, since Congress enacted favorable income tax treatment for qualified LTCI policies, that would lead one to believe that nonqualified plans will not receive such favorable taxation. Also, there is a grandfather provision which "qualifies" all LTCI policies issued before January 1, 1997.
Groups insurance basically is nothing more than a method of marketing insurance and similar products, although in some ways the product itself differs from the individual plans. Group marketing must be addressed by itself if for no other reason than the developments in the product, tax incentives and, ergo, marketing techniques.
Agents are the mechanism that sells the group health products, just like in individual health sales, however there are some differences. Agents that market group health insurance are often licensed to sell individual health insurance and many do sell both individual and group. However, group requires more than simple product knowledge, so it is more common for agents to be employees of the insurer or for more than one agent to share in the commission. Agents who work for one company or who are employed by the insurer, are usually provided with office space, clerical and backup services, training and fringe benefits.
Some insurers are too small to have their own group representatives, so they designate all sales and services responsibilities to contracted agents and brokers.
Some insurers do not use agents or brokers and only approach prospective policyholders through their salaried employees—such companies are known as direct writers.
Technically, brokers are independent salespersons, although usually the agent is thought of as representing the insurer and the broker represents the purchaser. In actual practice, however, this relationship is more complex. Sometimes a broker will recommend, advise and assist employers in purchasing the best coverage for their particular situation, they can sometimes receive fees from employers for their service. But, if an agent sells an insurance plan to an employer, he is then acting as a representative of the insurer and receives compensation—as an agent.
A group broker may act as a Third Party Administrator (TPA) —a firm that is neither the insurer nor policyholder of a group insurance plan but who takes responsibility for the administration of that plan. This is generally used in self-insured plans.
Employee Benefit Consultants are individuals or firms that specialize in group benefits for employees. They act like brokers inasmuch as they advise employees in finding the right group coverage and they receive a fee from the employer. The difference is that in most cases, a broker assists his client in purchasing a group policy, but the consultants focus on making recommendations to the employer upon which the employer then takes action. Actually, the difference between brokers and employee benefit consults get rather hazy at times.
Basically, group representatives are employees of the insurer that are responsible for the marketing and servicing of group insurance. In some companies, group representatives are responsible for sales and group service representatives are responsible for providing service to the clients.
The actual process of marketing group health insurance consists of several steps which may be taken individually, or combined with other steps, depending upon the situation.
As with any type of sales, before something can be sold, there must be someone to purchase the product. This is regarded by many as a special science and is usually done by agents and brokers (although there are many “lists” of prospects that are sold to marketers). Except for large groups, group representatives will often do their own prospecting, but generally, at this stage, they are involved in informing agents and brokers about their programs, motivating them to sell them, and providing support when needed.
Sometimes, not often, an employer may issue a request for proposals (RFP) which notifies insurers that they are seeking coverage and invites them to propose a plan. The RFP is usually issued by large employers’ benefits section. At this point, it is more of an actuarial contest as generally for the large employer, there is flexibility in benefits not available to the small or medium size group.
Once an employer becomes a “prospect,” and the necessary information obtained, the first decision of importance at this point is whether to proceed to the next step—designing a health insurance plan that meets the needs of the prospect and then packaging the plan into a proposal to be presented to the prospect. This is the decision of the home office of the insurer in most cases, although the recommendation of the group representative is very important as the group representative is the one that must make the determination that the proposal meets the expectations of the prospect, whether the prospect meets the standards of the insurer’s underwriting standards, and whether there is a good chance of making the sale (or not).
If the decision is made to make the presentation, then the plan is designed—usually with the involvement of the group representative and the home office personnel (underwriting and actuarial primarily). They must evaluate the needs of the prospect, design a plan to meet those needs, underwrite the plan, and determine the appropriate premium. Obviously, more detailed information from the prospect is necessary at this time, such as claims and premium experience of the prospect, particular hazards present, the objectives of the prospect, and their financial condition. If the employer is unionized, any collective bargaining agreements affecting the coverage is useful, if not necessary.
The completed proposal is comprised of a description of each coverage in the plan and the premiums for each coverage, plus information on the insurer (financial strengths and accomplishments, and a list of well-known group policyholders [if any]). For the large group, a cost illustration must show what part of the premium is used to pay benefits and expenses, and how much can be returned to the policyholder in the way of an experience refund—not presented to smaller groups as they usually are not eligible for experience refunds.
