IRS Ruling Allows Employers To Alter Disability Plans

The IRS recently issued a new ruling outlining how employers can amend their group disability plans to give employees greater flexibility in choosing whether to pay federal income tax on employer-paid premiums in a given year. The ruling offers employers the opportunity to enhance their disability benefits simply by altering the terms of their plan.

Generally, an employer pays the premiums of a group disability insurance plan for eligible employees on a pre-tax basis, and the premiums are not included on the employee’s W-2 form. But the IRS Rev. Rul. 2004-55 holds that employers can offer employees the option of being currently taxed on these short- and long-term disability premiums.

This could be an attractive choice for employees who are concerned about becoming disabled, as any disability benefits received by the employee would then be excluded from his or her gross income. Employees may elect to be taxed on the premiums prior to the beginning of each plan year, but the choice is then irrevocable for the year. Taxation of disability benefits is based on whether the employee paid tax on the premiums in the year he or she became disabled, regardless of whether tax was paid in previous years.