Seeking Security
Chapter 12
Employer-Sponsored Insurance Benefits
At one time, many people employed by larger companies had employer-sponsored insurance benefits; today that is much less likely as costs of providing insurance benefits soared. Employer benefits bring up visions of health care, but they also include retirement plans, such as profit sharing and 401(k) plans. Employees that have the opportunity to utilize company-sponsored benefit plans often neglect to take advantage of them. This is unfortunate since companies will often match or partially match employee retirement contributions.
Group medical insurance includes major medical, long-term care insurance coverage, indemnity plans, and dental coverage. Other types of group insurance might include life, disability and even some types of property and casualty coverage. Typically, group insurance is considered to be provided by an employer, although that is not necessarily the case. Not all company-sponsored insurance plans pay for the entire cost of the group membership premium; the member may pay part or even all of their premium costs.
Many companies offer benefits that are desirable in estate and retirement planning, such as 401(k) plans. These are the benefits, of course, that will concern the field agent assisting the consumer with their future income needs.
Funeral Benefits
Many benefits that were available ten years ago no longer are. One that is often cut is funeral benefits. These cover funeral arrangements up to a specified amount. That amount might be based on a number of things, including time with the company, rate of pay, and total monthly hours worked. Some of the benefits may be taxable to the employee.
Dental Insurance
Most people covered by dental insurance receive their coverage through employment. Few people have individual dental insurance. Dental insurance is one of the most sought-after benefits, with union negotiators often requesting it. Generally, it is a tax deduction for the employer and non-taxable to the employee.
The benefits actually received will vary with the plan offered. Some of the dental programs are more preventative in nature, while others offer a full array of services. Usually, the plans cover a percentage of the services received; 80 percent is common. The employee pays the remaining percentage and any deductibles that apply. The total amount paid out per person may also have a limit. Expensive services, such as orthodontia and cosmetic treatments may be limited or even excluded.
Disability Income Benefits
Although many workers do not realize it, disability income protection is a real value. If the employer does not offer it, the employee should seek it out on their own through an individual policy. When disability is offered in cafeteria plans, statistics show that disability is one of the last benefits selected. When it is provided by the employer, the quantity of benefits allowed may not be sufficient, but it is a start. Where coverage is inadequate, the employee should speak to his or her agent about supplementing it.
It should be noted that benefits supplied through the employer's policy will be considered taxable income. Disability benefits received from a private policy paid for by the policyowner will not be considered taxable income. Therefore, with cafeteria plans, it may actually be wise to select some other benefit and pay for the disability insurance personally.
Life Insurance
Life insurance is a common benefit offered by employers. Group contracts often limit the amount and type available, however. When it is provided under a group policy, it is not taxed to the employee. There are limitations, so at some point, the benefits could become taxable.
Employer provided life insurance is seldom adequate for a young family. Therefore, it is only a starting point. The family should still supplement the employer-offered plan. In addition, life insurance offered through work does not look at the individual needs of the family; there is no personalization. Any long-range planning must be done on an individual basis. Many of the group life insurance plans can be converted to private policies if the employee leaves the group offering the life insurance. Generally, this is offered without proof of insurability.
Medical Insurance
There was a time when most medical insurance was obtained through an employer, often at a reduced rate when compared to available individual coverage. Of course, individual insurance policies were available, but the cost was often too high for many people to afford.
With the passage of the Patient Protection and Affordable Care Act and the passage of The Health Care and Education Reconciliation Act of 2010 individuals acquired more options than previously available.
Some companies might still offer other benefits beyond what the Affordable Care Act provides. These might include mental health services including drug and alcohol rehabilitation, retirement planning services, and profit-sharing plans. Even such things as company-paid parking is a company-sponsored benefit (and may be considered as ‘income’ by the Internal Revenue Service). What workers must realize is that every benefit offered costs the employer something. For every dollar going into company sponsored benefits, one less dollar is available to go towards salaries. In the future, employees will be increasingly expected to make financial choices.
For individuals that do not have medical insurance, the threat of illness is a serious matter. In the United States 62 percent of personal bankruptcies resulted from medical impoverishment. Although many people disagreed with the federal health care plan put in place by President Obama’s administration, there was little doubt that something had to be done to help the under-insured and uninsured citizens of our nation. We have seen the next administration, under President Trump, attempt to cancel out the Affordable Care act, at least in part. There still seems to be little agreement on healthcare. We spend a greater portion of total yearly income on health care than any United Nations member state except for one, yet the actual use of health care services in the U.S., by most health care measures, was below the median among the world’s developed countries.
Millions of Americans had only limited insurance protection. If catastrophic illness or injury happened, they had very little insurance protection. In other words, many people had some type or form of health insurance, but not enough to prevent financial disaster if a major illness or injury occurred. Some people held jobs simply to participate in the health care benefits offered.
Many of our nation's working poor were not given access to group medical policies; their employers simply did not offer health care benefits. More than 75 percent of the uninsured under the age of 65 in the United States were employed persons or dependents of employed persons. They were not the unemployed, as many people believed.
The cost of medical care forced insurance premiums so high that millions of United States’ citizens carried no insurance at all. As a result, our nation's hospital emergency rooms were often a last resort for illness and injuries that could have been treated far more easily at an earlier time if a doctor had been consulted at the onset of the condition. As insurance costs continued to escalate, more and more people were priced out of health care even when premiums were partially paid by their employers. While we may not completely agree with President Obama’s health care program, it provides coverage options for millions of Americans who previously did not have any.
This chapter will not cover the Affordable Care Act since it is a massive program that is currently seeing many changes, but there is plenty of information available for any person who wishes to access it. Simply going online and entering the Patient Protection and Affordable Care Act will bring up all the information necessary to form an informed opinion regarding it.
Characteristics of Group Insurance
There are three general characteristics of group insurance:
1. A group contact,
2. Experience rating, and
3. Group underwriting.
Today's industry may label a contract or certificate of insurance a ‘group policies’ without actually incorporating all three general characteristics. For instance, many so-called group plans are underwritten individually, which takes away one of the major advantages of typical group coverage (group underwriting). In fact, the only characteristic individually written group plans have in common with the typical group policy is that they bill for all employees on one billing notice. This is likely the least valuable point of group insurances. The group underwriting is normally considered to be the most important point, especially if older employees are involved.
To evaluate the characteristics individually, let us first consider the group contract. The contract (for insurance) is between the policyholder (employer) and the insurance company. It is most important to remember that the contract is not with the employees who are insured. The contract is with the employer who negotiates the insurance contract for the employees. The employees are third-party beneficiaries.
The master contract defines the contractual relationship between the employer and the insurance company. It is this contract that is the point of negotiation between the employer and the insurance company.
The Certificate of Insurance is what the employee receives as evidence that they have medical coverage. It is not a contract in itself, but rather, a description of the coverage that is provided. This may also be called the Certificate of Insurability.
A Certificate of Insurance must not differ materially from the master contract.
The period of eligibility relates to the employee's eligibility requirements, which may vary among companies. It may begin after the inception of the group contract and/or end with its termination. Individual insurance, on the other hand, is not tied to a person being employed with any particular company. This can be an advantage if certain health conditions develop, which may cause an interruption in employment.
Experience rating has to do with the actual claims experience of the group to be covered. That claims history helps to determine the premiums that will be paid by large groups.
In small groups, as with individuals, class basis is normally used to determine what the company's losses could be. For precise definitions, refer to the list of definitions at the end of this course.
Group underwriting, when the group is large enough, is a tremendous benefit to those employees and their dependents that have existing health conditions. Under group underwriting, the insurance company accepts the insureds as a group. That is, no evidence of individual insurability is required of any employee who is initially eligible for coverage.
Group underwriting minimizes adverse selection. Those persons who most need insurance (due to the likeliness of incurring claims) will probably not be denied coverage. Yet there will also be healthy persons enrolled, which gives a profitable mixture for the insurance company. Mass protection does also cut down on administrative costs, since the entire group is on one billing.
Although group underwriting will vary from company to company, there are some basic considerations that are typically used:
1. The stability of the group. That is, what is the average turnover of employees? A high turnover increases the cost of administering the plan because the people on the group billing continually change. On the other hand, a lower-than-normal turnover may mean a high number of older-age employees. Older age employees generally are more prone to medical problems.
