According to a major provider of disability insurance, three out of every 10 workers between the ages of 25 and 65 will experience an accident or illness that keeps them out of work for three months or longer, with nearly 60% of these injuries occurring off the job.

An extended illness or injury can create significant financial hardship. If an employee is hurt off the job worker’s compensation will not cover them. When an employee cannot work for an extended period of time, a long-term disability (LTD) plan can help cover a portion of the employee’s salary so the person can continue to pay bills and medical expenses.

Although employees will often express a greater demand for more visible benefits, like paramedical or a richer dental plan, a LTD benefit is far more important in protecting the financial well-being of employees.

Very few employees will ever be forced to sell their homes because they need eyeglasses or dental work. However, a loss of income can have much more serious repercussions.

The way an LTD plan is taxed can have serious implications for an employee if they end up requiring disability.

Most LTD benefits are non-taxable. To qualify as a non-taxable benefit the employee must pay 100% of the LTD premium. If employees pay a share of the overall premium their portion is credited first to the LTD benefit.

But LTD benefits can be taxable. The most common reason this happens is that the employer pays for all the benefits. The benefit amount formula is often 75% of income versus the 67% for non-taxable plans.

A more controversial set up has the employer pay for the LTD premium and use the employee’s contribution to cover other benefits such as health and dental. The rationale behind this option is that a disabled employee will be recognized by Canada Revenue Agency (CRA) as someone who is earning an income so they will therefore have access to tax deductions under the income tax act. They will file an income tax return, continue RRSP contributions and apply for the medical expense credit.

While this sounds convincing, I am not in favour of this set up for the following reasons:

1. Income tax must be deducted at the source. So a disabled employee whose employer has paid 100% of the LTD premiums would have their benefit amount taxed leaving them with less to live on while not working.
2. Most individuals on disability income will not have the money to contribute an RRSP
3. The medical expense credit will not be enough to offset the difference in income lost due to the plan being taxable.

In a non-taxable plan where the employee has paid the premium, CRA considers their benefit amount as already taxed so the employee will have access to a larger benefit amount. The employee will not be able to contribute to RRSP or apply for some credits, but having access to a larger benefit amount is worth the trade off. While it depends on the employee group, it is often preferable to make LTD a non-taxable by having employees pay 100% of the premium.

Photo credit: “Hit Me With Your Best Shot” by Brett Kiger on Flickr

Pamela Glendinning of Glendinning Insurance Services says she sees the same thing over and over again in her practice.

“A lot of people, as soon as they get separated or there’s talk of divorce, will walk into the office and say ‘Take my ex off the plan!’” she says. “It’s an emotional reaction.”

Unfortunately, in many cases, this type of knee-jerk reaction can cost the employee money.

Glendinning says that what often happens is the employee goes to court, and the court says their spouse still needs to be on the plan, at least until the divorce is final and all of the details of the divorce agreement have been worked out.

“The insurance company is not obligated to bring the employee’s spouse back on the plan. Now the employee is liable for any expenses that the spouse comes up with because they shouldn’t have taken them off the plan to begin with.”

So, how should employers advise their employees to proceed after a separation or divorce?

“Sometimes, especially in smaller businesses, the employer will have a checklist for everything they have to change in an employee/spouse divorce,” says Jean-Guy Gauthier, manager, strategy and product development, group insurance with Standard Life, “That checklist should include ensuring that the right dependents are listed and advising the employee to make sure that he feels comfortable with the beneficiary designation.”

Updating your dependents

Before taking this step, employers should help the employee understand the terms of their benefits coverage, specifically who can and can’t be covered as a dependent.

Gauthier notes that for his company, “A spouse can be someone you’re married to or your common law spouse in a conjugal relationship. It’s interesting that in the process of separation and divorce, you may at some point have more than one person qualify as a spouse.”

However, each insurance carrier is different, says Steven Goldman, lawyer and partner with Goldman Hine LLP. He notes that with at least one insurance carrier, as soon as an employee is separated, the soon-to-be ex-spouse’s eligibility for coverage is gone. In cases like this, it’s the employee’s responsibility to remove their ex from their plan right away.

“Coverage doesn’t terminate automatically. That’s why it’s important to read your contract. If a person doesn’t qualify [for coverage], their claims won’t be reimbursed,” says Gauthier.

In other cases, it’s often best to wait until the divorce is finalized, to avoid situations like the one Pamela Glendinning of Glendinning Insurance Services described above.

Goldman says that knowing the terms of coverage can also help the employee as they’re negotiating their divorce agreement. “Before you negotiate, you’d better know what’s contained in your policy. Some of those policies have an automatic termination provision, so you can’t contract to keep your spouse covered under the policy.”

That doesn’t mean that you can’t negotiate separate, private coverage, but again, that usually ends up being costly.

Updating your beneficiary information

As with benefits coverage, employees are responsible for notifying the insurance carrier of any changes to their beneficiary information under their group life insurance policy. Unlike benefits coverage, however, there’s never a requirement to revoke an ex-spouse’s beneficiary designation. In fact, there are a few good reasons to keep an ex as a beneficiary—for example, if the ex-spouse is the primary caregiver to the employee’s children.

Says Gauthier, “If your ex gets alimony in the divorce agreement, and you want to make sure the alimony is protected in case of your death, that’s a good reason to assign your ex as a beneficiary.”

However, if the employee chooses to remove their ex as their beneficiary, they’ll need to know whether that beneficiary designation was revocable or irrevocable. Removing a revocable beneficiary is a fairly simple process that usually involves filling out a form. Removing an irrevocable beneficiary, however, means getting the ex-spouse to waive their right as beneficiary, either by filling out a special consent form or as part of the terms of the divorce agreement.

Whatever the employee’s decision, employers can help by ensuring the employee knows who to talk to and what steps to take.

Is an RRSP loan for you?

There are often other financial demands that can make contributing to an RRSP seem difficult. And it can be hard to practice the discipline of regular RRSP contributions throughout the year. Fortunately, there are options available. An RRSP loan is a simple solution that can help you maximize your retirement contribution and reduce your income taxes.

Some people think RRSP loans are only for those close to retirement who are trying to “catch-up”. In reality, RRSP loans can offer great value for many individuals regardless of their age.

RRSP loans are easy and convenient

RRSP loan programs offered today provide flexibility and convenience at a reasonable cost. Some companies offer a 90-day loan payment deferral option, hopefully giving you enough time to receive your tax refund and possibly pay the loan off entirely. As well, you can make extra payments to your loan at anytime without a fee. What could be easier?

Now it’s your decision

It’s important to invest for your future. Please think about this opportunity and contact us if you have questions or would like to learn more about RRSP planning and borrowing to invest. I hope to hear from you soon. Together we can take care of your financial future.