With unemployment at an all-time high, you may have found your income and any associated employee benefits—including employer life insurance.—significantly changed from what they were 6 months ago. Whether you lost a job, have recently started a new job, or are on the hunt for employment, here’s what you need to know about life insurance as an employee benefit.
Term Life Insurance Employee Benefits
Many companies offer free voluntary term life insurance to employees, typically with a standard death benefit, which can be a flat-dollar amount (usually $25,000 or $50,000) or an employee’s annual salary multiplied by a number of years, up to a certain dollar limit. This is a great perk, especially if you have preexisting conditions that would make it hard for you to get insurance elsewhere, because voluntary term is guaranteed issue insurance—meaning no medical exam required.
The downfall of guaranteed issue term insurance is that the amount of insurance you can get is relatively small from many employers. It won’t be enough to suffice as your only form of insurance—and you need to be aware of the tax and inflation implications. Further, your coverage could end when your employment ends.
If you’re offered a term life insurance employee benefit, the amount of coverage you have typically doesn’t increase during the tenure of your employment. This means your family earns less and less of a death benefit each year you’re insured, due to inflation. Further, free term life amounts often cover little or no cost more than funeral costs and final medical bills. According to Policy Genius, the average cost of a funeral is $10,000 and end-of-life medical bills cost, on average, an additional $10,000. This means a $25,000 term life policy would scarcely leave anything for your family now, and definitely won’t leave them anything years down the road.
Considering the main purpose of term life insurance is to ease the financial burden of your passing, like costs for your children’s education, mortgages, and other outstanding debt, free term life insurance as an employee benefit likely isn’t enough coverage. A typical rule of thumb for term life insurance is to multiply your annual income by the number of years it would take to cover your family’s major financial purchases and debts.
For example, if you have 20 years left on your mortgage, you would multiply your annual income by 20 to determine how much term life insurance coverage you need, at a minimum. Coverage needs increase even more if you have a spouse who doesn’t work, children with disabilities, or other debt requirements like a business or investment real estate.
The Group Term Life Insurance Plan
If your employer offers life insurance as a benefit, they’re likely offering it within a group plan where you can purchase more coverage. How much insurance you can purchase depends on the plan, and you might have to take a medical exam for any coverage outside the guaranteed issue.
In a group plan, your employer pays a portion of your term life insurance premiums and you pay the rest. Depending on the amount of additional coverage you need, you could end up paying for the majority of your coverage out-of-pocket. Although premium rates may be lower in a group plan, your tax liability may be greater. Any amount you contribute to your group plan, outside your employer contribution, is taxable. This essentially means you would foot the tax bill for the bulk of your coverage.
If your employer offers free term life insurance, take it. But for additional coverage, consider purchasing convertible term insurance. Your group plan might offer this option; if it does, make sure your insurance policy carries over when you leave your employer. If it doesn’t, consider exploring other insurers.
A convertible term policy gives you the option to upgrade to whole life insurance at a later date, within the specified term, without requiring an additional medical exam. This means you lock in lower premium rates, get the group life insurance coverage you can afford now, and have the option of switching to a policy that earns dividends and guaranteed interest for better protection against inflation down the road. Plus, when you switch to whole life insurance, you’ll enjoy more tax advantages.
Whole Life Employee Life Insurance
Whole life insurance is sometimes offered in a group plan, and the upside is that you can usually keep your whole life policy if you leave your job, which isn’t as common with term insurance. However, you’ll likely have to take a medical exam to qualify, and if the plan isn’t structured correctly, you won’t see rapid growth in your policy. If your reason for buying life insurance or wanting whole life insurance is cash value and living benefits, you’ll probably have to look outside a group plan to get the right customized policy for your goals.
The other way whole life insurance is offered as an employee benefit is via a keyman insurance policy. This type of individual life insurance policy is reserved for key employees, typically who own a percentage of the company or whose salaries exceed a dollar benchmark. The purpose of keyman insurance is to protect the company’s interest if you pass away—not your family’s. But you may be able to negotiate terms with your employer in regards to beneficiaries and cash value.
The most common benefit agreement between key employees and their employers is called a split-dollar arrangement. Often used to attract and retain valuable employees, a split-dollar arrangement is structured so that the death benefit or the cash value is split between the employee and the company.
Unlike regular whole life insurance plans, where the goal is to obtain the lowest premium and the highest death benefit, this policy is structured for rapid growth of cash value with the highest possible premium and least amount of death benefit. This means less fees on the policy and greater returns in the form of interest and dividends.