2. The composition of the group. That is, the make-up of the group itself. This involves many things, including age, gender, and income.
Older ages tend to be more expensive (experience higher claim activity) than younger ages. Females have lower death rates, but higher occurrences of illness and disability than do males. As for the income levels, lower paid positions routinely have a higher turnover rate. Administratively, that becomes an expense. On the other hand, high-income employees tend to seek out the most expensive specialized medical care.
3. The reason for the group's existence. On the surface, which may seem like an odd consideration for group underwriting. The point here, however, is that the group cannot have been formed simply to qualify for group coverage. This would surely be done, if it were possible, because the members of the group had health problems that were likely to be difficult or expensive to insure. Cancer patients, for example, might join together to form a group. Their sole purpose would be to qualify for group insurance.
4. Administration of the plan. The employer will be required to carry out portions of administering the plan. Typically, that includes such things as notifying employees of plan details, record keeping, and collecting the employee's part of the premiums.
5. Persistency of the group. The insurance company wants to be sure that the employer is able to manage the cost financially. To put a group plan into effect only to have the employer unable to sustain the program is a waste of both time and money for the insurance agent and his or her company.
6. Experience of the group. This refers to the claims experience of the group. Obviously, a group that shows a quantity of claims or unusually expensive claims will pay a higher premium, if they are accepted at all.
7. Method of determining benefits. Benefit levels are typically set by a specific formula so that all employees have identical coverage or benefits.
8. Eligibility determination. Normally a standard is set to determine which employees qualify for the group coverage. This includes the number of hours that must be worked each week to qualify for the plan. A "probationary period" is established to determine how much time must have been served with the company providing the group benefits.
9. Location of the group. Medical expenses tend to vary with the location of service. For example, costs tend to be lower in the South and higher in the Northeast.
10. The source or method of the premium payment. Underwriters prefer plans in which the employer pays the entire bill (noncontributory plans). Since every employee is eligible, adverse selection is minimized. If the individual employees pay part of the premium, it is possible that those with health problems may be more likely to sign on, bringing in higher claims experience as a result.
11. Industry represented by the group. It is not surprising that some occupations are considered to be high risk. Those occupations that do experience more risk will be charged higher rates.
12. Size of the group. Large groups are preferred. In relation to premium, larger groups have lower administration costs.
Group Plan Incentives
Employee benefit plans were popular at one time, but just because medical coverage is changing does not mean that group coverage will disappear since other types also utilize the group contract (disability for example). It is not unusual for group benefits to be part of labor contract negotiations.
There are three primary reasons for using employee benefit plans:
1. To improve industrial relations,
2. To meet union demands, and
3. To satisfy the desire of employees and to allow key employees the ability to provide for their own insurance and retirement needs at a reasonable cost.
It is the contention that employee benefit plans enable employers to attract better and more qualified employees, reduce costly employee turnover and improve employee morale and, therefore, also improve employee efficiency. While there are no firm studies to necessarily prove these points, they are generally assumed to be true.
Since 1948, when the National Labor Relations Board ruled that insurance and pensions were subject to collective bargaining, these benefits have been important union demands. These demands are a main reason why employers have such plans.
There are mass-marketed insurance plans that are quasi-group plans insuring a number of people with individual policies. Usually, these plans are either salary allotment plans with individual underwriting, or money-purchase plans with simplified underwriting. Instead of using a group contract, the employer offers employees individual insurance on a payroll-deduction basis.
Each employee determines their own amount of coverage, as long as it is within the insurer limits. Since payroll-deduction is used, as previously stated, the employer withholds the premiums from the employee's paychecks and then turns the money over to the insurance company.
If the employee changes jobs, he, or she can usually keep the insurance simply by continuing to pay the premiums. It should be noted that those premiums may not necessarily be the same, depending upon the original contract agreements.
The salary allotment plans tend to appeal to higher paid employees, while lower paid employees tend to favor money-purchase plans. Young employees are able to buy large amounts of coverage at a small cost.
History of Group Health Insurance
Group health insurance contracts developed independently without special legislation. Insurers had to comply only with the general statues relating to insurance until the year 1937, when Illinois enacted the first state group insurance law.
The Model Bills of the Health Insurance Association of America (called HIAA) and the National Association of Insurance Commissioners (called NAIC) served as the basis for state group health legislation. These laws included a definition of group health insurance and several standard policy provisions.
The HIAA definition designated no minimum number for a group, whereas the NAIC bill required 25 lives be included. Many states required minimums less than the NAIC standards. In the remaining states, insurers were allowed to set the minimum number of lives themselves. The HIAA bill had no minimum participation requirement for contributory plans and 100 percent participation for noncontributory plans.
The groups that were eligible had far less restrictions than those for group life insurance. The HIAA bill required any organization eligible for group life also be eligible for group health insurance and eligibility extended to any association organized for purposes other than obtaining insurance. As previously stated, a group did not qualify if it was organized solely for the purpose of obtaining group health insurance. The group health insurance definitions were sufficiently broad enough to include dependents' coverage. No group health policy could name the employer or association as beneficiary.
Insurers had greater freedom when writing group health than they did group life because insurance agents did not lobby for restrictions on group health coverage. The public's interest in health insurance was lacking when group health insurance was first introduced, so agents representing medical plans did nothing to protect this small segment in the marketplace. Major health insurance competition developed from organizations similar to Blue Cross and Blue Shield operating on the group principle. Insurers believed this competition could be met by developing competitive group contracts.
The HIAA bill contained only three standard provisions for group health insurance:
1. No statement made could have voided the insurance unless made in writing, and these statements were interpreted as representations.
2. Group members were required to receive a summary statement of coverage.
3. Eligible new members or dependents could be added to the group in accordance with policy terms.
Standard provisions of some sort were required in the majority of the states. Some states required a provision stating conditions under which the insurer could decline to renew the policy.
Group health insurance contracts differed from individual contracts in several ways, including:
1. Group health contracts usually covered off-the-job accidents only; on-the-job injuries were meant to be covered by workers' compensation insurance. Occupational sicknesses usually were not covered if covered under the state workers' compensation law. Some employers included coverage for on-the-job accidents and occupational illnesses in amounts sufficient to equalize on-the-job with off-the-job benefits.
2. State laws require uniform provisions in individual health policies, but not in group health policies. Many uniform provisions related to loss adjustment and, therefore, did not apply to group coverages.
3. The prorating clause for benefits received from other insurance was omitted in group contracts. Instead, a coordination of benefits clause was often included to reduce excessive payments. These clauses, known as anti-duplication clauses, restricted benefits payable to employees by other group policies. It was not unusual for working husbands and working wives to be covered under separate group policies from their respective employers. When a working couple were both covered under their own employer's contract and, as spouses, under each other's insurance as well, the coverage afforded spouses was treated as excess to be applied after the primary coverage had been exhausted.
Just as with group life insurance, there were different types of health coverage, too. Coverage written under group policies included such things as:
1. Disability income;
2. Accidental death and dismemberment;
3. Hospital daily indemnity plans;
4. Hospital expense plans, where benefits were paid according to a set schedule of benefits rather than a "per day" schedule;
5. Medical/surgical expense plans;
6. Long-term care nursing home benefits and, in some cases, home health care provisions;
7. Dread disease policies;
8. Dental coverage and vision care; and
9. Major medical benefits, including prescription drugs (pre-Affordable Care Act).
Some types of insurance were written almost entirely on a group basis (such as dental coverage) while others seldom were. Prior to the Affordable Care Act, group medical insurance accounted for about 95 percent of all benefits written, 99.5 percent of the dental benefits written, and 99.5 percent of the vision coverage written. The impetus for the development of the latter two coverages (dental and vision) came from employers' views that good dental care and vision contributed to working efficiency and from unions that felt no medical care protection was adequate without these added benefits.
Many disability income benefits expanded to treat pregnancy as a temporary disability. Not all agreed with this concept; insurers argued that pregnancy differs from illness because it is a condition affecting only women and is assumed to be voluntary, or at the very least, preventable. However, the courts ruled that:
1. Exclusion of pregnancy from disability plans discriminated against women, and
2. “Voluntarism is no basis to justify disparate treatment of pregnancy.”