The proposal presentation may be made by an individual agent or broker, by the agent and broker, by the agent and group representative, or by the group representative. Often the proposal must be submitted to the prospect’s broker or consultant, whose job it is to then analyze the proposals submitted by several insurers and make recommendation to the prospect. As a general rule, group representatives of the insurer are allowed to participate only by small brokerage firms
Often, there will be changes in the proposal to meet the requirements or expectations of the prospect and/or the insurer. When the prospect evaluates the proposal and the reputation and capabilities of the insurer, and agrees with the proposal, then the sale is made.
The next step after the acceptance of the proposal by the employer is the enrollment of the employees. If the participation is optional—the employees have the option of contributing to the premiums and receiving coverage, or not participating—enrollment is required in order to determine whether a sufficient number of employees will participate under the participation requirements of the plan. However, even if the employees do not have this option, enrollment is necessary for adequate administration and records.
When an insurer takes over an existing plan provided by another insurer, employees will often be already enrolled, however often it is still necessary to re-enroll employees. If a new coverage—such as dental or vision coverage—is added, or if the employee contribution is increased which then gives the employee the option of whether they want to continue, then enrollment is necessary. Even if there is no particular reason for re-enrollment, some insurers will want to re-enroll anyway so that the employees will be aware of the plan and to introduce themselves as the new insurer.
Regardless, the new insurer will provide information about the new plans, either in the form of letter(s) or pamphlet. If enrollment is going to be required, the active support of the employer’s personnel is necessary for the insurer to be provided with all of the enrollment cards.
After the enrollment process has been completed, the insurer’s group representative sends the policyholder’s signed application, the employee enrollment cards, and the first month’s premium to the insurer or field office, for the final acceptance. It is possible at this time that the sale might “fall through” as there may not be an acceptable participation of employees or for some other reason. Otherwise, the insurer then issues the group policy and the group representative (usually in the company of the agent or broker) reviews all administrative aspects of the plan with the policyholder, such as premium billing and accounting, claims procedures and benefits. Administrative procedures are established and then the plan goes into effect and is installed.
The group representative (or service representative) make periodic services calls on the policyholder to assist in the proper administration of the plan. Usually, a check-off list is completed that reviews administrative practices and then administrative procedures are established. The agent is often given responsibility for providing administrative assistance and other necessary services to small and medium-sized groups.
As a passing thought, group sales are attractive to many agents for a variety of reasons.
For instance, an agent who sells group insurance makes contacts with prospects for other business or individual insurance. An agent who services the account that he has sold has opportunities to market other insurance products, even, in some instance, property and casualty insurance product (by obtaining proper licensing for these products) or working with others who have the P&C expertise.
Conversely, there are agents already marketing other products to business clients who now have the opportunity to add group health and a complete line of products and service. An example would be an agent who markets payroll deduction plans (perhaps cafeteria type plans), such as dread disease policies, short term disability, etc., and can become familiar with the employees and employer, and may have an opportunity to “look at” or review their group benefits overall, in particular their group health insurance plan. There have been situations where an agent was able to convince the client that the agent should become the “agent-of-record” for the company, thereby eliminating (for the employer client) the need to be “bothered” by all of the insurers who are trying to sell him a variety of products, and, in effect, having a unpaid consultant working for the employer making suggestions and analyzing risk problems. If handled right and professionally, the agent-of-record situation can be beneficial for both the agent/broker and the employer.
And, of particular interest to those agents who are married, selling group insurance is mostly a daytime, 9-to-5 type of position, as opposed to agents who sell individual insurance as they must sell when the individuals are at home, including weekends and holidays.
Underwriting is the process of examining, accepting, or rejecting insurance risks and classifying those selected, in order to charge the proper premium for each. Underwriting for group health insurance is dissimilar to individual health insurance underwriting except for some medical information areas as discussed. In all cases, the information that is used for underwriting in the home office is broadly applicable to the underwriting often performed by agents and field sales personnel. The following discussion addresses medical expense and disability income insurance, but the same principles apply for all health insurance coverages.
Underwriting is the process of determining whether to offer coverage and on what terms. And (as suspected by some agents) the first step is to try to determine if there is any reason that the insurer should NOT offer coverage. Past that, they must determine what terms are necessary in order to accept the risk—“terms” meaning the benefits to be provided, the premiums that are charged, and the overall provisions of the contract.
