Everyone Loves An Upgrade: When Split-Dollar DI Makes Sense

By Larry Schneider

When should you offer the split-dollar concept to your clients? Before answering this question, allow me to give some background on why this concept was created in the first place.

Split-dollar was created to alleviate the financial strain placed on employers or corporations when employees are offered traditional non-cancelable (or “non-can”) coverage, or when other circumstances dictate. Split-dollar allows such a policy to be paid for by both the employer and the employee, with certain tax advantages offered to both parties.

Many employers offer or give group long-term disability coverage to their employees. However, this coverage has some limitations, especially for highly-compensated employees, who may then wish to opt out and instead apply for non-can coverage.

In this case, the employer may not wish to foot the bill for coverage beyond the cost of the group plan. However, an option is available for funding additional premium for the non-can. That option is splitting the premium between the two parties - and so you have split-dollar!

For example, let’s look at a 40-year-old nonsmoking employee in a top occupation class, who is eligible for $5,000 per month non-can with all options, payable for lifetime. Annual premium for a two-year benefit period with a 90-day elimination might be $1,050 per year.

There are several options in the design of a split-dollar policy that will allow the employee to upgrade most parts of the policy past what the employer might want to pay. One other major feature is that upgrades, at claim time, will be paid tax-free! Here are some of the options.

1. The employer could pay the entire premium for only a two-year benefit period, with the employee paying the premium for any benefit period beyond.

2. The employer could pay for all of the options with a benefit period to age 65 but pay only one-half of the total disability benefit amount.

3. The employer could pay for the total disability benefit amount and the employee could pay for all of the options.

What are the consequences or advantages?

1. All benefits paid (which are attributable to employer-paid premiums) will be taxed. However, these premiums will not be included in the employee’s taxable income.
2. All benefits collected that are attributable to employee-paid premiums will be collected tax-free.

 Larry Schneider is a disability insurance specialist with more than 35 years’ experience and is the owner of Disability Insurance Resource Center. Larry may be contacted at [email protected].