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Trieschmann, Hoyt & Sommer Employee Benefits: Life and Health Benefits Chapter 19 ©2005, Thomson/South-Western.

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Presentation on theme: "Trieschmann, Hoyt & Sommer Employee Benefits: Life and Health Benefits Chapter 19 ©2005, Thomson/South-Western."— Presentation transcript:

1 Trieschmann, Hoyt & Sommer Employee Benefits: Life and Health Benefits Chapter 19 ©2005, Thomson/South-Western

2 2 Chapter Objectives List three features that distinguish group insurance from individual insurance and describe the characteristics of a group that would be desirable from a group insurance underwriting perspective Explain the overall approach used to provide Social Security survivor and disability benefits Explain the typical eligibility requirements associated with premature death benefit programs and health expense benefit plans offered by employers Distinguish among the different types of group life insurance used in premature death benefit plans

3 3 Chapter Objectives Explain the important considerations in choosing among health benefit providers List several approaches used to contain health expense benefit costs and give examples of each approach listed Determine the amount and order of payment among several different health plans covering the same loss to the same individual Compare sick leave plans with both short-term and long-term disability income plans

4 4 Introduction Employee benefits have become an important aspect of total compensation in the United States –Average employer costs for employee benefits equaled about 39% of payroll in 2001 Some benefits are provided by employers primarily to enhance the overall compensation package offered to their employees, such as –Paid holidays, paid vacations, discounts on products sold by the employer, subsidized meals, free parking spaces However, this chapter focuses on identifying and explaining the employee benefits that can be used as risk management tools in dealing with life, health, and loss of income exposures

5 5 Reasons for Employee Benefits Usually, employers make benefits available to employees in order to –Improve employee relations –Take advantage of the special income tax status granted to many benefit programs

6 6 Employee Relations In earlier years, employee benefits were frequently referred to as fringe benefits –Many employers viewed them as forms of extra compensation that were not required –Some employers suggested that they viewed employee benefits essentially as freely given goods Employers expected employees to be grateful for their benefits –And to respond with increased loyalty, improved productivity, and better morale in the workplace

7 7 Employee Relations Over time, however, attitudes of both employers and employees evolved Benefits that address basic security issues are no longer viewed as frills that command special gratitude –Such as health care expenses, survivor needs due to premature death, and retirement income –Rather, they are an expected part of most compensation packages Inclusion of such benefits does not often affect employee attitudes because the employer is only doing what is expected However, excluding such benefits could have a negative impact on employee relations –Leading to increased employee turnover and difficulty in recruiting workers

8 8 Employee Relations Employers hoping to significantly improve employee relations from their benefit packages must go beyond what is expected Also, employers are becoming more flexible and allowing employees to select the benefits that best meet their individual needs –It is becoming harder for a standard benefit package to efficiently meet the varying needs of all workers

9 9 Tax Advantages Many employee benefits are treated more favorably for tax purposes than are wages and salaries When such tax advantages exist, it is usually to an employees advantage to receive the benefit –Rather than to receive a higher salary and then purchase the product separately

10 10 Tax Advantages In general, tax advantages may be associated with employee benefits if qualification rules are met –The ability of the employer to deduct the cost of the benefit from current taxable income –The ability of employees to avoid reporting benefit costs paid by their employers as taxable income –Benefit payments may be partially or totally exempt from income taxes –The employers ability to fund some benefit costs in advance With taxes on associated investment earnings either deferred or avoided completely

11 11 Tax Advantages Although favorable tax status is a major factor affecting an employers willingness to grant employee benefits –The continuation of current tax advantages is not assured Frequent changes in the U.S. tax laws affecting employee benefits are common Periodic proposals are made to restrict the tax advantages associated with one or more benefits –And qualification rules are changed regularly

