If you receive Long Term Disability (LTD) insurance benefits, you need to know whether the Internal Revenue Service (IRS) says those are taxable benefits. The tax treatment of LTD benefits can be based on who paid the premiums and whether the premiums were paid with pre-tax dollars or after–tax dollars.
At Marc Whitehead & Associates, we cannot emphasize enough the problems disability insurance taxation can cause if you don’t have a financial plan. Many claimants come to us who unfortunately have been caught by surprise at how the IRS taxed their benefits package and income.
We encourage you to talk with our Long Term Disability lawyers about disability insurance taxation. In the meantime, please review our guide to disability insurance taxation, which covers whether your LTD benefits are taxable and other topics.
Disability Insurance Taxation: Are Your Long Term Disability Benefits Taxable?
Whether your LTD benefit amount is taxed depends on who paid the insurance premiums. If you used after-tax dollars to pay your premiums, your benefits are tax-free. Alternatively, if your employer paid your premiums or you used pre-tax payroll deductions, your disability coverage counts as taxable income.
Many people don’t realize how different laws govern group and individual insurance policies in terms of costs, taxation, and claim disputes. While tax advice should always come from your tax accountant, the team at Marc Whitehead & Associates can provide insights as to how different forms of LTD insurance can be taxed under a variety of circumstances.
Our disability lawyers can share information about insurance taxation relative to your situation. From here, we can help you understand the factors that can affect the taxability of your LTD benefits. Along with this, we can address your concerns and questions and give you details about common tax scenarios involving LTD.
For a free legal consultation, call (800) 562-9830
Disability Insurance Tax Scenarios for LTD Benefits That You Need to Know About
If you have LTD insurance and wonder if you qualify for a tax credit for the elderly or disabled, now is the time to seek guidance and support. The attorneys at Marc Whitehead & Associates can review the specifics of your situation. We may assist you as you go through any of the common tax scenarios associated with LTD, such as:
- Employer–paid policy: Under this type of policy, if your employer pays 100% of the premiums and you don’t include those premiums in your taxable income, your LTD benefits can be taxable to you.
- Employee–paid plan: If you use pre-tax payroll deductions to fund your plan, your LTD will count as taxable income. Or, if you buy a plan with personal, post-tax dollars, your payouts are tax-free.
- Shared–contribution plan: Generally, in a shared-contribution plan, taxation is split proportionately. For example, if your employer pays 60% of the premium and you pay 40% with after-tax funds, 60% of each benefit check is taxable.
- Third–party payer: An insurance company or other third party can issue tax forms and, depending on the payment arrangement, withhold federal income tax. In some circumstances, you’re required to request withholding.
Although IRS rules and the Internal Revenue Code (IRC) do not technically affect claim adjudication, insurance companies are keenly aware of insurance taxation issues, and they can resort to strategies that benefit their bottom line. We protect our clients by ensuring their LTD benefits claims are handled fairly.
When Do I Pay Tax on Disability Benefits?
Some disability payments aren’t taxed, while others count as regular income. Whether you will have to pay tax on your benefits depends on the type of program and your total household income.
You may have to pay tax on Social Security Disability Insurance (SSDI) if your combined income goes over specific limits. Comparatively, for private LTD plans, who pays the insurance premiums will dictate taxation and whether there will be taxes on your LTD.
Supplemental Security Income (SSI) isn’t taxable for federal tax purposes, and qualifying disability compensation from the U.S. Department of Veterans Affairs (VA) may not be taxable federally. The attorneys at Marc Whitehead & Associates have experience with a wide range of disability cases and can discuss the tax implications of benefits that you receive.
Are Individual Disability Benefits Taxable?
When you purchase an individual disability policy and pay the premiums with after-tax dollars, the benefits are typically not taxable. Yet, the tax treatment can differ when premiums are paid through an employer-sponsored arrangement or otherwise excluded from your taxable income.
In certain instances, your insurer can come to you with a lump-sum buyout offer. This is a one-time fixed payment where your insurance carrier wants to pay you a percentage of the remaining value of your claim. The lump-sum payment puts an end to the continuing monthly payments.
When faced with such a situation, it helps to have the attorneys at Marc Whitehead & Associates on your side. Our lawyers understand that insurance taxation comes down to whether your premiums were paid with pre-tax dollars or after-tax dollars. If your lump-sum buyout is taxable, your taxes can reduce the one-time payment that your insurer offers.
A Quick Review of LTD Coverage
If you have Long Term Disability insurance but are unsure what exactly your coverage entails, our lawyers at Marc Whitehead & Associates want you to understand how your coverage works. We can give you information about the different types of LTD coverage, including:
- Employer–sponsored group LTD plans: This is the most common type of group LTD plan, with group benefits covering all eligible employees and the employer often paying all or part of the premiums as an employee benefit. If you are dealing with a group disability claim denial, we can help you proceed with an appeal under the Employee Retirement Income Security Act (ERISA).
- Individual disability insurance (IDI) policies: IDI tends to be more comprehensive and costly than similar options because each policyholder is individually underwritten by an insurer, and a policyholder can buy additional coverage (riders) to ensure maximum coverage based on their profession and income replacement goals. Following an IDI claim denial, our attorneys can look for ways to dispute your insurance company’s decision.
