TRICKS OF THE TRADE
Open Enrollment Season: Understanding Employee Benefits
Prepared by Michael Menninger, CFP®
So, you just started your new job, and you were e-mailed a PDF outlining all the great benefits your employer has to offer. Or, maybe it’s open enrollment season to select your benefits for the following year. After a few minutes of browsing, you quickly realize you aren’t 100% sure of what you’re looking at and may be thinking:
- Which medical insurance plan should I select?
- What are Health Savings Accounts and Flexible Spending Accounts, and what do they mean?
- Should I sign up for life insurance, and how much?
- What does disability insurance provide, and what is a 90-day elimination (waiting) period?
- I’ve have heard of a 401(k) and know I should contribute, but how does 401(k) match and profit-sharing work and what is a vesting schedule?
If you have found yourself asking some of these questions, then this article may be able to help guide some of the decisions you make.
This is the time of year, generally in the fall, in which employees are able to make changes to benefits such as health, disability, and/or life insurance. Oftentimes, this is an employee’s only opportunity to make changes throughout the year, barring any life changing events such as marriage, divorce, death, disability, losing existing coverage, having a child, etc. Note that open enrollment typically does not include the 401(k) plans, as they are typically independent and not restricted to enrolling or making changes during that narrow window of the year.
Many employers will also offer health insurance benefits to their employees and will cover some or all of the cost, making it much more affordable. Two common forms of health insurance are through Health Maintenance Organization (HMO), or Preferred Provider Option (PPO) and they each have their pros and cons, as they each provide their own unique benefits. See table below for common attributes of HMOs and PPOs:
HSAs / FSAs
Health Savings Accounts (HSA)
HSAs are tax-advantaged accounts that help people save for medical expenses that are not reimbursed by high-deductible health plans. Contributions to an HSA are tax deductible when made, and distributions are tax-free if used for qualified medical premiums / expenses. They are relatively new, only being introduced in 2004.
Flexible Spending Accounts (FSA)
FSAs are an arrangement with your employer that allows you to set aside tax-free dollars to pay for qualified out of pocket medical expenses. These qualified expenses include copayments, deductibles, qualified prescription drugs, and medical devices.
When can you change contributions?
Penalties for withdrawing funds for non-medical purposes
It is important to not that there is no “catch-all” situation when it comes to selecting the appropriate medical insurance plan. It depends on your desires, medical “needs”, family situation, and your willingness to pay extra.
Another common benefit offered by employers is life insurance, typically in the form of group term insurance. With these policies, the employer will get discounted rates because they are pooling from a large number of individuals. The death benefit is the lump sum payout your beneficiaries would receive should you pass during that term.
Typically, term life insurance through an employer will only cover you while you are working for them. However, some employers/insurance carriers will allow you to continue with the policy after you terminate employment, but on a personalized level. The death benefit could be a flat amount, such as $25,000 or $50,000, or a multiple of your salary 1x, 2x, 3x, etc. It is not uncommon for insurance carriers to require underwriting (physical, bloodwork, etc) if one requests a large insurance increase from one year to the next.
Oftentimes, your employer will pay for a baseline coverage on your behalf, and will allow you to purchase supplemental term insurance to increase your death benefit. For example, if you believe that the 1x your salary death benefit is not adequate, you could potentially add the supplemental insurance to increase your benefit to a substantially higher amount.
- Age Bands: Categories of age groups used by life insurance companies to determine the cost of the premium, and they are typically 5-year bands. For example, those falling in the age band of 20-24 will pay a lower premium than someone in a 40-44 age band.
- Group term life insurance is generally better for those that would qualify for substandard life insurance as opposed to someone that would qualify for preferred life insurance.
- Group term insurance only differentiates based on age, gender, and use (non-use) of tobacco.
- Private insurance may be better for some as it does not require your employment and you may get better rates, particularly if your health is above average.
- The first $50,000 of employer covered life insurance is tax free to the employee. However, any employer paid benefit that exceeds $50,000 will count as imputed (phantom) income and will be taxable income to the employee.
This is a type of insurance that will pay a benefit should you become disabled and are unable to work. This is designed to replace a portion of your income for the time in which you are disabled. It is important to note that disability insurance is not the same as Workers’ Compensation. Workers’ Compensation is a government-mandated program that provides a benefit to employees that become sick or injured on the job. While the two are similar, they are not the same program. Further, Workers’ Compensation benefits are tax-free.