12 12 Premature Death Benefits From an individual employees perspective, the financial needs likely to be associated with premature death include –The cost of funeral, burial, and other executor fund expenses –As well as the possible provision of income for surviving dependents Employers usually provide death benefits through group life insurance –However, both employers and employees should recognize that some death benefits also may be available to employees through Social Security or workers compensation

13 13 Social Security Benefits The Old Age, Survivors, Disability and Health Insurance Program was established in 1935 The four major categories of Social Security benefits are –Retirement –Disability income –Survivors income –Medicare

14 14 Social Security Benefits Social Security benefits are financed through a tax on employees and employers –Originally, an employee paid a 1% tax on the first $3,000 of annual income earned, but this base has increased gradually By 2004, workers and their employees each paid 6.2% on the first $87,900 of earned income –This level of income is referred to as the OASDHI wage base »The wage base increases automatically each year as earnings levels rise –To finance Medicare, an additional 1.45% tax is payable on all earned income

15 15 Social Security Benefits Are payable only if the worker meets certain tests based on the length of service in a job for which OASDHI taxes have been paid A person becomes fully insured after meeting either of two tests –Having worked in covered employment for 40 quarters –Subject to a minimum of six calendar quarters, having worked in covered employment for at least one-fourth of the number of calendar quarters elapsing from the starting date Until age 62 is attained, or disability or death occurs, whichever happens first –Workers are currently insured if they have worked in covered employment at least six of the last 13 quarters Including the quarter in which death occurs or in which they become entitled to benefits

16 16 Social Security Benefits Dependents of covered workers who die are entitled to Social Security survivors benefits –Payable as a monthly income for as long as the survivors meet specified eligibility criteria Widows and widowers may receive survivor income benefits as long as they have dependent children under 16, and again, upon reaching age 60 Benefits may be reduced if the surviving spouse earns more than a specified amount –Children of deceased workers also receive survivors benefits until age 18

17 17 Underwriting Unit is a Group Group insurance plans cover more than one person Underwriting is based on group characteristics rather than on evidence of insurability for individuals within the group Membership in a group that has been formed for purposes other than obtaining insurance is often sufficient evidence of insurability for an insurer –For example, if an employee is well enough to go to work, he or she likely will be judged well enough to be insured without passing a medical examination

18 18 Underwriting Unit is a Group One of the underwriting considerations for group insurance is the purpose for which the group exists –If members have been assembled for the sole purpose of obtaining group coverage The prospective insurer will be very concerned about the presence of adverse selection –For employee groups, however, this possibility is not a problem

19 19 Underwriting Unit is a Group Other factors that may be important in underwriting employee group insurance include –The groups size Insurers prefer larger groups to smaller ones in order to minimize the likelihood of severe adverse selection –Age composition It is also considered best from an underwriting perspective if there is a flow of persons through the group so that the younger members replace the older members over time –The average age of persons in the group is fairly constant and loss experience tends to be more stable –Expected losses Insurers are often interested in specific design features of a group insurance program because such features may have an impact on the losses experienced by the group members

20 20 Lower Expenses Three factors tend to lower some other expenses when insurance is purchased on a group basis –Insurers usually pay lower commissions to their group sales force than to those selling individual insurance –Because individual selection is not required, group underwriting expenses tend to be lower than would be the case if a similar number of persons were to be insured on an individual basis –Employers may handle some administrative tasks for employee groups Such as recordkeeping and the collection of employee-paid premiums

21 21 Experience Rating With group insurance, the losses experienced by the group influence the rates charged –Known as experience rating The group will have greater or smaller premiums in the year ahead if its losses are larger or smaller, respectively, during the preceding year Provides employers with an incentive to try to lessen group losses through various types of loss control activities

22 22 Group Life Insurance Most medium- and large-sized firms in the United States provide group life insurance benefits for some or all of their employees By 2002 group life insurance accounted for over 40 percent of all life insurance in force in the United States –With most of that group life coverage attributable to employee groups