It is difficult to generalize about the costs of group health insurance since there are so many factors affecting it. Competition has always been keen, and each company determines their own risks and associated premium rates. Even initial rates are sometimes misleading. The net cost after dividends or rate credits is an important consideration. Initial rates vary with age distribution, occupations covered, proportion of females in the group (women have roughly twice as much time loss through sickness as men do), variations in medical care costs in different localities, and the earning levels of individual members. High income people tend to demand higher priced services and may be charged more than low-income people for the same service.
Self-Insured Plans
Some employers use self-insuring group plans. Lately, many cities are doing this to save premiums. Self-insured plans are totally self-funded. Benefits are paid not from insurance companies, but rather from current revenues or a trust to which periodic payments have been made precisely for this purpose.
There are many opposing forces when it comes to self-insuring. Self-insurance advocates lobbied to preserve their self-insurance options, while unions were lobbying to eliminate self-insurance entirely. There are also opposing views of the qualifying numbers of workers in the self-insurance groups. For example, Sean Sullivan, president of the National Business Coalition on Health (based in Washington, D.C.) favored setting the minimum size for self-insurance between 100 and 300 workers.
Self-insurance has only become widely used during the last thirty years. It permitted firms to escape paying state insurance-premium taxes and exempted them from state-mandated benefit laws (some of which seemed foolish to everyone, except those states which mandated them). Self-insurance also gave the employer more control over the plan design.
In 1992, 80 percent of the companies with more than 1,000 workers had gone to self-insurance, according to Foster Higgins, a nationwide consulting firm. Even small companies have, however, gone to some form of self-insurance in increasing quantities. A 1992 survey of businesses that process claims for self-insured companies found that more than 20,000 small, self-insured companies with fewer than 100 workers were participating in self-insured programs.
Today many small companies that once felt self-insurance allowed them to offer their employees medical coverage may no longer be doing so, stating cost as the reason. Where it was once considered a way of attracting and keeping valuable employees, today companies state they cannot compete nationally and still pay the continually rising health care costs of their employees.
Combination plans combine traditional and self-funded plans. Typically, they are set up on a stop-loss basis or as minimum premium plans.
Specific Eligible Groups
The type of group coming together for insurance is important because insurance companies do not want to accept undue risks. If people formed a group merely to obtain insurance, it would be likely that existing health conditions were a consideration. In other words, existing health conditions either existed at the time of formation or were expected to develop. Therefore, the group insured must have some common purpose other than that of obtaining insurance.
As for size, the group must be large enough to reduce the possibility of adverse selection and to achieve economies of group administration. The larger the group, the less likely it is that the principle motive was to obtain coverage for those who would otherwise be potentially uninsurable. With the passage of the Affordable Care Act, insurability lost its prominence, but prior to that legislation, it was a major consideration.
The most common eligible groups were individual employer groups. They might have been a corporation, a partnership, or a sole proprietorship. The coverage written was for active employees, retired employees, and/or employees of subsidiary and affiliated firms. Partners and proprietors were also eligible for coverage as long as they were actively involved in the conduct of the organization.
Another type of eligible groups was negotiated trusteeships. These were formed to provide benefits to union members as a result of bargaining between union members and employers of the union members. These negotiated trusteeships are often called Taft-Hartley Trusts.
The Taft-Hartley Act prohibits the payment of group insurance funds from the employer to the labor union but does permit the establishment of trust funds from which insurance coverage may be purchased. Negotiated trusteeships are unique in their methods of financing benefits and determining eligibility for those benefits. Employers contribute funds based on the number of hours worked by the union members who are covered by the collective-bargaining agreement. Eligibility for the benefits is based on a minimum number of hours worked during a certain defined period of time. Negotiated trusteeships typically provide benefits for employees of several employers, although that is not necessarily a requirement.
Trade associations may also form eligible groups for the purpose of insurance. A trade association is considered to be an association of employers, often with similar businesses, formed for reasons other than obtaining insurance. Most states require that they form a trust into which premiums are paid. Most insurance companies require that a minimum number of employers in the association must participate in the insurance plan in order to avoid adverse selection and to keep the administrative costs down. There may also be a requirement that a minimum number of employees be covered by the plan, as well.
Labor unions are also a common type of eligible groups. These groups cover their union memberships. The master contract is issued to the union itself. State laws tend to prohibit union members from paying the entire costs directly; premiums come from union funds or a combination of union funds and member contributions.
Multiple-Employer Trusts (commonly referred to as METs) are legal entities in the form of trusts organized to provide group benefits to participants. METs are sponsored by an insurance company, an independent administrator, or some other person or organization. An employer wishing to obtain MET coverage must subscribe by becoming a member of the trust. The trust issues a joiner agreement, which defines the relationship between the trust and the employer and specifies coverages to which the employer has subscribed. There are three types of Multiple-Employer Trusts:
1. Fully insured METs which are administered by the insurance company,
2. Insured third party administered METs, and
3. Self-funded METs, which are administered by a third party.
There are other types of eligible groups for group insurance. These groups may vary from state to state, depending upon that state's individual regulations. These groups include such things as professional associations, veterans' groups, saving account depositors, alumni associations, and broadly defined social groups. Size regulations may vary according to the type of group and their personal state's regulations.
Types of Medical Plans
With the passage of President Obama’s Affordable Care Act, businesses became increasingly involved in providing health care options for their workers. The IRS released information on the Small Employer Tax Credit regarding the Health Care Bill. Eligibility rules existed for the tax credit, although many people correctly predicted there would be changes made over the following years. At the time of passage, the following applied:
1. A qualifying employer had to cover at least 50 percent of the cost of the coverage for their workers.
2. For it to apply, the employer must have had fewer than the equivalent of 25 full-time employees.
3. The employer must have paid an average annual wage that was below the specified amount.
4. Both companies that operated for profit and those that were tax-exempt qualified.
Amount of Credit:
1. Originally, the maximum amount of the credit was worth up to 35 percent of a small business’ premium costs in 2010. In 2014 the rate increased to 50 percent of employer paid premiums or 35 percent for tax-exempt employers.
2. There was a phase out: the credit phased out gradually for firms with average wages between $25,800 and $51,600, but those amounts were adjusted annually for inflation.
3. Generally, small employers were required to purchase a Qualified Health Plan from a Small Business Health Options Program Marketplace to be eligible to claim the credit. Transition relief from this requirement were available to certain small employers.
If a credit was available, but not taken in the year taxes were paid, it was possible to amend their tax filings to claim the credits from prior years.
Seasonal workers were generally not considered when qualifying for the business health care tax credit. Business owners who were sole proprietors, partners in a partnership, shareholders owning at least two percent of an S corporation, and any owner of more than five percent of other businesses, or workers that were qualified real estate agents or direct sellers generally did not qualify as an employee of the business for tax credit purposes.
There is no doubt that group health insurance saw changes under the new health care reform. Currently fully insured plans are those in which the employer agrees to fully cover the premium to a given carrier for medical coverage for their employees and their covered dependents. These plans typically use deductibles, coinsurance, and stop-losses. Generally, the workers may go to any health care provider they wish.
Many companies carried self-insured plans prior to the Affordable Care Act. Self-insured programs are not all alike. Just as there are several types of fully insured plans, there are also several types of self-insured plans. Many people believe that a self-insured medical plan requires the employer to completely administer medical coverage in-house or through a Third-Party Administrator (TPA). Many people also mistakenly believe that the employer must fully fund all medical expenses with an optional stop-loss policy should there be a catastrophic claim. While this is one possible design, it is not the only design available. There may actually be three different approaches to self-insured plans:
1. Contracting for services with a self-insured program.
2. Funding arrangements.
3. Third-party administration.
The first one, contracting for services with a self-insured program, is a partially self-insured plan which enables the employer to pay a minimum premium and hold the reserves internally. It also collects the interest accruing from the reserves. The employer, under this plan, can contract with a carrier to provide specific coverage which may, for instance, be a traditional indemnity, a PPO, an EPO, or an HMO, or any effective combination. The employer pays a minimum premium to the carrier and also a retention fee.
The employer maintains three benefit accounts:
1. One for retention,
2. One for medical claims, and
3. One for reserves.
Each of these accounts must be funded separately.