In actual practice, as opposed to individual health insurance, the group underwriter focuses mostly on the terms as in most cases, an offer has been made. The underwriter must devise a policy that has sufficient benefits for the benefit of the prospect, with benefits, premiums and other provisions so that the insurer will make a reasonable profit. In order to make such an offer, the underwriter must have fully considered the risks that will be taken and what the level of claims can be expected. Therefore, it is fair to say that the very heart of underwriting is the prediction of claims.
In group health insurance, it is nearly impossible for a plan to be in force without having claims, therefore the fact that there will be claims is a “given,” so the determination must be as to how many and in what amounts the claims will occur. The underwriter then determines what the premiums must be to cover such claims experience and make a profit, and the benefit provisions included in the policy so that the claims do not go above the predicted level.
Claims prediction is simply predicting with a fair degree of accuracy, the incidence of illness in a group by looking at past experience and projecting it forward. Therefore, past experience is the most critical piece of information needed by an underwriter. If the underwriter is looking at a 300-person group and they can find groups of the approximate size, operating in a business quite similar to the prospect, with a comparable mix of male & female, with similar payrolls, they will have a good indication as to how the prospect’s claims experience will perform.
It may be noted that the underwriter does not factor in solely the experience of groups of approximately the same size, but they take into consideration many other factors. For example, if the prospect business has a younger average age than like groups, health claims experience should be better, however if the younger group were heavily female, then there could be more maternity benefits paid. If the company was more sedentary, such as technical persons—accountant, computer technicians, data entry staff, etc.—than a similar sized group that was engaged in construction, for instance, then better health claims experience could be expected. The disparities between groups can cause all kinds of detailed exploration in the search for comparable experience.
In the majority of cases, however, actual claims experience is available and the group is not seeking insurance for the first time. Therefore, the underwriter can analyze claims experience and project that forward under the assumption that the past experience will be repeated.
Adverse selection is the “grinch” in group health insurance underwriting (and other types of underwriting also). If, for example, the eligible members have the option of having coverage and paying premiums, or declining the coverage, the members who elect for coverage are more likely to become ill than those that decline coverage because those that accept coverage are older and/or in poorer physical condition than the average employee in the group. This can go even further if the premiums paid by the employee are increased because of the claims experience of the group, in which case the number of non-participants will increase, leaving a smaller number of employees covered and those that are covered are, in all likelihood, expecting to use the benefits in the near future.
If the expected claims are based upon the statistical average, adverse selection can destroy the assumptions upon which premiums were based. This is a major responsibility of underwriters—to avoid adverse selection.
If a group is newly formed and has no claims experience, then statistical averages must be used. Actual experience, as indicated before, is always a more accurate predictor than statistical averages. Conversely, if the body of experience is rather large, then the statistical averages could be more predictive as experience would be based upon a much larger base of insureds.
For small groups the actual claims experience of the group may be useful, but since it is such a small sample, it would not be as accurate a predictor as the average experience of many similar groups. As an example, if the group is 10 lives, it would not be at all unusual for the group to go for a year without any person having a serious illness. Conversely, it would not be unusual for any one person to have very expensive medical treatments and care. If in one year the experience was very low, and the next year very high, in both cases experience could be changed by the health condition of only one person. For large groups the claims experience is usually roughly the same for every year and the experience can be used to project claims data for each year.
For small groups insurers may combine the experience of many small groups to establish an experience pool and claims projections are derived from such a pool. This allows the underwriters for the small group to have one of the advantages of large-group underwriters; that of the ability to base claims projections on a large body of actual claims experience.
Claims projections for large groups are, therefore, more accurate, but that does not necessarily guarantee a profit. An inaccurate claims projection for a large group would have a greater impact on the insurer’s profit, than inaccuracy in projecting claims experience on small groups. For a small group, a 20% higher-than-projected claim ratio would not be the disaster that a 20% higher claims ratio would be for a large group with a million-dollar annual premium.
Premium construction is similar to projecting claims by the use of averages for small groups, which are derived from rating manuals that have been compiled by rating organizations or actuarial firms. Often standard rates for small groups are used, with adjustments (usually annually) for actual claims experience.
Nearly always, the demon of competition arises, particularly if the group is large and the premiums are substantial. The underwriter must get sufficient premium to make a profit, but at the same time, they must be competitive with other insurers who would just love to have the business. The balancing act is very difficult for an underwriter and at times, an insurer will just “fly in the face of experience” and become competitive so as not to lose market share.
