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Producer Connection is Standard Insurance Company's bi-monthly online newsletter for Employee Benefits producers.
Let us know what you think of Producer Connection and how we can make it better.
Q: If a group LTD plan is converted from employer-paid to employee-paid so that the benefit is received tax-free, are there any stipulations? I have heard that if a plan converts there is a three-year time frame applicable. For example, if the plan converts 1/1/05 to employee-paid and a person goes on claim in February 2006, only 1/3 of the benefit would be tax-free because the three-year period has not been met.
A: What you're referring to is called the three-year averaging principle, which the IRS said in a 2001 clarification is only used with contributory payment plans when the cost of the group insurance premium is shared by the employer and the employee and when the percentage paid by each changes over time. So, if the employer pays the entire premium in year one and the employee pays the entire premium with post-tax dollars in years two and beyond, the three-year averaging principle does not apply (because the premium cost is not shared) and the entire benefit is tax-free to the employee who goes on claim in year two or later.
On the other hand, if the employer and employee each paid 50% of the premium in year one and the employer only paid 30% of the premium in years two and three, the three-year averaging principle would apply as indicated in the chart above.
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