Under the funding arrangement, the employer can hold the interest, using the income for any variety of purposes. When examining a self-insured plan, an employer will want to determine who will receive the interest under the funding agreement, rewriting that agreement, if necessary.
The self-insured minimum premium program looks much like the fully insured program. The primary difference is in the employer's level of liability. Often the carrier who is supplying services under this plan can, and does, pay for a stop-loss policy for the company, to cover claims which exceed a specific amount. These stop-loss provisions serve to lower the risk of any one program. If, however, the reserves are high enough to cover catastrophic claims, then the stop-loss policy may not be needed and will not be purchased. Again, the following year's premiums will depend upon the experience of the group, along with the amount needed to cover retention, reserves and trend.
Third-party administration is often seen. When using a fully self-insured plan, the employer can contract with a third-party administrator, called TPA, to pay claims and to purchase stop-loss coverage if one is needed. The employer (business) holds the reserves and pays the administrator for the medical expenses, plus any administrative costs. There will be regular administrative costs with this type of plan because claims are filed directly with the TPA (third-party administrator). Typically, the administrative costs will run between six and ten percent of the premium payments. The exact amount will depend upon the type of stop-loss coverage provided and the type of reports that are requested of the TPA by the employer.
In-house Administration is another type of fully self-insured program. The employer fully administers the medical benefits program in-house (hence, the name). There are no costs of administrative fees to a TPA or other carrier. The employer hires any personnel needed to process and pay claims or prepares required reports. The employer may purchase a stop-loss policy to protect him or herself against catastrophic illness or for claims that run over a specified dollar amount.
There has been a common misconception that being self-insured will save the employer a lot of money over time. This is not necessarily true; perhaps even seldom true. That is because all the costs of running the plan (administration costs, reports, personnel to manage the claims and make out the checks, plus other expenses) are paid by the employer who is self-insured. Some employers have gotten themselves in trouble by not holding back enough cash reserves to manage the claims incurred. There may be a sudden increase in claims, or simply a delay in filing large numbers of claims, which catch the employer unprepared. These costs can, and do, affect the overall operating expenses of the business.
For the past decade, employers were burdened by continually rising medical costs. As a result, businesses began asking their employees to pay not only part of their medical bills, but also part or all of the insurance costs. Only time will tell whether the Affordable Care Act frees up costs for companies, allowing them to grow, opening up to increased hiring. Whether that happens or not, it is likely that Americans who never could afford health care will now be receiving it.
That brings up an entirely new problem: lack of sufficient health care workers. There is little doubt that the case load doctors, nurses, and hospitals experience will increase. We may see government-sponsored programs to draw citizens into the health care profession, such as grants and tax incentives. Whatever avenue is taken, it seems clear that there will be a shortage of professionals in the health care field.
Health Maintenance Organizations (HMOs)
Many group medical plans use Health Maintenance Organizations for their employees. These plans are referred to as HMOs. Since most HMOs are community-rated plans, it is difficult to determine the true cost for a specific business that belongs to the plan. Therefore, it is difficult to determine the actual amounts of money that the employees are costing the individual employer.
Some areas have had very successful HMOs in their area, in terms of financial stability. Other parts of the United States have had some disastrous situations arise when multiple HMOs failed financially. This sometimes happens because HMOs can be hit with adverse selection. It is ironic that opposing sides argue both points. Some (on each side) say that healthier employees will select an HMO when both traditional indemnity plans and HMOs are offered side-by-side by their employer. Others argue that the opposite is true; the healthy employees will select the indemnity plan. The argument goes that less healthy people will prefer indemnity plans where they can select their own medical care and providers of that care. This then drives up the price of the indemnity plans which places the cost of rising premiums on the employer who may then possibly cancel the entire group plan (due to financial considerations or stress).
On the other hand, however, advocates of HMOs argue that if adverse selection were truly an issue, it would affect the HMOs rather than the indemnity plans, since HMOs often offer more services for the money spent. Therefore, say these advocates, the sicker, or potentially sicker, individuals would actually tend to select an HMO, even though specified doctors and hospitals must be used by the employee (the patient).
Managed-care organizations do pay special attention to conserving or managing funds. This does not necessarily mean lesser care. Often managed care organizations actually offer more services than other group plans. Preventative care is usually stressed as a way of keeping costs under control.
When it comes to managed-care organizations, virtually every study that has looked at the quality of treatment has found that their care is as good as, sometimes even better than, treatment received outside of the managed-care programs. However, it should be pointed out that these surveys do deal with averages. There is little doubt that some of the managed-care programs have not given the level of care that one should expect. Certainly, each consumer must investigate such things before joining the HMO.
There are three types of HMOs:
1. Those that include a large number of doctors, who are a part of an Independent Physician's Association (IPA) model,
2. Those that are part of a clinic, and
3. Those that are part of a large organization providing only HMO services.
Many companies are moving towards managed care plans because of the reduced premiums they offer over the traditional fee-for-service plans. There are many fine companies available and generally those enrolled in them report satisfaction.
When an employer is mandated to add an HMO option to the existing medical benefits program, it is often easiest to use the HMO plan of the existing medical carrier if it has one. This will allow the adverse selection to be spread across both plans. It is wise to price the HMO as high in price as possible, under governing regulations, in order to offset any adverse impact. It is most important to look at what steps the HMO has taken to remain financially solvent since it is a great deal of trouble and expense for the business to implement any medical benefit plan. To have one go under only causes additional time and cost to both the business and the agent who invested his or her own time. It needs to be understood that an HMO is an option; this does not mean that the employees must take that particular benefit plan. In fact, any particular HMO may have several options available within it.
Although most HMOs are community-rated, federally qualified HMOs are now generally able to provide a combination of community and experience ratings for employers. This allows the employer to get a better idea of what his or her particular costs are, in relation to his employee use of the plan. This allows the employer to develop some control over the cost of the HMO premium. Even though the HMO approach to medical services appeals to many consumers, there is still the feeling that any benefit offered should have its costs reflected in the premium paid. In other words, businesses want to know how their employees' use of the plan is affecting the premium paid.
It should be noted that HMO plans do vary. Some offer first dollar coverage (at a higher cost, of course), while others have deductibles and copayments.
Model Group Life Insurance
The model group life definition of the NAIC limits the groups eligible for life insurance including, among others, employees of single employers, multiple-employer groups, labor union groups and debtors of common creditor. In addition to those prescribed by the model definition, other groups have been made eligible in various states, such as associations, the state police department, full-time veterans, credit unions, and certain cooperatives.
The definition prescribes the minimum lives to be covered as 10 employees of a single employer, 100 for multiple-employee groups, 25 for labor unions and at least 100 new entrants a year for creditors' groups. Many states have no minimum requirements at all.
Every state provides for the regulation of provisions in an insurance policy. These are usually called Contractual Provisions. These provisions may be changed only for the benefit of the policyholder. The NAIC Model Code pertaining to policy provisions has given a widespread regularity among group life insurance policies from company to company and even from state to state.
The NAIC requirements are in the master contract and usually contain:
1. A grace period of 31 days for payment of premiums.
2. The incontestability of the master policy after one or two years from the date of issue, and incontestability of the insurance on any employee's life two years after the effective date of coverage.
3. The application, if applicable, is to be attached to the policy.
4. The participants' statements shall be representations.
5. The conditions under which insurers may require evidence of insurability. Normally, evidence of insurability may be required if the employee does not join the plan within a designated period of time after becoming eligible to join. This period is often 31 days.
6. The handling of age misstatement. Participants in a group life program usually pay the same premium per $1,000 of coverage, so the custom is to adjust the premium rather than the benefit. The benefit is adjusted only in plans where the benefit formula is based on age.
7. A Facility-of-Payment Clause allowing the insurer to pay the policy proceeds to a surviving close relative or relatives or the employee's executors in the event that no named beneficiary is living at the time of the participant’s death.
8. A clause requiring issuance of participation certificates to employees. These state the insurance benefits, as well as the beneficiary’s and the participant's rights should employment cease or the group contract terminate.
9. A clause allowing the participant, upon withdrawal from the group, to convert the coverage to individual insurance of any type, except term, without evidence of insurability. The conversion time limit is 31 days.
10. A clause requiring that if the master policy is terminated, every person insured for at least five years under the group contract, is entitled to convert up to $2,000 within 31 days, without furnishing evidence of insurability. The 31-day extended death benefit also applies under this provision.
