Massachusetts Health & Accident Insurance Practice Exam

How is taxation handled for group disability insurance paid entirely by the employer?

1. Premiums are deductible, but benefits are taxable

2. Both premiums and benefits are tax-free

3. Benefits are tax-free for the employer

4. Both premiums and benefits are fully taxable

The correct answer is: Premiums are deductible, but benefits are taxable

In the context of group disability insurance that is wholly paid for by the employer, the correct understanding is that the premiums paid by the employer are deductible as a business expense. This aspect is significant because it allows the employer to reduce their taxable income by accounting for the costs associated with providing this insurance benefit to employees. However, the benefits that are paid out to employees under this type of plan are considered taxable income to the employee. When an employer pays the premiums for a group disability insurance policy, the IRS views the benefits received by the employee as a form of compensation for work. Therefore, when benefits are received by the employee, they are subject to income tax, making them taxable. This taxation guidance is essential for both employers and employees to understand, as it impacts the net income employees may receive in the event of a disability claim and the strategies employers utilize for offering benefits. Understanding this process ensures compliance with tax regulations and helps employees accurately plan for potential tax implications on benefits received.