Watch The Gap! Recalibrating Income Protection Benefits For Highly Compensated Employees
Table of Contents Executive Summary... 3 Introduction... 4 Executives Value Benefits More Than Other Employees... 5 Highly Compensated But Unprepared For Financial Risks... 6 Evaluate the Coverage Gaps in Group Plans... 7 Closing the Coverage Gaps with Executive Benefits... 9 Individual Disability Income (IDI) Insurance... 10 Group Variable Universal Life (GVUL) Insurance...11 Advantages for Employers...12 Conclusion...13 References...14 2
Executive Summary Despite fluctuations in unemployment numbers this is still a tight talent market for key employees those with the necessary skills and abilities to help companies thrive in turbulent times. When competing for this top talent employers often fail to consider the strategic use of a customized benefits program one that is designed to satisfy the unique income protection needs of highly compensated employees. 1 Research collected in connection with MetLife s 8th Annual Employee Benefits Trends Study reveals that many employers underestimate how important benefits are to the executive employment value proposition, and there is also a disconnect when it comes to what employers think their executives value and what they really value. This disconnect is particularly significant when it comes to important benefits such as life, dental and disability income protection insurances. To further compound this disconnect, employers may not realize that highly compensated employees could be at a disadvantage when it comes to company-provided group benefits especially income protection programs that have group plan maximums. There can be a significant gap between the insurance coverages that top talent needs and what the standard company group plan can provide. Employers who recognize and take steps to narrow this gap can differentiate themselves from the competition and help to satisfy and retain key employees. Creating an executive carve-out program for the highly compensated can provide a cost-effective and efficient way to solve for this challenge while leaving the regular group plans untouched. Two examples of such solutions are Individual Disability Income (IDI) Insurance and Group Variable Universal Life (GVUL) insurance programs. MetLife believes that such programs can help provide the means to satisfy the unique income protection needs of highly compensated employees and increase job satisfaction and loyalty without straining company benefits budgets or resources. 3
Introduction The U.S. economy may be in the midst of a so-called jobless recovery, but when it comes to attracting key employees those who have the necessary skills and abilities to help companies thrive in turbulent times this is still a tight talent market. In spite of the current fluctuations in unemployment numbers, management talent to help companies generate growth is in short supply and in great demand. 2, 3 Typically companies rely on generous compensation packages to attract and retain key employees, and these individuals are usually financially well rewarded. Research collected in connection with MetLife s 8th Annual Employee Benefits Trends Study reveals that many employers underestimate how important benefits are to the executive employment value proposition. And to further compound this oversight, they may not realize that their highly compensated employees could be at a disadvantage when it comes to company-provided group benefits especially income protection programs that have group plan maximums. There can be a significant gap between the insurance coverages that top talent needs and what the standard company group plan can provide. Employers who recognize and take steps to narrow this gap can differentiate themselves from the competition and help to satisfy and retain key employees. This paper considers two, often overlooked, practical actions specifically supplementing their Group Life and Group Disability coverages which employers can offer to maximize the value of income protection programs for their highly compensated employees. 4
Executives Value Benefits More Than Other Employees Attractive benefits are a powerful part of any employee s compensation package, but the highly compensated seem to value them even more than other employees. Nearly half (47%) say their benefits are the foundation of their financial safety net compared to 33% of other employees. 4 High earners are also more likely than other employees to cite the benefits they receive at work as a reason they came to work for their current employer (47% vs. 31%) and a reason for remaining (51% vs. 40%). 5 Keeping employees highly satisfied with their benefits is important because research shows that benefits satisfaction is associated with both job satisfaction and with loyalty to the company which in turn are drivers of retention. 6 However, there is a disconnect when it comes to what benefits employers think their executives value and what they really value. This gap is particularly significant when it comes to important benefits such as life, dental and disability income protection insurances. Highly compensated employees value their non-medical benefits and say that they contribute to their loyalty more than many employers realize. 7 Very important in generating a feeling of loyalty Personal Income $100K+ Employers Salary/Wages 83% 67% Health Benefits 77% 59% Retirement Benefits 72% 43% All Other Insurance Benefits (Life, Dental, Disability, Vision, etc.) 70% 39% Work/Life Balance (e.g., programs such as job sharing, telecommuting, flex time, etc.) 68% 36% Advancement Opportunities 64% 45% Company Culture 59% 55% Source: Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. 5
Highly Compensated But Unprepared for Financial Risks Having a high income does not preclude financial concern, and high earners are as worried as other workers about personal financial risks that they may face. More than half of highly compensated employees say they are very concerned about the financial effects of a loss of income in the event of a disability and/or premature death. 8 More than half of highly compensated employees are very concerned about financial risk in the event of death or disability. Employees with Personal Income of $100K+ Very Concerned Having enough money to pay bills during a period of sudden income loss Concerned about having financial security for my family in the event of my premature death 53% Having financial security if no longer able to work because of disability or serious illness 57% 53% Source: Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. However, despite these concerns, a disconcerting number of highly compensated employees report that they do not have adequate life and disability insurance coverage and about one third does not have disability insurance at all. 9 6