11. Master policies written on other than a term basis, must contain equitable non-forfeitable provisions.
Some states limit the amount of coverage provided to groups other than the individual employer groups. Most states limit the amount of life insurance coverage provided to dependents as well.
Because a group insurance contract often provides benefits to men and women living in several different states, which state has regulatory jurisdiction over the contract can become an important question. Generally, the state to which the group insurance contract was delivered (to the policy owner) will have governing jurisdiction. That means that the contract must meet and conform only to the laws and the regulations of that particular state. Therefore, employees in the other states may find that their medical coverage does not necessarily have the qualities or benefits that their own state requires.
The term situs means the place to which the contract was delivered. In order to qualify as the situs, the following conditions must exist:
1. The state must be where the policy owner is incorporated or where the trust is created.
2. The location must be the policy owner’s principal office.
3. It must be the state with the greatest number of insured employees.
4. It must be the state where an employer or labor union participating in the trust is located.
There are several types of group insurance. Within each type of group insurance, there may also be sub-groups. In life insurance group plans, for example, there may be:
1. Dependents' coverage;
2. Group permanent plans;
3. Group credit insurance;
4. Wholesale life insurance.
As the name indicates, under dependents' coverage, group life is extended to employees' dependents to provide funds for such things as funeral expenses when a dependent dies. Some states forbid dependents' life coverage and, in those states where it is allowed, insurers generally will not write the coverage for small groups. The amount written is usually small; perhaps only $10,000 for the spouse with a smaller amount for any children. The younger the child, the lower the amount of insurance will be. When dependents are covered, all must be included under a noncontributory plan, and 75 percent of the employees must participate under a contributory plan. Premiums paid by employers for dependents' coverage is customarily written on an employee-pay-all basis. Only a small percentage (less than 10 percent) of the master policies includes dependents' coverage.
Under group permanent plans, at least a portion of group life protection is bought using whole life forms. A group with some paid-up life insurance guarantees at least some coverage for retired employees.
Typically, two principal types of group permanent plans are used:
The level-premium group permanent plan,
or
The unit purchase plan.
The level-premium plan was introduced in the year 1913 to fund pension plans. A 1950 adverse tax ruling made premiums paid by employers for permanent life insurance taxable income to the employee. Therefore, level-premium group permanent plans are rarely used.
The unit purchase plan, developed in 1941, combined employer-financed decreasing term insurance and employee-financed paid-up units of whole or universal life insurance.
All types of group insurance plans are subject to change, of course. This means that, as new products are developed, new concepts will also arise in the uses of those products. Therefore, any information given is always subject to change.
Wholesale life insurance is an adaptation of group insurance principles to cases ineligible for true group insurance. No master policy is used, and participants receive individual policies, issued after applications are approved. The insurer may reject an applicant failing to meet its standards for insurability. In a small group, even one or two substandard lives can lead to excessive mortality costs. As in group insurance, however, each participant's insurance amount is determined by a formula. Wholesale life insurance allows employers to give employees most of the group insurance advantages. Generally speaking, wholesale plans are written on a yearly renewable term basis.
Term insurance is often written for groups, as we previously stated. Generally, these are one-year renewable term insurance plans, issued to an employer, who is the policyowner, to cover his or her employees. Because these policies are term policies, this is death protection only. There is no buildup of any cash values. Term insurance tends to be most often written in groups rather than as individual policies. Group term contracts use an average group rate which remains stable or has only nominal increases. In contrast, individual term policies increase in premium costs as the insured gets older. Often, this cost becomes prohibitively expensive for individual term contracts, as the policyholder ages.
Term insurance contracts normally have a benefit schedule. This helps to eliminate the threat of adverse selection. It separates eligible employees into classes and sets the amount of coverage available to members of each class.
The way the employees are separated into classes usually uses several circumstances:
1. Their earnings: this may include base salaries with any bonuses or overtime pay not necessarily considered.
2. Position with the company: this is very often used when the employee's annual income may depend upon such things as a commission rate, performance bonuses, and so forth.
3. Flat-benefits schedules: in this case, all employees receive the same amount of coverage no matter what their positions or their earnings. This is generally used where hourly wage rates are paid to the employees. This is also used where only minimal coverage is given.
4. Length of service schedules: as the name indicates, the amount of coverage is simply based on the length of time the employee has put in with their company. This method is not widely used anymore.
5. Pension schedules: with this, the amount of coverage is based on the employee's projected pension at retirement. This may be determined with a formula, such as 100 times the monthly pension payable at normal retirement age. A maximum limit may be imposed.
6. Combination benefit schedules: just as the name states, a combination of different formulas are used to determine just what the benefit amount will be.
7. Reduction in benefits: this usually applies to a reduction in benefits (life insurance) when an active employee reaches a certain point or age, such as 65 years old, for example. It must be remembered, however, that the Age Discrimination in Employment Act prohibits discrimination against active employees over the age of 40. An employee cannot be singled out for a change in benefits. With reduction in benefits, usually the benefits reduce to either a reduction in a single, set amount of life insurance or are reduced by a percentage (perhaps 50 percent of the original amount, for example). Sometimes, benefits are gradually reduced over time to eventually reach a set minimum amount.
Beneficiary designations are always an important factor in any life insurance contract, whether that happens to be a group contract or an individual contract. Beneficiary designations need to always be kept current with current situations and desires reflected in the policy.
The insured person may choose the beneficiaries of his or her group life policy, in most cases. If the beneficiary designation is not irrevocable, the insured may also change the beneficiaries at any time simply by notifying the insurer, in writing, of the desired change.
There are some exceptions to this:
1. Credit life insurance where the creditor is the beneficiary since this covers the amount owed by the debtor.
2. Dependent life insurance since the employee is the beneficiary.
3. In some states, the employer may not be named as the beneficiary even if the employee wishes to.
If no beneficiary has been named, or if those beneficiaries who are named have predeceased the insured, then the benefit will be paid to the insured's estate. This is not generally the best setup, so it is desirable to keep beneficiary designations up to date.
Generally, a beneficiary must have an insurable interest in order to be accepted by the insurance company. An insurable interest is generally considered to be a spouse, children, grandchildren, parents, siblings, or persons with a direct insurable interest in the estate.
If the beneficiary is a minor or is physically and/or mentally incapable of giving a valid release to the insurer for the payment to be received, the insurer may pay death benefits in installments to the person or the institution responsible legally for the beneficiary's care and/or support.
Typically, settlement options in group life insurance plans are limited to one lump sum payment. There can, however, be four different settlement options:
1. Fixed period option: where benefits are paid in equal installments over a set period of time.
2. Fixed amount option: where benefits are paid in equal installments of a set amount until all the proceeds, plus any interest earned, are completely paid out.
3. Interest option: where the insurer deposits the proceeds and pays the interest earned to the beneficiary. Usually, the beneficiary can withdraw the proceeds at any time even if this option is selected.
4. Life income option: where the proceeds are paid in installments over the lifetime of the beneficiary. This is often an irrevocable settlement option, which means that once this settlement option is taken, it cannot be changed.
In a group life insurance contract, the premiums are the direct responsibility of the policyowner, which is the employer, even if the group plan is contributory. That means that even if the employees pay part of the cost, the employer is responsible for getting that premium to the insurance company. The employee's part of the premium is payable not to the insurance company, but rather to the employer. This is normally managed through payroll deductions. Each payday, the employee's part is deducted from his or her check before he or she receives it. The state may limit employee contributions to a monthly contribution of a set amount per thousand dollars of coverage, or to a percentage of the employee's premium rate, whichever is greater. For example, it may be limited to 60 cents per $1,000 of coverage or to 75 percent of the employee's premium rate. If such limitations exist, they will vary from state to state.
Dividends and/or experience refunds are refunded or paid to the policy owner in cash, or they may be used to reduce any premium currently due. Only if the amount exceeds the policyowner's share of the premium will refunds go to the employees to offset their payment amount or to increase benefits received.
After a contract has been in force for a stated period of time, usually two years, its validity cannot be contested except, of course, for non-payment of premiums. During the contestable period, the insurer may contest the contract only on the basis of material misrepresentations made by the policy owner in the application, or of statements made by those who are insured, regarding their insurability.
