Peace of mind for the dependents and loved ones of an employee in the event of his/her death is the driving force behind group life insurance benefits. Historically, group life insurance was intended to provide life insurance coverage during an employee's active working career with an employer, with payments made upon death.
Today, group life insurance policies have evolved to reflect significant trends and changes in society. In addition to basic life insurance, employers extend some modified form of life insurance coverage to an employee who retires, and a few employers even allow eligible employees suffering from terminal illnesses to collect a portion of the benefit amount while living.
The four most common types of group life insurance products offered by employers include:
- basic life insurance
- optional life insurance
- dependent life insurance
- paid-up life insurance
This tutorial will walk you through all of the components of the different types of employer-sponsored life insurance benefits including:
- plan requirements
- schedule of benefits coverage/benefit amount
- benefit maximums
- reduction rules
- how premium rates are calculated
Furthermore, general life insurance provisions, for all types of life insurance will be discussed including:
- beneficiary designation
- facility of payment provision
- benefit settlement options
- living benefits
- continuation of benefits for disabled employees
- extension of coverage for absences other than disability
- conversion option
- misstatement of age
- criminal acts exclusion
Basic Life Insurance
Basic life insurance is life insurance coverage that is usually provided and paid for by the employer for all employees. The coverage is provided under the terms of the group insurance contract and is automatically renewed annually. The terms and conditions of coverage are detailed in the group contract which is accepted by the employer as a precedence for the insurance company providing coverage.Basic life insurance plans can be either contributory or non-contributory. Under a non-contributory arrangement, the employer pays the full premium cost for insuring all employees enrolled in the plan. Under a contributory plan, the employee pays part or all of the premium by making contributions deducted through payroll.There is no legal requirement for insurance companies to offer group insurnance to a group of any number of employees, however most insurance companies generally require a minimum of 3 to 10 employees for coverage. This minimum number of plan participants ensures that the insurer's time and effort in setting up the plan is worthwhile and will eventually yield a profit. The larger the plan (more participants), the better spread of risk and the more consistent the average age and health of the group will remain from year to year. This protects the insurer against loss and adverse selection, and also shields the employer from large swings in premium rates from year to year. The larger the group of employees, the less expensive insurance will cost because of economies of scale.
Generally full-time active employees are eligible for group life insurance coverage, however most insurance contracts stipulate coverage for part-time employees working a minimum of 20 hours per week. Life insurance coverage can also be extended to retirees, however the benefit is usually reduced significantly because of the dimished need for life insurance in the later stages of life. Life coverage for retirees is generally sufficient to cover expenses related to the last illness of the retiree as well as funeral costs. Under a non-contributory plan, insurers generally require that all eligible employees be enrolled in the basic group benefits plan. The requirement under a contributory plan is that 75% of eligible employees must be covered.
Eligibility For Coverage
An actively at work provision is included in most group insurance contracts. This requirement stipulates that coverage will be effective for an employee provided he/she is not absent from work due to sickness, injury, or other reasons on the date that coverage begins.
Once coverage is in effect it continues for as long as the employee is working for the employer and as long as required premium contributions are made. If employment is terminated, the employee has 31 days to convert their group coverage into an individual policy. This provides the terminated employee reasonable time to replace the group coverage that they had in effect while employed.
Schedule of Benefits
There are different benefit calculations that can be chosen by the employer that will determine the amount of coverage for employees. Employees are assigned to different classes under the group insurance contract. The schedule of benefits assigned to each class determines the amount of life insurance that will be provided to the members of each class. Since benefit schedules under a group contract are subject to human rights legislation, class descriptions must be broad. There are four types of benefits schedules: earnings, flat, length of service or a combination.
- Earnings schedule: This is the most common methods of determining an employee's insurance amount and is based (as the title stipulates) on a percentage or multiple of annual earnings. Employee earnings for this type of schedule includes only base earnings (excludes bonus). Generally coverage is provided equal to one times earnings, however can be provided at two or three times earnings. Typically, higher multiples are provided for classes of executives. The benefit amount is rounded to the nearest higher $1,000 and may be subject to a maximum benefit amount.