While this competitiveness can reduce the profit on a group, from the viewpoint of the policyholders, it is a good thing as terms are more favorable if the insurer is more competitive. There have been instances (and there will probably always be instances) where an insurer will write a large group on a low-profit or even, no-profit, basis, in order to keep the volume of insurance in force higher (helping the value of the company stock usually). In many large groups, there is an experience refund whereby the policyholder will share in the profits on the group.
Adverse selection was discussed earlier in the context of large groups, but it is of considerable concern for small groups. An example which has been the situation in many small group cases, is where a small business owner does not have a group health program for his employees. One of his family members becomes seriously ill and will require expensive treatment. The employer then gets group coverage for his employees and offers family coverage so his family members will be covered. In a large group, the experience of a single individual does not have much of an impact on claims experience, but in a small group there are not so many persons that can balance the experience of one individual and one such expensive claim can create a significant increase in claims.
Many insurers have addressed the problem of adverse selection in small groups by excluding preexisting conditions or by requiring evidence of insurability from the individual in the group and sometime from covered family members also. However, as discussed earlier, HIPAA and state laws limit the use of preexisting condition exclusions and prohibit the exclusion of individual employees because of health conditions.
HIPAA and the small group market reforms that have been enacted by many states in the early 1990s require that insurers that write small group health insurance plans must accept any small group that applies and that is eligible under the law. Therefore, under these laws, the underwriting function of deciding whether or not to accept a group for coverage has been eliminated since the insurer does not have a choice. So, in these situations, underwriting includes only ascertaining whether the group is eligible and determining the terms that will be offered.
Since the insurer is required to accept those in poor health insured in a group health insurance plan, obviously the claims experience is going to be much higher that it would have been if there were more flexibility in accepting those in poor health. Since the claims experience is going to be higher, the premiums are going to be higher also. A person who had been a member of a large group and who had participated in the premiums, then goes to a smaller company where they discover that their premium was much higher, may have a hard time understanding why it is more expensive in a small group—especially since they, personally, have never had a large health claim. Because of these regulations, in some cases individual health insurance can be less expensive than the individual’s share of the group premium. However, the employer usually pays part of the group health premium so the higher cost to the employee is usually not that substantial.
Nothing to do with “regulation” per se, but it should be pointed out that small groups have a higher administrative expense than large groups, therefore insurers usually try to keep the expenses under control by offering simple plans with limited benefit provisions.
Although regulations usually prohibit an insurer from refusing coverage to a small group, there still are situations where an underwriter will recommend that the insurer not offer coverage. Note that although regulations may prohibit an insurer from refusing coverage to a small group, there usually is no restriction as to the premiums that may be charged for the coverage and in some cases, a high premium may be tantamount to declining to offer coverage. The reasons for not wanting or accepting a group can be found in the following four reasons:
If only a small percentage of eligible employees enroll in a plan, the enrolled group will have a much higher number of those with health problems—adverse selection.
A “fictitious group” is a group that is formed for the purposes of obtaining insurance for its members. Underwriting statistics are based upon the assumption that any group considered for coverage is a random sampling of persons, therefore the group contains a mixture of healthy and unhealthy people. If a group is formed for other reasons—such as a common employer—this is the situation. Conversely, if the group is formed just to get insurance, the group will consist of many persons who have a much higher probability of incurring medical expenses. Adverse selection again.
Imagine the situation where insurers must accept a group, whether they were formed for insurance purposes only or for other reasons. Associations of persons with certain medical conditions, such as multiple sclerosis, muscular dystrophy, leukemia, etc., would form groups just so their medical care could be shared with the insurers. Soon there would be no such thing as group health insurance (or health insurance companies).
If a policyholder does not perform the required administrative duties on a timely basis, such as enrolling employees late or does not keep adequate records of terminations, the insurer can have frequent and expensive difficulties. If the history of the group, or if because of other information, indications are that the policyholder cannot perform the required administration, the underwriter may recommend that coverage be denied.
Insurance companies rely heavily upon proper persistency for profitability. Persistency is the length of time that an insured risk stays with the insurer. It must be remembered that an insurer incurs considerable first-year expenses when a group (or an individual, for that matter) is first insured because of first-year commissions, other sales expenses and administrative (including underwriting) expenses. The premium for the risk is based upon persistency assumptions that the risk will remain with the insurer for a length of time whereby the insurer can recoup its high early year expenses. For most group health insurance plans, a minimum of three years is necessary.