23 23 Eligibility for Benefits The first step is to determine whether the person is eligible to participate in the employers plan Eligibility requirements often specify that a person be employed on a full-time basis –Although some employers provide death benefits for permanent part-time workers and many employers continue death protection after an employee retires Eligibility may be restricted to those working in particular job classifications –Some employers limit eligibility to those persons who have worked for the firm for some minimum period of time

24 24 Eligibility for Benefits Employers must adhere to various state laws regarding employment discrimination –As well as federal laws that discourage employers from favoring very highly paid workers Employees generally have little or no control over their eligibility for death benefits

25 25 Eligibility for Benefits Many death benefit plans have two other eligibility requirements –Employers usually specify the employees who want to participate in the plan must elect to do so soon after meeting the eligibility requirements Employees are usually not required to participate even if they are eligible However, if they do not elect to participate within a specified time after becoming eligible –They will not be allowed to enter the plan at a later date unless they prove at that time that they are insurable –The death benefit usually does not become effective for a particular employee unless that person is actively at work on the day the coverage is scheduled to go into force This provision only relates to initial eligibility

26 26 Contributory versus Noncontributory Plans Contributory –Requires employees to pay part of the cost Noncontributory –Employer pays the full cost of the death benefits –Generally assumed that all eligible employees will participate If the contributory plan is established, the primary decision for eligible employees is whether to participate –Employees should compare the required contribution to the benefits to be received, both currently and in future years –Group life insurance is usually less expensive than individual insurance, but exceptions exist –The tax consequences should be considered as well

27 27 Structure and Level of Death Benefit The amount of group life insurance provided for a particular worker is usually a function of either salary or job classification If the employers goal is to provide for funeral and burial costs –All participating employees may be given a flat amount of coverage More often the amount of the death benefit depends on other factors –Salary bracket approach Workers whose earnings are within various ranges are eligible for a specified amount of death protection –Job classification approach Devised for various job classifications such as secretaries, factory workers, sales personnel –Earnings multiple approach Death benefit for a particular employee is a specified multiple of that persons salary for the year

28 28 Type of Insurance Group term insurance –More death protection can be purchased on a term insurance basis than with any other form of life insurance Income tax laws also tend to reinforce this –A portion of all premiums paid by the employer for cash value life insurance is usually treated as currently taxable income for employees –However, employer-paid premiums for the first $50,000 of term insurance for each worker are not taxable for employees Term insurance can also be provided to cover the death of an employees dependent –Known as dependent life

29 29 Type of Insurance Survivor income benefit insurance –Benefit is expressed as income to specified survivors rather than as a flat amount –If no eligible survivors exist at the time the employee dies, no benefits are payable Group accidental death and dismemberment coverage –Payable only for deaths due to accidents –The death usually must occur within 90 days of the accidents occurrence –Commonly excluded causes of death are suicide, disease, mental infirmity, infection, war, and flight in an aircraft other than a regularly scheduled commercial flight –The premium is much less than for regular group term coverage and employees often pay most or all of the cost –Policy also pays in the event of dismemberment

30 30 Type of Insurance Some employers are interested in helping employees provide for financial needs because of death after retirement –Employers can continue term insurance coverage for retirees –Employers can facilitate their employees purchase of permanent insurance protection Two forms of group coverage for retiring employees are group ordinary insurance and group universal life –Group universal life is growing in usage »Employees must often pay the entire premium but it may be less expensive than comparable protection purchased individually

31 31 Contractual Provisions Group life insurance policies have many of the same contractual provisions found in individual policies The misstatement of age clause differs in that the amount of death benefit payable is not affected due to a misstatement of age –Rather, the employer is subject to an adjustment in the premium payable

32 32 Contractual Provisions One provision in group life contracts not found in individual policies is the conversion clause –Provides that when an employee is no longer eligible for group coverage he or she has the right to convert the coverage to an individual policy without having to prove insurability –Required by all states –To take advantage of the conversion feature, an individual generally must apply within 31 days after termination from the group Must pay the premium applicable at that persons current age –In many cases, group coverage can be converted only into an individual cash policy