Evaluate the Coverage Gaps in Group Plans Employers should take a critical look at their group plans in the context of executive needs and determine if this key population is being well-served by the protection benefits currently offered. The results could show surprising gaps between employee needs and available group benefits coverages. This is because the unique protection needs of highly compensated employees specifically their higher incomes and assets can require greater coverage levels than group plan maximums often permit. Typical group benefit income protection plans can fall short for these individuals, exposing them to critical coverage gaps. This is true for both group long-term disability plans and group term life plans as illustrated below. One size does not fit all when it comes to benefits, and this is especially true when it comes to highly compensated employees. Limited by group plan maximums, they do not enjoy parity with other company employees when it comes to life and disability benefits. Benefits Plans Can Fall Short of Expectations Typically a group LTD plan covers 60% of salary before tax; however, it usually has a maximum benefit cap and does not cover incentive compensation, such as bonuses and commissions. 10 In addition, if the premiums are paid by the employer, any benefits received by the employee are generally taxable as income. Thus, for example, a benefit cap of $5,000 per month would amount to a $60,000 annual LTD benefit before taxes. This falls far short of the income requirements of highly compensated employees, resulting in inadequate protection from the group plan. An Example of the Disability Coverage Gap for Highly Compensated Employees Jane Smith, an executive bank officer, earns $100,000 per year plus a potential annual bonus of $15,000. Assuming a 28% tax bracket, her net income per year is $82,800. If she experiences a disability she would receive the maximum benefit of $5,000 per month ($60,000 per year); however, her after-tax benefits from the group LTD plan would be $43,200 per year just 52% of her usual after-tax compensation. This means Jane will experience a significant shortfall of $39,600 in her annual after-tax income. 7
Note: Since Jane s employer is paying the premium for the group coverage the benefits are taxable. While it is true that if Jane was paying the premium with after-tax dollars the benefits she received would be income tax free, there would still be a gap although not as significant. See graphic on page 10 to see how this can negatively impact highly compensated employees. Similar limitations are found when it comes to term life insurance. As we have seen, the coverage needs of highly compensated employees are significant and may exceed group plan maximums especially as nearly half (43%) of group life plans have maximums of less than $500,000. 10 8
Closing the Coverage Gaps with Executive Benefits What can employers do to ensure that their most important employees have access to adequate levels of income protection coverage? Modifying the group plan in order to accommodate the coverage needs of a subset of the workforce can result in unwelcome extraneous costs for the company. A more cost-effective and efficient solution can be found in creating an executive plan carve-out. This strategy creates a pool of highly compensated employees and provides higher coverages and tax advantages to better meet their needs; meanwhile the group plans remain untouched for the balance of employees. MetLife believes this is an innovative and practical solution for providing the right levels of protection to key employees without straining company benefits budgets or resources. But it is one that is often overlooked. By closing the gaps between the coverages that their key employees need and what the existing group plans provide, employers can achieve significant advantages for themselves and for their key employees. Two executive carve-out solutions that help to address the challenge of meeting the unique needs of highly compensated employees are Individual Disability Income (IDI) Insurance, and Group Variable Universal Life (GVUL) Insurance programs. 9
Individual Disability Income Insurance When combined with a group long term disability plan, an IDI policy provides the highly compensated employee with the opportunity to insure income beyond the group plan maximum. At the employer s discretion IDI also covers other sources of compensation such as bonuses, and has the added advantage that when an employee pays premiums with after-tax dollars, the benefits received are tax-free. These programs can often be implemented for as few as five employees and the premium can be paid as a bonus to the employee. Implementing an IDI program is relatively uncomplicated; it may be issued with limited underwriting, may require no medical exams, and there is an easy application process. An added benefit is that the policies issued under the IDI program and any premium discounts, are portable and coverage can often be customized with options such as a cost of living adjustment and/or a catastrophic disability benefit. Example: How IDI Gives Highly Compensated Employees Protection Parity With Other Employees If Jane Smith had an IDI policy that provided a tax-free benefit of $1,700 per month ($20,400 per year), this, when combined with her after-tax group LTD benefit, would result in a total disability income replacement of $5,300 per month ($63,600 per year) or 77% of her pre-disability net income. A far more advantageous situation than the previous 52%. Example $100,000 Gross Salary + $15,000 Bonus $82,800 Net Income $5,000/mo ($60,000/yr) Gross LTD Benefit $1,700/mo ($20,400/yr) Supplemental DI $3,600/mo $43,200 Net LTD Benefit Supplemental DI & LTD Coverage Now Replaces 77% of Net Income Is 52% of Your Net Income Enough?? Assumptions: LTD covers salary only, 60% to a max of 5,000/mo. Taxable LTD benefit based on 70% total income replacement less the group LTD benefit up to the maximum IDI benefit in the supplemental IDI program. Supplemental IDI policy is employee-paid with after-tax dollars. All income figures are annual. Net amounts shown are after taxes assuming a 28% tax rate. 10