Misstatement of age is not considered a serious action, and generally does not revoke the policy. Rather, premiums and benefits are adjusted to reflect the correct age of the insured. Most often, it is the premium, rather than the benefits, which are adjusted. In other words, the premium would rise to reflect the correct age rather than lowering the death benefit. It would then be the employer's responsibility to pay any higher premium due. The employer may collect the higher premiums from the insured if it is a contributory plan.
Group Contract Termination
Group contracts may be terminated under some conditions. Obviously, non-payment of premiums would terminate the contract after the grace period had passed. The insurance company may also terminate the contract for failure to maintain a specified minimum level of participation. The insurance company would have to notify the employer (the policyowner) of the termination 31 days in advance. The policy owner may, of course, also terminate the contract simply by giving written notice to the insurance company or simply by failing to pay the required premiums.
Coverage for the employee will end when:
1. The employer (policyowner) terminates the contract.
2. The employee no longer works for the policyowner (the employer). It should be noted, however, that there are some legal rights due the employee which enables them to carry the benefits for a limited period of time.
3. The employee loses his or her eligibility, which will depend upon the terms of the contract. This may, for example, be because the employee went from full-time employment to part-time employment.
4. The employee does not make the required contribution. Since contributions are normally made through a payroll deduction, it would probably involve an unusual circumstance that would cause this to occur. It could be due to an illness or injury that interrupted the normal amount of time worked, or a temporary layoff. Sometimes the employer will continue the group life insurance in these situations, but it would be unusual for the contributions to be accepted for more than three months.
Disabled employees may have a waiver-of-premium provision in the policy. This would continue the coverage for disabled employees without payment of premium as long as the worker remains totally disabled. This would remain true even if the master contract were to be terminated for some reason. The term, totally disabled, can and often does vary from contract to contract. Usually, there are also other requirements that must be met in order to qualify for this waiver-of-premium clause. Possibly included are:
1. The disability must occur while the worker is covered under the master contract.
2. Often, the disability must happen before the worker has reached a specified age.
3. The employee must be totally disabled. As previously stated, this definition can and does vary from policy to policy. It means that the worker must be completely unable to perform any job which he or she is qualified to perform. That sounds like a simple definition, but it may not necessarily be. Therefore, the master policy needs to be completely examined for the exact qualifications of total disability.
4. The employee must file a claim within a set period of time following the injury and give annual evidence of continuing disability.
Policies may add additional benefits, such as accidental death and dismemberment benefits, survivor income benefits, or dependent life insurance.
Some of these additional benefits do carry exclusions. They will typically include war, suicide, and hazardous activities.
Pension Plans
Twenty years ago, most employed individuals expected retirement to bring a traditional pension that, along with Social Security income, provided a comfortable retirement lifestyle. Usually, their pension benefits rose according to years of service and how far they had moved up in the company. Seldom was their retirement vulnerable to changes in the stock market since funds were invested conservatively and safely and most importantly, underwritten by the employer through the use of defined benefit plans.
Today’s pensions are often underwritten by the employee rather than the employer. This means that the employee carries the risk rather than the employer - a very important difference. Defined benefit plans (DB) are being replaced by defined contribution (DC) plans; they shift the risk from the employer to the employee. That is not to say that DC plans cannot perform well, because they can, but it means that employees must be dedicated retirement savers and smart investors.
Most people feel that there should be a reward for staying with a single company and performing their job well and faithfully. Today only the Social Security system honors such work records, but only on a modest scale. Certainly not sufficiently to be relied upon as total retirement income.
Today few employees count on receiving a company-sponsored pension where the risk of investment is carried by the employer. Traditional pension plans, known as defined benefit or DB plans, promise employees a fixed monthly income in retirement that is based on years of service and employee earnings for a base period of time at the end of their career. Under DB plans, the employer underwrites the promised benefits regardless of how the stock market is performing.
In 1974, ERISA (Employee Retirement Income Security Act) set standards for the funding, tax treatment, participation, vesting, termination, insurance, disclosure, and fiduciary responsibility of private pension plans. Prior to ERISA, assets to fund private pensions were the largest private fund accumulation not subject to strict federal regulations.
To provide employees with maximum security, private pension plans require realistic actuarial estimates of future benefit costs and provisions for accumulating funds for the benefits as they are due. Funded pension plans are those for which an excess amount beyond the amount needed to pay current benefits to retired employees is accumulated by the employer with a trustee or an insurer. The trustee is usually a bank, though not necessarily. Other institutions may also be used. The funding method used will determine how much is accumulated in excess of the current disbursements. A sound funding method is most important to adequately protect the employee pension expectations (to make sure the employee receives in retirement approximately what he or she expected to receive). The funding provisions of ERISA require full funding of current service costs and amortization over minimum periods for funding accrued under past service liabilities.
Group retirement plans are more complex than are group life and health plans. There are tax considerations, questions of finance and employee relations involved, as well as other possibilities. ERISA, IRC, and the IRS rulings set forth broad requirements for a qualified pension plan. Basic decisions relating to pension plans must be made as to employee qualifications, conditions under which benefits are payable, benefit levels and types of benefits available. Cost, competitive conditions in the labor market and the desire for an effective personnel and employee relations policy are important considerations in designing retirement benefit plans.
For a benefit plan to be qualified, certain requirements must be met:
1. It must be established by the employer.
2. It must be for the exclusive benefit of the employees and their beneficiaries.
3. It must be in existence and in effect.
4. It must be in writing.
5. It must be permanent.
6. It must be communicated to the employees.
7. It must be financed by contributions made by the employer, the employee, or both.
8. It must be non-discriminatory with respect to coverage and/or benefits.
9. It must be based on a defined contribution or benefit formula.
10. There must be no possibility of permitting a reversion of contributions to the employer prior to the satisfaction of all liabilities to the employees or any other fund diversion for the benefit of anyone other than employees.
Under the IRC (Internal Revenue Code) provisions, a qualified plan must be for the benefit of employees in general. They cannot be for specific persons alone. Therefore, the plan must meet one of the following criteria tests:
1. At least 70 percent of all employees must be covered.
2. If only specific classes of employees are covered, such classifications must not discriminate in favor of officers, stockholders, supervisors, or high-salaried employees.
Plans meeting the percentage test automatically satisfy the coverage requirements of the IRS (Internal Revenue Service). For the classification test, nearly any classification is acceptable if it does not violate the nondiscriminatory requirement. One classification not permitted is that of union employees only or nonunion employees only. That would clearly discriminate against one group or the other.
ERISA requires that employees who are 25 years old with one year of service be covered. However, three years of service can be required if employer contributions are immediately 100 percent vested.
Among the common eligibility standards in pension plans is that employees be actively employed on a full-time basis. ERISA has eliminated many of the formerly restrictive participation requirements. ERISA has also improved the status of part-time and seasonal employees, as well as re-employed participants. Some plans require no probation period for eligibility. This is especially true for collectively bargained plans.
Pension plans may specify a "normal" retirement age, at which an employee is eligible for full benefits. A compulsory retirement age may also be stipulated. If one were to follow the example of social security, for instance, age 65 would be the so-called "normal" retirement age, with 68 perhaps being the compulsory retirement age. Workers would, if these happened to be the designated ages, be encouraged to retire at the age of 65, and be required to retire no later than the age of 68.
There are some industries where age 65 is considered inappropriate for the occupation, so the retirement age is lower. If an earlier age (earlier than 65) for retirement is required by the occupation, then there is no loss in benefits, because the designated age is considered to be the "normal" retirement age. However, if the worker wishes to retire prior to the stated normal retirement age, then usually that worker would have to take a reduced retirement benefit amount by retiring earlier than what is considered to be the normal retirement age for his or her particular occupation. Where delayed retirement is permitted, employees may be entitled to an increased pension, but usually no additional pension credits accumulate beyond what is considered to be the normal age of retirement.
Pension benefits usually are of the conventional type providing fixed dollar payments as scheduled, but there can be other types, as well. Some plans take advantage of the variable annuity principle, under which each periodic payment is a function of the investment performance of the pension fund.
Under the flat amount formula, all participants are given the same benefit regardless of their earnings, age, or years of service with the company. This type of pension plan is often used in negotiated plans, such as union contracts.
