It can be very unsettling for both employee and employer when someone is injured and needs to file a disability claim. In many cases both employee and employer will need to pay additional taxes on the benefit dollars paid out in claims - as if having an injured employee wasn't enough.

When an employer offers the convenience of withholding disability insurance policy premiums from employee paychecks on a pre-tax basis, any benefit dollars paid to the employee by the insurance carrier are taxable at the time they are paid, meaning they are subject to both income and payroll taxes. In other words, upon receiving disability benefits, payroll (mainly social security and medicare) and income taxes will be withheld from the employee's benefit check, AND the employer is responsible for its share of the payroll taxes on those benefit claims (social security, medicare and unemployment taxes).

However, if the employer withholds the disability premiums on an after-tax basis, benefit dollars paid out for claims are not subject to taxes!

Most employees will never have a disability claim, and if they never do, they will have lost the pre-tax advantage for the premium costs. However, for the employee who has a claim, and the employer, the tax advantage clearly goes to providing disability coverage as an after-tax benefit.

Good news for all you employers out there that have been providing this benefit to your employees and withholding premiums pre-tax, you can elect to change to the after-tax method at the beginning of the next payroll year with any claims made after that date completely tax-free.

Please be sure to consult your professional tax advisor and insurance agent before making any changes.