33 33 Eligibility The first step in integrating employer-provided health expense benefits into an individuals personal risk management plan –Is to determine the extent to which a person and his or her dependent family members are eligible for the employers plan Most of the same considerations that were important for premature death benefits are also relevant for health expense benefits Benefits may be limited to those employees who work at least a stated minimum number of hours each week –And/or those persons employed in particular job classifications

34 34 Eligibility For a person to be eligible for benefits as a dependent of an employee –The employee must be participating in the employers plan –Dependent benefits are restricted to those persons who meet other specified requirements For example, if dependent coverage is offered, the spouse of an employee is nearly always eligible for the benefits For the employees children to be eligible, they usually must be unmarried and under a certain age Some plans provide dependant coverage regardless of age for mentally or physically handicapped children who are completely dependent on the employee for financial support A newborn is covered from birth in many plans –But in less generous plans, coverage for the newborn may not become effective until the child reaches a specified age

35 35 Eligibility Another eligibility consideration is whether retirees are included in the health benefit program –When benefits are granted to retirees, it is usually through a Medigap policy that pays for items not covered by Medicare or through it a Medicare carve-out arrangement Applicable Medicare payments are deducted before paying promised benefits

36 36 Eligibility Coverage for retirees of many employers is not as generous as it used to be –In 1993 FASB required firms to report retiree health benefits as a liability that is accrued over employees working lives Whereas before firms could report such expenses on a pay- as-you-go basis –Only the actual expenses paid for health benefits and or insurance during the year were charged against income –Resulted in reduced corporate earnings Many employers have made substantial cuts in their retiree health benefits and others have eliminated the benefits entirely

37 37 Contributory Versus Noncontributory Plans Many employers provide noncontributory death benefits –But it is quite common to require employee contributions for a patient in an employers health expense benefit program As health care costs continue to rise, it can be expected that the level of contributions required of employees will also increase

38 38 Contributory Versus Noncontributory Plans When an employee pays part of the cost for health expense benefits –Employers are allowed to offer their employees a premium conversion option Premiums are paid with pre-tax dollars rather than after-tax dollars According to the tax law, medical expenses are deductible only from an individuals current taxable income –To the extent that total medical expenses exceed a threshold level equal to 7.5% of adjusted gross income Thus, many persons are unable to benefit from the tax deductibility of contributions for health expense benefits –An example is summarized in Table 19-1

39 39 Table 19-1: Deductibility of Medical Expenses

40 40 Contributory Versus Noncontributory Plans Whether the premiums are paid with pre-tax dollars or after-tax dollars –The opportunity to participate in an employers health expense benefit plan will prove cost effective for most people However, in some instances it makes sense to reject coverage under a contributory plan –For instance, a husband and wife may be covered under different employee health plans and coverage for their dependents could be an option under each plan They must decide whether to cover their children under one or possibly both of their employee health plans They need to compare benefits, exclusions, and limitations, and the relative costs

41 41 Providers of Coverage The major providers of health expense coverage are insurance companies, Blue Cross-Blue Shield organizations, health maintenance organizations (HMOs), point-of-service (POS) plans, and preferred provider organizations (PPOs) Employers often use more than one of these providers and some employers often also set up self-funded benefit programs It is important to analyze the choices offered by each of the programs

42 42 Choice of Physician When an insurer, the Blues, or a self-funding arrangement is used to provide health expense benefits –The employee will typically have freedom of choice regarding the physicians, hospitals, etc. Employees covered by an HMO must obtain medical services from doctors and others who belong to the HMO –Except in emergency situations while the employee is out of town When a PPO or POS plan is used, the employee can make a choice regarding physicians each time medical services are needed –But higher cost-sharing will be required if an out-of-network provider is chosen