- Flat benefit schedule: Earnings and position/class are not important under a flat benefit schedule. With this form of benefit schedule, all employees are grouped under one class and all receive the same benefit amount regardless of earnings or position/class. Flat benefit schedules are commonly used among unionized groups covering hourly employees.
- Length of service schedule: The benefit amount using this type of schedule increases with the number of years an employee has been working for the employer. Once used as a means of rewarding long-service employees, this schedule is rarely used anymore. This schedule can be challenged as discriminatory under human rights legislation in certain cirmcumstances.
- Combination schedule: Benefit amounts can also be based on a schedule that is tied to various employment factors, such as earnings and position, and often chosen by the employer to reward the most valuable employees. A common insurance schedule can be designed to provide salaried employees with insurance based on a multiple of earnings, while hourly employees are eligible for a flat benefit amount.
The maximum amount of insurance reflects the number of employees covered by a group contract and the average benefit amount per employee. Limits are also placed on the benefit amount that high-earning employees can receive in order to avoid adverse selection from the wide divergence of coverage levels within a group.
Evidence of Insurability
Most group contracts do not require any evidence of insurability from the individual plan members. However, there are certain situations when an eligible employee must provide such evidence:
- when an employee is eligible for an amount in excess of the pre-determined maximum
- when an employee desires coverage under a contributory plan after he/she did not elect coverage within 31 days of eligibility
- when an employee refuses coverage and later chooses to rejoin the plan
To address the higher cost of providing life insurance benefits coverage to older employees, a common specification in schedules of insurance benefits require a reduction in the benefit amount. Reduction provisions typically apply at the earliest of retirement or age 65. Benefit reductions can be implemented in different ways:
- coverage can be reduced by a set percentage of pre-retirement coverage
- the amount of coverage can be limited to a flat dollar amount
- benefits can be reduced gradually on a declining scale by a certain percentage each year until a pre-determined minimum is reached.
Basic life insurance plans provide insurance to an individual at a far lower cost than the individual insurance marketplace. Insurance companies can do this because the risk that they take on is spread throughout the whole group and can be more attributable to actuarial mortality tables. The premium rate for basic life insurance is expressed as an average rate per $1,000 of coverage for the entire group of employees. The employer is responsible for submitting the total amount of the premium payments for the entire group of employees monthly to the insurance company. The rate is set at the beginning of the plan year and is garaunteed for the renewal term. At each subsequent renewal, a rate adjustment may be required to reflect changes in the demographic composition of the group as well as changes in claims experience.
Optional Life Insurance
Employers usually offer employees the ability to increase their group life insurance coverage by purchasing optional life insurance as an addition to basic life insurance. Insurers require minimum participation in the plan (usually minimum of 10% of the covered group). Optional life insurance is covered under the same provisions as the basic life coverage except:
- the amount of optional coverage must be elected by the individual employee
- evidence of insurability is usually required for all amounts of optional life insurance
- the optional plan is always funded by employee contributions
Underwriting requirements for optional life insurance are more restrictive than those for the basic life insurance benefit because adverse selection will arise once employees are allowed to select their benefit amount. This is the reason that evidence of insurability is required for the optional life benefit. Generally, an employee must be a member of an optional life plan for a minimum of two years before the insurer will pay the insurance benefit if death is a result of a suicide. Otherwise, the insurer will refund the premium paid.
To be eligible for optional life coverage, an employee must also be enrolled in the basic life insurance coverage. The benefit amount is generally based on an aearnings schedule of insurance benefits, experessed as a mulstiple of salary. Alternatively, it may be in units such as $10,000 or $25,000, up to a benefit maximum. Basic and optional life insurance maximums are usually combined to an overall maximum depending on the size of the plan.
As with basic life insurance, the monthly premium rate is expressed per $1,000 of insurance. Most insurance companies offer optional life insurance as standard rates that they have developed and applied across all employers. Rates are typically age-banded and divided by gender and smoker/non-smoker status.
Dependent Life Insurance
Basic life insurance plans often allow for coverage of the dependents of insured employees, usually as optional coverage that is fully paid for by the employee. In this case, however, only the employee can generally be named as the beneficiary since this benefit is made available by employers as a means of assisting an employee to pay for funeral, burial, or cremation expenses on a dependent's death.
