Disadvantages of Flexing Life Insurance/Disability Premiums?

[sloble@crowleyfleck.com]

Does paying premiums for life insurance or disability insurance on a pre-tax basis through a cafe plan make the benefits taxable to the employee where they would otherwise not be taxable?

[papogi]

As for life insurance, a 125 plan can only offer up to $50,000 of group term life insurance to employees on a pre-tax basis. This means that if the employee is paying for coverage, only the percentage of premium which pays for up to $50K can be taken pre-tax. Any premium for the amount that goes over $50K needs to be taken post-tax. If the employer is providing the life insurance, only an amount up to $50K can be provided without any consequence to the employee. The premium paid by the employer on the amount which goes over $50K will be imputed income to the employee (as if they had paid for it themselves using after-tax dollars). In all cases above, the death benefit is tax-free. The cite for this is Section 125(f), which also refers to Section 79(a).

Regarding disability (STD and LTD), whatever the employee buys with pre-tax dollars becomes taxable benefits when the plan is utilized. It is usually recommended that deductions for these benefits be taken with post-tax dollars. If the employer pays the premium for the coverage, the benefit is taxable to the employee.

[sloble@crowleyfleck.com]

THANKS FOR YOUR VERY HELPFUL RESPONSE!!

[Guest lschaab]

What about dependent life for spouses and children? I understand that if they are excludable under 132 as a de minimis fringe benefit then the premium cannot be pre-tax. What are the thresholds for determining de minimis? And is the limit $50K for dependents (if eligible for pre-tax at all)? I have always been a little fuzzy on this topic.

[oriecat]

From Pub 15-B - de minimus benefits section:

Group-term life insurance payable on the death of an employee's spouse or dependent if the fact amount is not more than $2000.

From the 15-B Group Term Life coverage, Coverage for dependents:

Group term life insurance coverage paid by the employer for the spouse or dependents of an employee may be excludable from income as a deminimus fringe benefit (see page 6). The part of this coverage that the employee paid on an after-tax basis is also excludable from income. For this purpose, the cost is figured using the monthly cost table above.

[Guest tintree73]

I'm sure you also saw this, but in case you didn't - here's a link to recent guidance from the IRS re disability (I saw it in today's benefitsbuzz):

http://benefitslink.com/IRS/revrul2004-55.pdf

[Ron Snyder]

From the Temporary Regulations under IRC Section 125:

Sec. 1.125-2T Question and answer relating to the benefits that may be offered under a cafeteria plan. (Temporary)

Q-1: What benefits may be offered to participants under a cafeteria plan?

A-1: (a) Generally, for cafeteria plan years beginning on or after January 1, 1985, a cafeteria plan is a written plan under which participants may choose among two or more benefits consisting of cash and certain other permissible benefits. In general, benefits that are excludable from the gross income of an employee under a specific section of the Internal Revenue Code may be offered under a cafeteria plan. * * * Thus, a cafeteria plan may offer coverage under a group-term life insurance plan of up to $50,000 (section 79), coverage under an accident or health plan (sections 105 and 106), coverage under a qualified group legal services plan (section 120), coverage under a dependent care assistance program (section 129), and participation in a qualified cash or deferred arrangement that is part of a profit-sharing or stock bonus plan (section 401(k)). In addition, a cafeteria plan may offer group-term life insurance coverage which is includable in gross income only because it is in excess of $50,000 or is on the lives of the participant's spouse and/or children. In addition, a cafeteria plan may offer participants the opportunity to purchase, with after-tax employee contributions, coverage under a group-term life insurance plan (section 79), * * *."