If the group does not stay with an insurer for a reasonable period of time, then an underwriter would recommend that the group not be accepted because of poor persistency history. Frequently a newly-formed business may have difficulties in obtaining insurance if their financial basis is not strong or if their particular type of business does not stay in business very long, historically. This is one of the reasons that underwriters usually ask for detailed financial information.
As previously explained, premiums depend upon projected claims experiences, and for small and medium-sized groups, they are based upon standard averages adjusted for the general characteristics of the group. The characteristics that are taken into consideration consist mostly of the following:
Obviously this is important as older people create more medical expense and disability claims than younger persons. Adjustments are made on the average age of the group.
As a generality, women have more health problems than men and have a higher percentage of disability—25% higher than men. Men’s claims are usually a factor only for accidental death and dismemberment insurance. Adjustments are made based on the proportion of men to women in the group.
Most groups include dependents so the percentage of the group members who are dependents has considerable impact on claims experience because dependents are children and spouses, and age and sex affect claims. In recent years, the proportion of dependants has changed rather dramatically mostly because of the increase in single-parent households and the decrease in the average number of children in a family. Also, the increase in the number of working women has had a substantial impact, such as the fact that dependant participation may fall below acceptable levels if many employees have coverage from their spouse’s employer. This is particularly noticeable if the company has a high proportion of married women whose husband’s insurance covers the children.
This “duality” of family health insurance in recent years has had an effect on participation rules and many plans now do not take into consideration those employees who have health coverage under their spouse’s health insurance in determining the required participation level.
Health insurance, in most cases, does not provide coverage for illnesses and accidents resulting directly from the employment of the person as these expenses are usually covered under the employer’s Workers’ Compensation insurance. However, illnesses that result indirectly from work activities or the physical environment of the workplace are usually covered under the group health insurance plan. Back problems from sitting in place for long periods of time, or colds and other respiratory problems caused by temperature of the workplace, etc., are all factors that must be taken into considered in underwriting.
Another situation that must taken into consideration is the fact that some businesses have higher-paid employees than other businesses, and those in the lower-paying businesses will hire the less-healthy individuals as a general rule, so these employees do not meet the general health standards of other companies, and adjustments must be made for these types of groups. For instance, restaurants do not pay as well as technologies company and restaurant employees (as a general rule) would not be as “healthy” overall.
Those with higher-than-average income generally get more frequent and better medical care, which means for underwriting purposes that a group with a large number of high-income employees will have higher medical claims. Conversely, though, as indicated previously, lower-paying jobs may involve working conditions that indirectly cause health problems, so groups with a large number of low-income workers may also have high claims.
As a general rule, the geographical location of a business has little affect on the number of claims made, but it does affect the cost of claims as charges for medical care vary widely by geographical areas. For instance, medical expenses in New York are much higher than in, as an example, Des Moines.
There are a wide variety of group characteristics which are addressed by experienced underwriters, and any unusual characteristic comes under close scrutiny. For example, if a business has a higher-than-average age for businesses of that type because the business hires very few new employees, then a “red-flag is raised” because this could be an indication of financial difficulties. Conversely, a younger-than-average-age group could show high turnover, which would mean that the insurer would have a higher-than-average administrative cost for the insurer. An underwriter also looks for often and/or radical changes in turnover of employees which could dramatically change the characteristics of the group, therefore premiums might be inadequate.
Prior to 1996, many employers provided up to $5,000 to be paid by or on behalf of an employer as a death benefit, to the estate of the employee or beneficiary, and such payments was free of income tax. As of 1996, this death benefit was repealed, but some employers still wish to provide a death benefit, but now, death benefits payable under contract, or pursuant to an established plan of the employer, are taxable income. But, employee death benefits that are payable by reason of the death of certain terrorist attack victims are excludable from gross income.108
Often, death benefits are funded by insurance on the life of the employee, with the insurance owned by and payable to the employer. The death benefits would then come from proceeds received tax-free by the employer, but the surviving spouse receives these benefits as compensation payments from the employer and not as life insurance proceeds. As a rule of thumb, employee death benefits rarely qualify as life insurance benefits wholly excludable.109
Contractual death benefits are "income in respect of a decedent," therefore, when an estate tax has been paid, the recipient of the death payments is entitled to an income tax deduction for that portion of the estate tax that can be attributed to the value of the payments.110
With the contractual death benefit, the employer can deduct the death payments provided they represent reasonable additional compensation for the employee's services. But, payments can be deducted only in the year that they can be included in the employee's income, regardless of the accounting method used by the employer.111
If an employer voluntarily pays a death benefit to an employee's surviving spouse, the IRS considers such voluntary death benefit as compensation and it is taxable income. A death benefit paid by an employer is usually considered as a payment for the benefit of an employee, and therefore, would not be excludable as a gift. Employee death benefits that are paid because of the death of certain terrorist attack victims, are excluded from gross income.112
The employer may deduct a voluntary death benefit if it qualifies as an ordinary and necessary business expense and if the circumstances show that it is additional reasonable compensation for the employee's services, or otherwise qualify as ordinary and necessary business expenses.113
If the facts indicate that the payment was strictly a gift, or was made for the personal satisfaction of the directors, the deduction will be denied.