43 43 Coverage and Exclusions No standard set of medical needs is always covered or always excluded Employees must analyze all of the programs available to find one likely to meet their needs Health care expenses often are categorized as to whether they include –Hospitalization, physicians and surgeons services, dental care, mental health care, long-term care, prescription drugs, etc. Not all benefit programs cover all of these needs to the same extent

44 44 Coverage and Exclusions Traditional insurance plans may exclude routine types of medical expenses –On the grounds that insurance benefits should be reserved for unexpected medical problems However, HMOs or POS plans place more emphasis on preventing small problems from becoming larger ones In some jurisdictions, state-mandated benefits apply only to plans offered through insurers and the Blues –Examples include coverage of at least a specified amount for alcohol and drug abuse treatment

45 45 Cost to the Employee Two cost aspects should be considered –The amount of monthly contribution that is required of the participating employee –The amount of cost-sharing that will be incurred by the employee at the time medical services are sought Plans offered by insurers and the Blues usually have both coinsurance and deductibles Cost-sharing for participants in HMOs is usually minimal –Maximum benefit limits may not exist

46 46 Cost Containment Health care costs have increased rapidly in recent years Employers now include a number of cost-containment provisions –Generically called managed care Cost containment methods include –Trying to reduce the unnecessary use of health services by employees and their families by Requiring use of primary care physicians rather than allowing direct access to specialists Precertification of benefits –Requires that certain nonemergency medical services be authorized before the delivery of treatment –If precertification is not obtained, the benefits provided by the employers plan are usually reduced –Try to have treatment provided at the least costly locations –Authorizing the use of hospice care by terminally ill employees or dependents –Trying to avoid payments for charges never incurred Increased efforts to detect fraud and eliminating overpayments resulting from billing errors by hospitals

47 47 Cost Containment Employers are increasing their efforts to try to prevent medical problems in the first place –Development of aggressive fitness and wellness programs for employee groups can have a major impact on the frequency and severity of medical claims Many employers are moving toward consumer- driven health care –Try to make employees better consumers of health care by Giving them financial incentives to control costs –Generally take the form of high deductibles Providing them the information they need to make sound health care decisions

48 48 Coordination of Benefits Sometimes an employee or a dependent is covered by both the employers health expense benefit plan and another benefit program or insurance arrangement The amounts payable by the various plans are covered by their coordination of benefits (COB) provisions Individual states generally specify the COB provisions to be included in plans offered by employees

49 49 Coordination of Benefits Four basic principles are involved –When a person owns personal insurance, the amount payable from the insurance does not lessen or otherwise affect the amount payable from benefit programs provided by employers –The maximum reimbursement from all employer-sponsored plans is 100 percent of necessary and reasonable medical expenses incurred and covered by least one of the employers plans –Dependent coverage is provided in excess of coverage as an employee –Children are covered first by the plan of the parent whose birthday is earlier in the year Unless the parents are separated or divorced –The plan of the parent who has custody of the child pays first

50 50 Pre-Existing Conditions A health problem that exists before health expense coverage becomes effective Before the 1996 passage of the Health Insurance Portability and Accountability Act (HIPAA) –Employees often were provided no coverage under employers health plans for a period of time for problems arising out of pre- existing conditions –Employers can now impose pre-existing conditions limitations in their health plans for maximum of one year Employees must receive credit for the time that they were covered under previous employers plans, individual health insurance policies, Medicare and/or Medicaid if it has not been more than 63 days since this previous coverage was in effect

51 51 Termination Rights What happens to an employees health expense benefits when he or she terminates employment with the sponsoring employer? –If the termination is due to retirement The employee may be eligible for coverage in a special retiree health plan –If the termination is due to disability Some employers will continue to cover this employee in the group plan