There are a few basics that are important to understand when discussing disability policies. The first is whether or not a policy is short or long term. Short term disability will typically cover an employee for 3-6 months, while long term disability can range anywhere from 2 – 5 years, and can even be up to retirement age. Short and long-term disability coverage periods are typically coordinated in employer health benefit plans such that the elimination period for long-term disability is virtually the same as the benefit period for short-term disability. As a result, there won’t be a lapse in coverage for the employee.
It is also important to understand the difference between “any” and “own” occupation disability insurance. You would be covered under “any” occupation policies if you are not able to work any job at all, whether it is in your profession or not. You would be covered under “own” occupation policies if you cannot work your current job. Typically, employers will provide “any” occupation polices as they are cheaper. It is also common to see “own” occupation for 2 years and “any” occupation for the remainder of the benefit period. A good example of “own” occupation is the surgeon who develops carpel tunnel or shaky hand and cannot perform surgeries. He would be covered by “own” occupation as a surgeon, even though he could still get paid to teach.
The premiums for long term disability can be covered by your employer and/or yourself. The benefit you receive is typically capped at 70% of your currently salary, or else there is little incentive to return to work. Sometimes, employers will offer employees the ability to “buy” their benefit and/or increase their disability payout.
If the employer is paying (and deducting) the disability premiums, the benefit is taxable to the employee. If the employee is paying the premium, sometimes they have the ability to choose whether they would like to pay the premium with pre-tax or after-tax dollars. If you pay with pre-tax dollars, your benefit will be taxable to you when you receive it. If you pay with post-tax dollars, your benefit will not be taxable when you receive it. We normally recommend paying the premium after-tax, because in the event that you are disabled and are receiving a reduced income, you won’t have to pay taxes and further reduce your income.
It is important to remember that there is generally a waiting period between the time you become disabled and the time your benefits will begin. This waiting period can be anywhere from 7-180 days depending on the policy. Generally, you will see shorter waiting periods for short term disability policies, and longer waiting periods for long term disability policies. Employer plans typically have a 7-day elimination period so the worker does not receive a benefit in their first week. Then short-term disability will provide the benefit for 90 or 180 days, and then the long-term disability begins immediately thereafter.
Many employers offer their employees a 401(k) plan, which allows employees to contribute to a tax-advantaged account to save for retirement. In 2023, the contribution limits are $22,500 and an additional catch-up contribution of $7,500 for those age 50 and older. All companies are required to provide and maintain a Summary Plan Description (SPD) for the retirement plan. The SPD provides all the rules of the plan, such as eligibility for loans and withdrawals, features such as availability of Roth 401(k), and the company’s rules for match, profit sharing, and vesting.
401(k) Match & Profit Sharing
Many employers will also match contributions up to a percentage of your salary, and it can be important to take advantage of this, as it is essentially free money. While the employer match is a common practice, some employers will choose profit sharing as it offers an additional incentive to employees. Essentially, an employer will set aside a certain number of pre-tax profits to be contributed to the employees’ 401(k) plans.
Typically, employer contributions to your 401(k) will be on a vesting schedule. Each year you work for them, a percentage of their contributions will become “vested”. When their contributions are “vested”, the money becomes yours if you terminate employment. If not vested, that money is returned to the employer after you leave. Keep in mind that any contributions you make are immediately vested and you will be able to take that with you regardless of your time with the company.
Questions About Your Benefits? Contact US!
As you can see, there is a vast number of employee benefits, and at times, it can be confusing to navigate and decide what is best for your personal situation. If you have any questions or are unsure about which options are best for you, please reach out to Menninger & Associates, Inc. at 610-422-3773 or visit our website at www.maaplanning.com.
This material was created for educational and informational purposes only and is not intended as ERISA, tax, legal or investment advice. If you are seeking investment advice specific to your needs, such advice services must be obtained on your own separate from this educational material.
Examples are hypothetical and for illustrative purposes only. Your benefits will vary.
This article is intended to assist in educating you about insurance generally and not to provide personal service. They may not take into account your personal characteristics such as budget, assets, risk tolerance, family situation or activities which may affect the type of insurance that would be right for you. Guarantees are based on the claims paying ability of the issuing company.
Securities and advisory services offered through LPL Financial, a registered investment advisor. Member FINRA/SIPC.