The flat percentage formula relates benefits to earnings, but not to the years of service with the company. Under the flat percentage formula, a pension equal to a percentage of an employee's average annual wage is paid to all employees completing a minimum number of years of credited service to the employer. This formula gives no added benefit for time worked beyond the number of years required. Those employees who fail to meet the minimum requirement for time employed are given a proportionately reduced pension amount. The actual percentage will vary from plan to plan.
The flat amount unit benefit formula relates pension benefits to years of service (number of years worked for the employer or industry), but not to the actual earnings. Generally, the employee is given one unit of benefit per month for each year of credited service. The flat amount unit benefit formula is often used in negotiated plans.
Under the percentage unit benefit plan, the employee is given a percentage of earnings for each year of service.
What happens when a pension plan is brought into a company where employees have already accumulated several years of work history with the company? This will, of course, vary but generally those employees are given credit for their previous years with the company, but typically at a reduced rate. Those years with the company from that point on will naturally be given full credit with the pension plan. This differential is justified. The cost is greater because interest plays a significant role in pension financing. There were no pension dollars earning interest prior to the pension plan's birth. Also, benefits earned prior to the plan's inception will be fully funded by the employer, since there was no employee contribution on previous years’ service. Due to these reasons, some plans will not recognize prior service to the company at all.
One very important aspect of ERISA is the plan termination insurance (called PTI). PTI guarantees the pension up to a specified amount despite inadequate funding. The Pension Benefit Guaranty Corporation (called PBGC), operating within the U.S. Labor Department, administers PTI, collects the premiums from employers, and guarantees payment of covered non-forfeitable benefits. All benefits under a plan, or plan amendment, in effect for five years are covered at termination. If the plan has fewer than five years of operation, the benefits are covered on a percentage basis.
ERISA requires that a plan designate a fiduciary to administer its operation. A person exercising discretionary authority or management control over the plan and/or the plan's assets are fiduciaries, regardless of their formal titles. Fiduciaries are responsible for compliance with the laws and must use the "care, skill, prudence and diligence of a prudent person acting in a like capacity for the purpose of providing benefits to participants and beneficiaries and defraying reasonable plan administrative expenses." The U.S. Department of Labor has charge of interpreting regulations and fiduciaries are held personally liable in the event that these regulations are violated. It is wise for a fiduciary to carry fiduciary liability insurance, as a result.
Plan administrators must file annual reports with the Department of Labor and also with the plans participants if the plan is terminated. There must also be an annual report filed with the Internal Revenue Service (IRS). The plan administrators must furnish participants with a plan description so that they are aware of the benefits when the participants first join the pension plan, and then at least every five years thereafter. Plan amendments, annual financial reports, any plans for termination, a statement of active participants' rights and inspections of the complete annual report must also be available upon request by participants.
The Insurance Consultant
Since any business arrangement is most effective when careful planning is used, the role of the health insurance agent can be most rewarding when full understanding of benefits exist. It is generally recommended that companies seek advice from more than one insurance consultant (agent). An under-educated agent is not likely to be selected in the final stages of selecting an insurance plan. Some broker-consultants are placed on an annual retainer; some are paid a fee for their services; some may be paid on a commission basis.
The primary role of the independent agent (whether self-employed or working for a large agency), is to help the client understand their particular insurance problems and to broadly define available solutions. Most small businesses rely on these agents to make suitable recommendations based on the agent's knowledge of the various plans available. Generally, the agent is able to interface with carriers and large national consultants for the latest information available. Because the agent's livelihood depends upon his or her knowledge and ability to provide quality service, it is very important to keep abreast of the latest developments in group coverage and benefits, as well as state requirements and federal legislation which may affect the businesses. Good service is also something that the agent must be prepared to offer.
Flexible Spending Accounts (FSA)
A flexible spending account (FSA), also known as a flexible spending arrangement, is one of a number of tax-advantaged financial accounts that can be set up through a cafeteria plan of an employer in the United States.
Flexible spending accounts offer tax savings for both employees and employers. FSAs are accounts that employees make deposits into. Their deposits pay for such benefits as child care, extended medical coverage, life insurance, and other special benefits. These plans must have administrators who manage the funds.
The Affordable Care Act affected flexible spending accounts. One change, which did not receive much attention, took effect in 2013. The change limited the amount that an employee could defer annually to their FSA to $2,500, although there may be cost-of-living increases to the cap, made annually by the IRS. Prior to this the limit was set by the employer and typically ranged between $2,500 and $5,000. Employers can receive guidance from IRS Notice 2012-40.
The monetary limit applies only to employee contributions and does not apply to employer non-elective contributions, which are often called “flex credits.” We may find employers applying these contributions, especially if they feel it will retain or recruit key employees.
In 1984 IRS stipulated that FSA money could be spent in only three areas:
1. For medical expenses that are not covered by the company's medical plan. This might include such things as plan deductibles or dental care.
2. For the care of a dependent person, whether that be a spouse, child, parent, or sibling.
3. For a group legal plan.
There was previously a fourth option. If the money was not spent on any of the three listed items, the employee could withdraw the money (take the cash). That option is no longer allowable.
It is easy to see why flexible spending accounts caught on so well. As we stated, however, employers are becoming more reluctant to use them. Employers now have a financial stake in these accounts that they did not previously have.
There was one other point that was too good to last. In the beginning, the employees did not have to decide in advance what benefits they wanted funded by the FSA. Now, the Internal Revenue Service has mandated that employees must decide at the beginning of each year exactly where their account is to be spent. If the employee guesses wrong regarding which benefits, he or she will need, it does not matter. The theme has now become one of "use it or lose it." That is because it is no longer possible, as we stated, to cash out the plan at the end of the year. In fact, any unused cash cannot even be left in the account for use in the following year. Between this change and the possibility of financial cost to the employer (for medical benefits), there is certainly the chance that the flexible spending accounts may be used much less as an employee benefit.
After Retirement
American workers might consider security today and in retirement when selecting their careers. As employers try to reduce their operating costs, fewer dollars are made available for employee benefits, including retirement plans. As a result, employers that still offer pension plans are moving to defined contribution plans (putting the risk on the employees) rather than defined benefit plans (where the risk is on the employer). Dedicated and informed employees may still do well with a defined contribution plan, but those who do not see the need may fail to adequately plan for retirement.
Company-sponsored pension plans are proving too low for many when they reach retirement age. Additionally, retirees have felt that they were deserted by their company once retirement came. Businesses often feel a greater need to put their dollars into their current employees rather than into their past employees. Thirty or forty years ago we did not see the retired population living as long as they now do. The country's total retired population is growing rapidly as a result of our improved health care and lifestyles. There is also a growing trend towards earlier retirement. Earlier retirement is often promoted, in fact, by businesses who desire to cut back their work force. For businesses that offer retirement funding, the company's growing retirement population will reflect the need for strong financial management in order to meet the financial needs that result. The only businesses that will escape this are those that maintain a younger staff, professions that utilize a highly mobile staff, or businesses primarily hiring seasonal employees. Companies that will be especially hard hit financially are older companies forced to make stringent staff reductions to maintain their financial stability. One of the popular ways to reduce excess personnel is to persuade some workers to take an early retirement. Therefore, the solution may actually be part of the problem.
The rising costs of living have also put additional pressure on companies to produce higher pensions for their retired employees. Since retired employees do not know where else to turn, they naturally approach past employers to "do something" about their small pension checks and the higher cost of living. The two major areas of pressure tend to be health coverage and pension income.
We traditionally think of major medical coverage when ‘health coverage’ is stated, but today that is often the cost of long-term care. Major medical coverage does not cover care in nursing homes, assisted living facilities and home-health care. That has always been and continues to be the responsibility of the retirees.
There was a time when retirees believed their Medicare benefits would cover all medical needs in retirement. Medicare does, in fact, take care of a major portion of doctor and hospital expenditures, but Medicare does not cover expenditures that is outside of these two types of care, namely lengthy care at home or in a nursing facility. Medicare does not and never has paid for long-term care in a nursing home. There are those who advocate setting aside funds, through financial planning techniques, to cover care associated with aging, but few people are able to set aside the thousands of dollars required. What most people discover is that it is much easier, and probably wiser, to simply purchase a long-term care nursing home policy from an insurance agent.