Dependents are defined (by most insurers) as:
- an employee's married or common law spouse of the same or opposite sex who has been living with the employee for at least 12 consecutive months
- unmarried children (including step-children and adopted children) of the employee and/or spouse between a specified age range, usually 14 days to 21 years of age (25 year if in full-time at school or university), who are dependent solely on the employee for financial support. Dependent children, who prior to attaining limiting ages, were insured under the plan and who become mentally or physically incapacitated may continue to be covered beyond such ages, provided they continue to be dependent solely on the employee for financial support.
At the inception of a plan or at the time dependents woul have become eligible, dependents, excluding newborns, are not eligible for coverage if they are confined in a hospital. Coverage, begins when the the dependent is released from the hospital. This provision is similar to the actively at work provision pertaining to employees and is commonly referred to as the non-confinement rule.
The benefit amount is generally a modest flat dollar amount, such as $10,000 on the spouse and $5,000 on each child. But the level of coverage can vary depending on the benefit schedule provided by the employer.
Since the benefit amount is small, coverage is available at a relatively low additional premium rate.
Retiree Life Insurance
With an aging population and a wave of baby boomers on the verge of retiring in the coming years, post-retirement benefits, including post-retirement life insurance, are receiving considerable attention from employers.
Group life insurance, historically, usually ended upon retirement which left many retired employees without coverage since the cost of individual life insurance was so high given the employee's age and reduced income. Employers then started providing life insurance plans that covered employees into retirement, however coverage was minimal compared to that provided to active employees.
Some of the issues with providing post-retirement life insurance coverage is that the present value of the cost is dramatically higher than the same coverage for active employees, given reasonable interest assumptions. The mortality rate for a retired employee is higher than the average employee in the group, and also higher than an employee who is the same age as the retired individual yet actively working. Retiree life insurance programs have coverage for life and there is no uncertainty of paying a death benefit.
There are three approaches to determining an appropriate benefit amount for retiree life insurance coverage:
- continue coverage indefinitely but with the benefit amount reduced to a flat dollar amount of between $5,000 and $10,000 or by percentage, usually to 50% of the pre-retirement coverage
- continue to extend group coverage but with the benefit amount payable reducing gradually over a specified period of time (reduces X% per year until it reaches zero).
- continue to extend a fixed reduced benefit amount after reductions are made over a specified period (reduces X% per year until it reaches a minimum amount of coverage).
There are four general options to pay for the cost of retiree life insurance coverage:
- Current cost method: The employer continues to pay the regular group life insurance premium each year for a retired employee until death or self-insure the benefits by paying the death benefits as they occur
- Single premium paid-up method: The employer pays insures the cost of retiree life insurance by paying off the whole obligation at the date of retirement. Since the employee is not generating any value to the company after retirement, this method ensures that the retiree has no effect on the company's cost after retirement. Of course, using this method, the employer does not have any future expenses to write off for that employee.
- Installment method: To pre-fund the high mortality cost experience in retirement years, the liability for a retiree can be paid off in installments over either a five year period leading up to retirement or a five or ten year period after retirement. With this method, the single premium method would be applied, however the liability would be calculated based on an appropriate interest rate and then purchased in installments of either five or ten years.
- Paid-up method: The paid-up method is generally contributory and provides the same death benefit amount as does the typical group term life insurance plan. Under this method, employee contributions go toward purchasing units, that are expected to equal the total amount of death benefit, accumulated throughout the employee's years of service with the employer. The employer, over the same period of time, pays for coverage of a correspondingly decreasing amount of group term life insurance. This once popular method is very uncommon in today's benefits marketplace except for a few very large employers.
General Life Insurance Provisions
This provision allows an insured employee to designate the beneficiary who will receive the death benefit when a claim is made on the death of the insured employee. The employee is allowed to change the beneficiary at any time, except in rare sitiuations where the beneficiary designation is made irrevocable, unless explicitly stated otherwise.