Where a widow is a controlling stockholder, the payments will probably be treated as constructive dividends and the entire death benefit would be taxable to her and not deductible by the corporation.114 However, if the widow does not hold a controlling interest, the payments may still be treated as dividends if the corporation is a close, family-owned corporation.
STUDY QUESTIONS
1. The principal difference, as far as the policyowner is concerned, between a qualified and nonqualified long-term care insurance (LTCI) policy, is
A. the cost is much higher with the nonqualified plans.
B. it is illegal to market nonqualified plans.
C. the waiting periods.
D. whether benefits are taxed to the policyholder.
2. Any plan of an employer that provides coverage under a qualified LTCI contract is treated as accident and health insurance and therefore,
A. premiums paid for long-term care coverage by an employer are not includable in the
gross incomes of employees.
B. premiums are not deductible by either the employee or the employer.
C. all benefits are taxed under nonqualified and qualified contracts.
D. are non-commissionable.
3. A group broker who takes responsibility for the administration of a group insurance plan is
A. always an employee of the insurance company.
B. the group administration director.
C. a third party administrator (TPA).
D. an actuary.
4. After an employer becomes a "prospect," and after the necessary information has been obtained, the next step in group insurance marketing is to
A. design a health insurance plan that meets the needs of the prospect.
B. file a Group Insurance Proposal Outline (GIPO) with the state Insurance Department.
C. send enrollers to the business to start enrolling.
D. send the proposal to the NAIC to make sure it conforms to the Model bill.
5. The process of determining whether to offer coverage and on what terms, is called
A. data processing.
B. underwriting.
C. actuarial evaluation.
D. sales management.
6. If in a group health plan, the eligible members have the option of having coverage and paying premiums, or declining the coverage, then the members who elect coverage are more likely to be in poorer physical condition than the average employee in the group—this is called
A. poor marketing.
B. adverse selection.
C. discrimination.
D. cherry-picking.
7. Low participation or fictitious groups and persistency problems can
A. not have any effect on the issue of group health insurance, by law.
B. lead to multiple issuing, i.e., offering different plans within a group.
C. only increase the premiums as any other action is illegal.
D. lead to the insurer denying the group the coverage it requested.
8. The premium for a group risk is based upon persistency assumptions that
A. the risk will stay with the insurer for a length of time whereby the insurer can
recoup its high early year expenses.
B. credit early withdrawals as positive as group premiums are adjusted only quarterly so the
insurer keeps the premiums for the lapsed business with no risk.
C. are always nearly perfect and attested to by the Society of Actuaries.
D. are determined by the state Department of Insurance.
9. If death benefits are funded by insurance on the life of the employee, with the insurance owned by and payable to the employer, then a surviving spouse
A. would receive these benefits tax free as life insurance proceeds.
B. would pay taxes on these benefits as compensation.
C. would not be able to receive these benefits as they would be paid to his estate.
D. could set up a Rabbi Trust and never pay taxes on insurance proceeds.
10. William and his wife own the majority of the stock in the Acme Corporation which has a voluntary death benefit plan coveringn William. When William dies suddenly, his wife becomes the controlling stockholder of the corporation and beneficiary of the death benefit. For tax purposes, the benefits paid to the widow
A. are taxed at the top income bracket as ordinary income.
B. are subject to capital gains taxes.
C. would be treated as constructive dividends and the entire amount would be taxable to her.
D. would be 50% exempt as constructively, she only owned half of the policy benefits.
ANSWERS TO STUDY QUESTIONS
1D 2A 3C 4A 5B 6B 7D 8A 9B 10C