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Group life insurance conversion and contribution

Two questions every group life plan must answer

Group life insurance is issued as a master policy to a sponsor -- usually an employer, but also a union, trust, or association -- while each covered person receives a certificate of insurance rather than an individual policy. Because the coverage belongs to the group rather than the insured, two mechanics matter enormously in practice: who pays the premium (contribution) and what happens to the coverage when the insured leaves the group (conversion).

A two-part diagram. The top part is titled who pays the premium. On the left, two stacked boxes. The first, noncontributory: employer pays one hundred percent of premium, all eligible employees must be covered, no individual underwriting. The second, contributory: employer and employee share cost, minimum participation required such as seventy five percent, late enrollees must give evidence of insurability. Arrows from both boxes point right into a large box labeled master policy issued to the employer or sponsor, which contains a smaller box labeled certificate held by each insured employee. Beneath that, a tax note reads: cost of the first fifty thousand dollars of coverage is excluded from income, the excess is imputed income reduced by employee contributions. The bottom part is titled conversion path when coverage ends and shows three boxes connected left to right by arrows. Box one, trigger: employment or class eligibility terminates. Box two, highlighted in amber, thirty one day window: apply and pay the first premium, no evidence of insurability. Box three, highlighted in green, individual policy: permanent form, attained age premium, no coverage gap. A footer note warns that missing the window forfeits the guaranteed issue right, leaving only a normal underwritten purchase, and that if the entire group policy terminates, conversion is limited to persons insured for a stated minimum period and the converted amount may be reduced by replacement group coverage.
Contributory versus noncontributory funding, and the 31-day conversion route from group certificate to an individual attained-age policy.

Contribution: who funds the premium

A noncontributory plan is paid entirely by the employer or sponsor. Because no employee is asked to pay anything, there is no adverse-selection problem, so plans of this type are written on the basis that every eligible member must be covered -- there is nothing for the employee to decline and no individual underwriting.

A contributory plan requires the employee to pay part of the premium through payroll deduction. Since employees can now opt out, insurers protect themselves against adverse selection by requiring that a substantial percentage of eligible members enroll (commonly expressed as a minimum participation percentage such as 75 percent). Employees who enroll late or outside an enrollment window can be asked for evidence of insurability.

Remember the logic: the more of the cost the employee bears, the more the insurer must guard against only the unhealthy signing up.

Tax treatment of contributions

Under the Internal Revenue Code, employer-paid group term life premiums are generally a deductible business expense to the employer, and the cost of the first $50,000 of employer-provided group term life coverage is excluded from the employee's gross income. The cost of coverage above $50,000 is imputed income to the employee, computed from the IRS uniform premium table, and any amount the employee contributes toward the coverage reduces that taxable amount. Death proceeds paid to the beneficiary remain generally income-tax free.

Conversion: keeping coverage after you leave the group

Texas group life policies must give the insured a conversion privilege. When a person's insurance terminates because employment or membership in the eligible class ends, that person may convert to an individual policy issued by the same insurer, subject to these standard features:

  • The application and the first premium must be made within a limited window -- customarily 31 days after group coverage terminates.
  • No evidence of insurability is required. Health is irrelevant during the conversion window; this is the entire value of the privilege.
  • The premium is based on the insured's attained age and the class of risk, so it is higher than the group rate the employee was used to paying.
  • The individual policy is a permanent (cash value) form; a converted policy is not required to be issued as term insurance.
  • Coverage under the individual policy takes effect at the end of the group grace or conversion period, so there is no gap in protection.

If the entire group policy terminates rather than one person's eligibility, conversion rights are typically narrower and limited to persons who have been insured for a stated minimum period, and the converted amount may be reduced by any group coverage the person becomes eligible for elsewhere.

What the producer must do

Deliver the certificate and explain the 31-day clock at termination, since an employee who misses it loses guaranteed-issue coverage entirely. Confirm whether the plan is contributory before quoting participation requirements, and set expectations that the converted premium will jump because it is rated at attained age.

Sample questions

An employee's group life coverage terminates because she leaves her employer. Which statement correctly describes the conversion privilege available to her?

  • She may convert only if she submits satisfactory evidence of insurability within 31 days.
  • She may convert to an individual policy at the group rate she was paying while employed.
  • She must be issued individual term insurance, because a converted policy may not build cash value.
  • She may convert to an individual permanent policy without evidence of insurability if she applies and pays the first premium within about 31 days.
Preview

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