Facility of Payment Provision
A provision that allows for a portion of the death benefit to be paid to an individual who is not specifically designated as the beneficiary. This provision normally pays out a dollar amount stipulated in the group contract to an individual who is responsible for paying funeral costs and/or other associated costs associated with the illness or death of the employee.
A facility of payment provision also applies to a situation in which the beneficiary is a minor or is mentally or physically incapable of settling the claim of a death benefit. With this provision, the insurer can implement a temporary payment arrangement until the beneficiary's legal guardian steps forward to make a claim.
Benefit Settlement Options
Group life insurance contracts generally stipulate that the death benefit is payable in a lump sum, unless an alternative method is chosen. An employee can at any time change the benefit settlement option he/she chose if other options are available. Other options in settling the group life insurance claim are:
- The death benefit amount can be left on deposit with the insurance company and collect interest based on current interest rates
- The death benefit can be paid in installments over a certain period
- Periodic installments can be calculated and paid as part of a life income option, paid over the lifetime of the beneficiary
- The death benefit can be deposited into a short or long term guaranteed account which may be either registered or non-registered for income tax purposes
- The death benefit can be deposited into a chequing account, set up only to settle a claim with a bank that the insurance company has made prior arrangements with
With the increase in degenerative diseases, providing living benefits has become increasinly important. With living benefits, individuals can cash in a portion of the face value of the life insurance benefit amount while still living if the individual:
- Is diagnosed with a terminal illness that is expected to result in death within a defined period of time (usually 12 months)
- Is diagnosed with a specific catastrophic illness
- Must unexpectedly bear the cost of long-term health care expenses
Living benefits are not provided within the group insurance contract, however, are provided on a case by case basis by the insurer.
Continuation of Benefits For Disabled Employees
The waiver of premium provision in life insurance coverage is a common approach to continue life insurance coverage a disabled employee. Under this provision, coverage may continue for a disabled employee up to the period of time stipulated in the group contract, while the insurer waives the premiums required. In fact, the premium is waived and coverage is continued even when the group contract with the insurer is terminated by the employer.
For the employee to qualify for the waiver provision, the disability must occur before age 65. Also, the employee must be totally disabled, which is normally defined as a complete inability to be gainfully employed in an occupation for which the employee is qualified due to education, training, experience. The most common way to set up the waiver of premium is for the definition of disability to be the same as it is under the long term disability benefit. Therefore, the waiver provision is automatically applied when the long term disability benefit payments are approved.
An employee must file a claim within 12 months of their last day at work and must submit evidence of insurability to prove the continuation of their disability. When the employee recovers and returns to work, premiums under the group life insurance benefit are reinstated so coverage can continue.
Extension of Coverage For Absences Other Than Disability
Most group insurance contracts continue coverage during certain situations in which the service of an active employee is temporarily interrupted (laid off, strike, leave of absence, etc.). The coverage will be equal to what is provided to an active employee. The duration of coverage usually extends from one to three months after the last day the employee was at work.
Insurance companies may terminate a basic life insurance contract if premiums are not paid (usually after a 31 day grace period). Under certain conditions the insurance company may also terminate the group insurance contract if the employer fails to maintain minimum participation requirements under a contributory plan.
The employer may terminate the group insurance contract at any time after giving 31 days notice.
When an employee's group life insurance ceases due to termination of employment, employees have the privilege of converting the face value of their beneifts coverage to an individual life insurance policy. The key highlight of the conversion option is that the same coverage will be provided on an individual basis without evidence of insurability. Conversion must take place within 31 days of termination.
Misstatement of Age
For optional life insurance (usually coverage is based on smoker/non-smoker status), the age of the employee must be kept on file to determine the level of coverage for that employee. If there is a misstatement of age, the employee's coverage will be adjusted to correspond to the benefit amount ffor the actual age. The premium will also be adjusted accordingly. Some insurance contracts stipulate that the benefit amount available payable should correspond to the premiums being paid. Other insurance carriers will refuse the benefit payment and simply refund premiums.
Criminal Acts Exclusion
Insurance will not be paid if it was obtained with the intention of murdering the insured person. If the insurance policy was not obtained with the intention of murdering the insured, the benefit payment will go to the insured person's estate rather than the person who murdered the insured.