How a Split-Dollar Arrangement Works in Group Life Insurance
- An employer who wants to offer a fringe benefit to a key employee enters into a formal agreement to split the costs and benefits of a whole life insurance policy.
- The employee purchases the policy and then collaterally assigns it to the employer, who provides the funds to cover the policy premiums—typically in a series of 7 payments.
- The employer treats these funds as a series of interest-bearing loans. The employee is responsible for claiming a portion of this “interest” on their annual income tax returns. This amount is typically equal to the Long-Term Applicable Federal Interest Rate.
- The employee is able to use the policy as their personal bank and has access to all of its associated cash value, plus receives major tax advantages.
- At the employee’s death (or the termination of the agreement upon retirement or leaving the company), the employer recovers its total premiums, either in cash value or from the death benefit.
Disability Insurance Employee Benefit
If you become disabled, who will pay your bills? While most companies offer some sort of disability insurance, it won’t cover the full amount of your lost wages. The average disability insurance coverage only reimburses about 60% of your current income. Further, while disability might be offered by your employer, that doesn’t mean your employer will pay for it. Often, the cost of disability insurance is coming out of your own pocket. And if you can no longer work, your term life insurance from your employer is likely going away too.
Thankfully, paying for disability insurance that only covers part of your lost wages isn’t your only option.
When you open a whole life insurance policy, you can add policy riders, which are additional types of coverage. Some policy riders are included for free, like chronic and terminal illness riders. These additional forms of coverage will pay out a portion of your death benefit while you’re still living if you’re diagnosed with a chronic or terminal illness.
Another rider you can add for a small cost is called Waiver of Premium for Disability Rider. This rider waives your premium payment if you become disabled, but you still earn guaranteed interest and non-guaranteed dividends on your policy as if the full premium payments were still being paid. Not only do you have peace of mind knowing your policy is still intact, you can use the cash value of your policy to replace your lost income—and earn money while doing it.
401(k) Match Employee Benefit
Although it’s not life insurance, a 401(k) plan is a common employee benefit. When it comes to qualified plans like a 401(k), your wealth strategy should depend on your financial goals. When do you want to retire and how close are you to retirement age? What amount of income will you require in retirement? What is your tolerance for risk?
While it may seem like a 401(k) with an employer match is offering you free money, the risk you assume and the vesting period (the time you must be employed before you receive your employer match) might not make this benefit as lucrative as it seems. You could be better off purchasing a cash value life insurance policy for retirement that earns guaranteed interest and isn’t correlated with the stock market.
Bonus: You can access money in your insurance policy before 59 ½ for any reason without penalty.
Also remember you don’t necessarily have to choose between a 401(k) and a life insurance retirement plan. Employers typically only match up to a certain percentage of your contribution, so if you’re leaning toward investing in the market, contribute enough to receive your match but use leftover funds for a whole life insurance retirement plan. This approach has the added bonus of offering you a volatility buffer, which protects your investments when markets are down.
What About Permanent Life Insurance Benefits for My Spouse and Kids?
Additional life insurance for spouses and children can usually be purchased within a group life insurance plan, up to a certain amount of coverage. As mentioned above, check with your plan provider to see if your additional family coverage terminates with your employment, and keep in mind that you’ll likely pay taxes on insuring your spouse and kids within a group supplemental insurance plan.
An alternative option is to take out whole life insurance policies on your spouse and children. If you already have a whole life policy, this is a relatively easy process—and more affordable than you might think.
The biggest upside to insuring your entire family with whole life is that you increase the power of your family bank. Each policy earns dividends and guaranteed interest, and each policy enjoys multiple tax-advantages, allowing you to keep more of your hard-earned wealth. Collectively, your policies can be used to pay for college tuition, family vacations, purchase real estate, leverage other investments, and build a family legacy that will keep your wealth passing on from generation to generation.
Which Benefits to Choose?
If you’re considering your employee benefits and life insurance, our Wealth Strategists can help you find the right products for your and your family’s needs, whether you’re looking to increase your term insurance, learn more about keyman policies, add disability insurance, or switch to whole life.
Here’s what one client had to say about his experience replacing employee benefits with life insurance:
“I was looking for a new policy to replace the policy I had from my employer. I was put in touch with Wade Reed and his team. He took the time to ask me what my needs were and what I was trying to accomplish, not just with life insurance but with my entire financial health in general. I never felt like I was being sold on anything. He wanted to make sure that I was receiving only what I needed. We settled on a 20-year term life policy. Wade was really looking out for my best interest in my current financial situation.” — Charles G.