Group Variable Universal Life Group Variable Universal Life (GVUL) insurance provides a different type of life insurance solution for the different protection, estate and tax planning needs of highly compensated employees. GVUL is an enhanced permanent life insurance product that generally offers access to higher plan maximums than the typical group term plan, so it can better accommodate the needs of the highly compensated. In addition to life insurance coverage, GVUL also includes an optional tax-advantaged investment opportunity that the highly compensated can leverage to accumulate money for retirement, medical expenses or other financial needs. High earners who have maxed out on their 401(k) contributions can invest after-tax dollars in GVUL s variable (equity-based) and interest-bearing investment options selecting the options that best fit their personal risk tolerances. Potential earnings are tax-deferred and employees can access cash value at any time, for any reason, typically with no penalties or surrender charges. A further advantage is that the death benefit is tax free. Conveniently, GVUL provides solutions for two concerns using one single product; life insurance that offers higher coverage amounts and portability, and a flexible, tax-advantaged, investment option is a desirable benefit in uncertain times. In general, if the funding of your certificate exceeds certain limits it will become a modified endowment contract (MEC) and become subject to earnings first taxation on withdrawals and loans. An additional 10% penalty for withdrawals and loans taken before age 59½ will also generally apply. We will notify you if a contribution would cause your certificate to become an MEC. Withdrawals will reduce your cash value and death benefit. 11
Advantages for Employers Executive benefits that satisfy the income protection needs of highly compensated employees have advantages for employers also. When employees are confident that they and their families are properly protected from financial risk they enjoy peace of mind and are likely to be more focused and more productive at work which benefits the company. 11 Furthermore, executive carve-outs deliver higher employee satisfaction at low cost in comparison to many other benefits and HR resources are minimal, helping CFOs better align their benefits objectives. Over time, income protection coverages could become an even more important part of the total executive compensation package. Government legislation, such as the Dodd-Frank Wall Street Reform and Consumer Protection Act, may increase regulation and oversight of some components of executive compensation packages. 12,13 Employers may find that executive benefits can provide a more publicly palatable vehicle for delivering discretionary or hiring bonuses to key employees. Yet for all these advantages, nearly half of U.S. companies do not provide ANY executive benefits as a carve-out to highly compensated employees only from 24% for companies with 1,000 or more employees to 62% of companies with fewer than 1,000 employees. 14 There is clearly an opening for companies of all sizes to capitalize on this untapped opportunity. 12
Conclusion Closing the gaps between the income protection coverages required by highly compensated employees and the coverages provided by typical group benefit plans can make a significant difference to the company s ability to compete for the critical skills that they need. Human resource professionals who are prepared to think outside of the box and explore the potential advantages and opportunities that IDI and GVUL solutions could bring to their benefits programs, could not only be providing better benefits but may also be doing so within their cost constraints. And that is a win-win for all. 13
References 1 For the purposes of this paper, highly compensated is defined as employees earning $100,000 or more. 2 Sullivan, Dr. J., Emerging Talent Acquisition Trends for 2010: Are you Ready for a Roller Coaster? January 4, 2010. http://www.ere.net/2010/01/04/emerging-talent-acquisition-trends-for-2010-are-you-ready-for-a-roller-coaster-part-i-of-iii/ 3 Ashford, S. and DeRue, S., Five Steps to Addressing the Leadership Talent Shortage, Harvard Business Review, June 2, 2010. 4 Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. 5 Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. 6 Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. 7 Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. 8 Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. 9 Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. 10 Hay Group Research Benefits Prevalence Report, 2009. 11 Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. 12 Kuhnen, C. M., Niessen, A., Public Opinion and Executive Compensation, June 2010. 13 Bell, A., Dodd Frank: SEC Writes Executive Comp Disclosure Regs, October 19, 2010. 14 Based on raw data collected in connection with MetLife s 8th Annual Study of Employee Benefits Trends, 2010. For purposes of this statistic, executive benefits includes GVUL, IDI, Optional/supplemental life insurance, long term care insurance, financial planning, estate planning, Executive Deferral plan, Supplemental Retirement Plan, Executive Life insurance plan (split dollar, bonus plan) and stock related awards. Prospectuses for Group Variable Universal Life insurance can be obtained by calling (800) 756-0124. You should carefully consider the information in the prospectuses about the contract s features, risks, charges and expenses, and the investment objectives, risks and policies of the underlying portfolios, as well as other information about the underlying funding choices. Please read the prospectuses and consider this information carefully before investing. Product availability and features may vary by state. All product guarantees are subject to the financial strength and claims-paying ability of the issuing insurance company. Cash value allocated to the variable investment options is subject to market fluctuations so that, when withdrawn or surrendered, it may be worth more or less than the amount of premiums paid. The information in this update is not intended to constitute legal advice and should not be relied upon in lieu of consultation with appropriate legal advisors in your own jurisdiction. 1112-4758 1900031485 2012 METLIFE, INC. L1211227802[exp1212][All States] PEANUTS 2012 Peanuts Worldwide Metropolitan Life Insurance Company 200 Park Avenue New York, NY 10166 www.metlife.com