Everyone is aware of the financial difficulties both Social Security and Medicare are facing. This is not surprising considering our lengthening lives and the rising costs associated with health care today. It is no wonder there has been talk of rationing health care for the elderly. It is not likely that will ever happen of course. The elderly comprises one of the strongest political groups in this country. It is reasonable to believe that their age segment would effectively block any plans to ration their health care. What is likely to continue to happen is a slow decline in the amount of coverage offered by Medicare. As this comes about, supplemental health insurance policies will become increasingly expensive as they must pick up higher and higher costs through deductibles and copayments.
There is no guarantee of any cost-of-living raises in pensions; what once seemed a reasonably adequate pension may become inadequate over time. Many companies have given upward adjustments to the pensions paid to the retirees. These increases have usually been made based almost entirely on a company's current financial strength and health. Obviously, a company that is just limping along is not going to be in a financial position to raise their retiree's pensions. Since so many companies are having difficulty coping with the rising costs of their working employees, and with the inflation of the general economy, it is no surprise that their retired employees are not likely to get top billing. In addition, if the active employees are not helping the company to keep costs in line on their own benefits, then there is less likelihood that the company will have extra funds available.
Many retirees have been farsighted enough to save additional retirement dollars during their working years. Social Security is a supplement to whatever else individuals may have saved for retirement. This is perhaps the best way to view pensions also. Americans have a poor reputation when it comes to saving for their future, but it is something that certainly needs to be done. There are no guarantees that pensions and Social Security will be anywhere near sufficient to live on during retirement. Since it is impossible to make predictions about the future, it is certainly best to be prepared financially. Many people have saved through annuities, which are designed to give a retirement income. Saving, in some manner, is something that should be suggested to all actively working people by their insurance agents.
Income and Longevity Concerns
America is changing, we are becoming a nation of elderly citizens. We are also living longer, which means the types of financial issues America will need to address will include such things as caring for an elderly segment of our population.
Another element is involved in our ageing population. Due to health care and lifestyles, we have added around 30 years to what has traditionally been considered “middle age.” Since by definition, middle age is the middle of our lives, when people begin to live routinely to age 100 the years accountable to middle age also increases.
It is likely that in the future Americans will work longer prior to retirement. This will happen for a couple of reasons, primarily because they are living longer and living longer requires income for a greater period of time. At one time, living to 100 was rare, but that is no longer true; the number of centenarians in developed countries is increasing at a rate of more than five percent each year. At that pace, the population of those who are 100 or more will double every 13 years, according to the United Nations’ World Population Aging Report.
Despite the growing numbers, 100-plus year-old people will not overtake the world anytime soon, however. They still represent a small portion of the total population. Only 6.5 percent of 65-year-old females and 3.4 percent of 65-year-old males will make it to age 100. However, a much larger percentage will make it to age 90 according to Social Security statistics. In fact, 35 percent of males who reach age 65 and 46 percent of females who reach age 65 will live on to age 90. That is a statistic worth considering when it comes to having income last as long as the retiree does.
Insurers issuing long-term care policies used to advocate a three-year benefit period since it was expected that policyholders would need benefits for about 2.5 years. Over time they saw that changing; it is now common for individuals in homes to need benefits for five years and longer. That is only one aspect of our longer lives.
Most people want to live as long as possible, assuming the life they are living does not involve poverty or ill health. Longevity is typically considered an achievement, but those with poor health and lack of funds may not agree. With baby boomers entering retirement without pensions and adequate savings, Social Security ends up being their primary source of guaranteed lifetime income. Longevity simply heightens the risk that poverty will be the norm.
Everyone will not live long healthy lives; many will not even live to see their seventies so the first step in retirement planning is to assess what the individual might expect. This involves assessing family longevity history, employment choices, and income levels, according to Morningstar. They say 43 percent of adults underestimate their longevity by at least five years, which means they plan their retirement strategy on false information. This type of false information leads to poverty. It is always better to be over-prepared for retirement than under-prepared.
While the number one error people make is not planning at all for retirement, instead relying on employers and the government to do our planning for us. Anyone who bets on the government is bound to have a nasty surprise to start with. The ‘government’ is merely another word for ‘taxpayers.’ The taxpayers cannot and will not fund our retirement years. They cannot because we are increasingly having greater numbers of retirees and increasingly smaller numbers of workers. Where once five workers supported each person on Social Security, that has become only three workers per retiree. We need to invite a greater number of immigrants into American who will work and pay taxes, or we must figure out how to support our aging population another way (which typically means giving less in retirement to each person: fewer medical benefits and less Social Security income).
There are people planning for retirement by saving for it and investing to provide the greatest likelihood of success. Even these savers and planners can find themselves inadequately prepared, however. In some cases, they chose a portfolio that was too conservative to increase at the necessary rate to meet the required goal: enough money to last for their entire life. A conservative portfolio emphasizes cash and bonds at the expense of stocks. If returns are too low, inflation may decrease earnings so that losses, even in conservative investments, occur. Conservative investors often favor annuities even though inflation affects their earning abilities too.
We may see many baby-boomers delaying the onset of their Social Security; in other words, rather than applying for Social Security at age 62 (the first age at which it can be taken unless disabled), or even age 65. Full retirement is seldom available at age 65 for Social Security. Full retirement age is currently age 66.
Because Social Security provides an inflation-adjusted income stream for life, Social Security ensures that individuals have at least some money coming in the door even if his or her investment portfolio runs low (or out) during their later years. Filing early at age 62 permanently reduces the retiree’s longevity hedge, which is the annual benefit received from the program, by as much as 25 percent. Over time that reduction becomes an evident error as other assets are depleted.
Delayed Social Security filing has the opposite effect: monthly benefits are higher. Since Social Security income lasts as long as the retiree does it performs similar to an annuity with a lifetime payout option selected. Those who delay filing for Social Security benefits until age 70 will receive an annual benefit that is more than 30 percent higher than what they would have received had they filed at full retirement age (currently 66 and two months for those born in 1955 and rising to age 67 for those born in 1960 or later.) and more than 50 percent higher than the benefit received at age 62. In fact, longevity annuities, which are designed to provide income in later life, work very much the same as delaying Social Security benefits.
The topic of withdrawal rates during retirement can be complicated. Just as saving rates are the main determinant of success during the accumulation years (much more than investment selection, in fact), the spending rate is also one of the central determinants of our retirement plans' viability.
The four percent rule, which indicates that an individual can withdraw 4 percent of his or her total portfolio balance in year one of retirement, then annually inflation-adjust that dollar amount to determine each subsequent year's portfolio payout, is a decent starting point in the sustainable withdrawal-rate discussion. However, it is important to tweak the withdrawal rate based on each person’s own situation. Many elements complicate this equation, including health and the number of years spent in retirement (not earning income in other words). Being retired longer than the 30-year withdrawal period that underpins the four percent rule means that perhaps only three percent should be withdrawn yearly in order to fund living to the end of life.
Guaranteed products should not be overlooked when planning for retirement funding. Investors often dismiss products that promise guaranteed lifetime income, such as annuities. They can be high cost for one thing, and it can be difficult to part with a large sum of money in exchange for a guaranteed lifetime income stream. It is vital that potential beneficiaries, for example, understand that lifetime annuity income means the issuing insurer has been named as the beneficiary. If the annuitant dies too soon, leaving much of the annuity principal untouched, the issuing insurer receives the excess, not heirs. Some annuity products also lack transparency. There is also the issue of current interest rates, which have a depressive effect on the payouts of fixed-type annuities over the long term.
Despite the negative aspects of some annuity products, guaranteed lifetime income is a huge attraction for longevity-protection, and not all annuities are complicated and costly. Single-premium immediate annuities, while the most beholden to the current interest-rate environment, are the least complicated, most transparent, and most cost-effective annuity type. Deferred-income annuities, meanwhile, provide an even more direct hedge against longevity risk by enabling annuitants to start up their income stream at some future date, such as age 85, for example. Like all types of investments, annuities should not be chosen without thought and investigation. However, as they apply to longevity, they are an asset worth consideration.
Longevity will never be something that retirees can specifically know. Even when family history suggests a shorter life than some, with current health care treatments that are available and with a good lifestyle anyone can reach age 90 or more.
End of Chapter 12