52 52 Termination Rights When neither of the previous alternatives exist or is relevant –Conversion to an individual health plan may be desirable Many states require that an individual health insurance policy be offered in place of a group policy when an employee ceases to be an eligible group member Under HIPAA individuals are assured of the availability of individual coverage –But this protection does not have to be as broad as the group insurance and the cost is nearly always more than before

53 53 Termination Rights In 1985 Congress passed the Consolidated Omnibus Budget Reconciliation Act (COBRA) –Applies to firms employing 20 or more employees –Grants former employees and previously covered dependents the right to continue participation in their group health plans for a specified period Even after theyre no longer eligible under the plans eligibility rules –Can be required to pay the full cost of coverage plus an additional amount to cover expenses But the total paid is often less that what would be required if they converted to individual health insurance –The maximum length of time for continued participation in the group program is generally 18 months for former employees and 36 months for formally covered dependents

54 54 Disability Income Benefits The loss of health can result not only in substantial medical expenses but also in a reduction or cessation of income due to the inability to work Some disabilities are temporary whereas others are permanent Employee benefit programs vary considerably to the extent to which they address workers potential loss of income due to injury or illness –When offered, benefits are usually restricted primarily to full-time workers and are designed as one or more of the following types Sick leave plans, short term disability income plans, and long- term disability income plans

55 55 Social Security Disability Income Benefits The amount of the benefit is dependent on the disabled persons previous earnings history Benefits are increased if the worker has dependents –With each dependent receiving 1/2 of the benefit payable to the disabled worker, subject to a family maximum To be eligible for disability benefits, workers must have a specified minimum work record –Generally, must one must have worked half of the ten years before the time one applies for disability benefits –Medical evidence must be provided to prove disability A five month waiting period is required and the impairment must be such that it is expected to continue at least twelve months

56 56 Sick Leave Plans Often called salary continuation plans Usually designed to pay the full amount of an employees salary during periods of temporary disability Usually do not involve either disability income insurance or any other formal mechanism for funding the promised benefits If the period of illness or other health problem is only a few days –Verification by a physician usually is not required –But if the inability to work extends beyond about a week Many employers require medical certification of the illness or injury Employees should be aware of the rules regarding the accrual of benefit rights

57 57 Disability Income Plans Short-term disability (STD) income plans –Have maximum benefit periods of about two years Long-term disability (LTD) income plans –Any arrangement that might pay for longer than two years

58 58 Definition of Disability Under an STD, the usual definition is the one requiring that the employee be unable to perform the major duties of his or her occupation For LTD plans, the definition usually has two parts –For the first one or two years the own occupation definition usually applies –After that an individual is classified as disabled only if unable to perform the major duties of any occupation for which he or she is qualified through education, training, or experience

59 59 Elimination Periods The waiting period before the payment of benefits Employees should note the relative limits of the elimination periods and maximum benefit periods for STD, LTD and sick leave plans –Gaps and overlaps in payment periods sometimes result –Employees who are confronted with potential gaps may want to make individual arrangements to fill those gaps With either individual disability income insurance or personal savings dollars

60 60 Benefit Levels Most sick leave plans are designed to provide full income replacement Disability income plans usually provide only partial income benefits –STD plans usually provide a higher percentage of salary than LTD plans In both cases dollar maximums may also apply Benefits payable under most employer-sponsored STD and LTD plans are reduced to reflect any disability payments the employee receives from –Social Security, workers compensation, the employers pension or other retirement plan, and the employers sick leave plan

61 61 Contributory Versus Noncontributory Plans Because sick leave plans generally have no formal funding arrangements, in most cases they are noncontributory STD plans are often established on a noncontributory basis Most LTD plans are contributory and some are financed entirely by employee contributions –Employers receive a tax deduction equal to the contributions they make to fund disability income plans The extent to which disability income benefits paid to an employee are taxable as income –Depends on how much the employee has contributed during a specified period toward the cost of the employers plan –For noncontributory plans, all disability income benefits are fully taxable –Benefits paid from employee-pay-all plans are completely exempt from income taxes

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