- Professional association policies: Professional associations can offer group disability insurance plans. Examples are policies sponsored by the American Medical Association (AMA) available to physicians and dentists.
In many instances, group disability benefits are taxable. Employer-paid premiums in a group insurance plan represent a tax deduction for the employer. However, other forms of LTD benefit payments are offered by various insurance carriers, resulting in varying tax consequences.
How Pre-Tax vs. Post-Tax Premium Payments Cause Different Disability Insurance Taxation
Ultimately, the determining taxation factors are who pays for LTD premiums (employer, employee, or shared) and whether premiums are paid with pre-tax or post-tax dollars. If group LTD plans are paid with after-tax dollars, then the benefits received are not taxed. Below are common examples that highlight disability insurance taxation and when LTD is taxed:
- Your employer pays 100% of the group disability insurance premium and deducts the premium as a business expense. In this scenario, your LTD benefits may be taxable to you.
- You participate in a “cafeteria plan” in which you select certain employee benefits like health, life, and disability insurance. A cafeteria plan may allow you to pay for certain benefits through salary reductions that are excluded from your taxable income. The tax treatment of disability benefits will depend in part on whether your premiums are included in your taxable income.
- You receive pre– or post–tax contributions. If your employee premium contributions are made on a pre-tax basis, the IRS may not treat them as employer-paid for purposes of determining whether your disability benefits are taxable, and you can be taxed on them. On the other hand, if you pay your share of the premiums with after-tax dollars, the portion of benefits attributable to those contributions may not be taxable.
If you are debating whether to hire a Long Term Disability lawyer, meet with the team at Marc Whitehead & Associates. We want to help you make informed decisions regarding LTD insurance taxation. Plus, if you’ve had your LTD claim denied, our lawyers can walk you through the appeals process.
Understanding the Potential Gap in Group LTD Coverage
How much you receive as part of group LTD insurance coverage may vary from plan to plan and company to company. Many group LTD policies replace a percentage of pre-disability earnings, subject to a policy’s definition of covered earnings and any applicable monthly maximum. Some policies can exclude certain forms of compensation, such as bonuses.
Taxes and applicable benefit offsets can reduce the amount you receive from your employer-paid LTD coverage. Wherever you fall in the income spectrum, it’s important to be aware of your insurance coverage.
At Marc Whitehead & Associates, we advise our clients on how SSDI will impact their LTD, and whether the insurance company will offset any SSDI payments (and other offsetable benefits) that they can obtain.
What Is the SSDI Offset for LTD Benefits?
You can receive LTD and SSDI benefits simultaneously. Some group disability plans allow an insurance company to offset your SSDI payments. This means your insurer will deduct the amount that the Social Security Administration (SSA) pays to you from the checks you receive. Other offset clauses may be in the policy language as well.
Taxable LTD benefits can reduce the amount that you have available after taxes. In addition, some group LTD policies are not indexed for inflation, and the monthly benefit can remain unchanged during a long claim.
Meanwhile, the employer that paid your premiums can take a tax deduction on your premiums as a business expense. The attorneys at Marc Whitehead & Associates can teach you about this situation and others that can impact disability insurance taxation and the taxability of your LTD benefits.
Business Structures and Disability Insurance Taxation
A business’s legal structure can impact the taxation of disability benefits that the owner or employees receive. Many businesses that provide LTD to employees as a group benefit will treat the purchase of premiums for the coverage as a tax-deductible expense. Here are guidelines about how disability insurance taxes work under common business structures.
Sole Proprietorship
At Marc Whitehead & Associates, many of our clients are business and medical professionals working as sole proprietorships. If you’re a sole proprietor, you may personally buy an individual disability policy and pay the premiums with after-tax dollars to receive benefits that aren’t taxable for federal income-tax purposes.
Corporation
When a “C” corporation pays disability insurance premiums for an employee and those premiums aren’t included in the worker’s taxable income, the resulting LTD benefits can be taxable.
Partnership
In a partnership, the IRS may not consider owners to be employees. The cost of insurance for the owners can be included in their gross income, and disability benefits can be nontaxable to the partners/owners receiving them.
A partnership can treat LTD premiums for employees as a tax-deductible expense. When the partnership pays the premium for its employees, disability benefits may be taxable to the employees.
If you’re in need of a guide to disability insurance taxation and wonder whether your LTD benefits are subject to taxation based on a sole proprietorship, corporation, or partnership, the team at Marc Whitehead & Associates wants to assist.
Learn More About Disability Insurance Taxation and Times When LTD Benefits Are Taxable
With taxes, surprises are seldom good. No disability claimant should end up underinsured because taxes and offsets are unexpected or poorly handled. Thankfully, the team at Marc Whitehead & Associates is ready to help you avoid these situations.
Our team has 120 years of combined experience and has earned more than 2,500 five–star reviews. While we do not offer tax advice to our clients, we can help ensure that you are aware of all disability insurance taxation issues to bring up with your tax advisor.
If you want information about disability insurance taxation and whether you’re in a situation where your LTD benefits are taxable, we are here for you. To get started, schedule a case consultation.
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