Disability insurance is a type of insurance that allows individuals to protect themselves financially in case they become unable to work because of sickness, injury, or other disability. There are two main types of disability insurance: (1) short-term disability insurance; and (2) long-term disability insurance. Employers may choose to offer one or the other, or both. Disability insurance is a benefit that many employees consider valuable, and employers can provide it at little or no cost.

Short-term disability insurance. Short-term disability insurance programs usually run from 30 to 90 days, but some may continue for longer. Benefits vary under short-term programs and usually range from about 60 percent to 70 percent of an employee's predisability income, subject to a weekly maximum. Additionally, there may be a waiting period before employees are eligible to receive short-term benefits.

Long-term disability insurance. Long-term disability insurance programs generally take over after short-term benefits have been exhausted. Benefits usually cover a percentage of an employee's pay (e.g., 60 percent of an employee’s predisability income) and may be subject to a monthly maximum. Long-term disability benefits are typically reduced by the amount of Social Security disability benefits and/or workers’ compensation benefits that the employee may receive.

Other types of plans. Employers may also provide wage and salary continuation plans or integrated disability programs.

Disability insurance plans have a number of common characteristics and design variations that employers need to consider when establishing a program. Plan design will affect the cost of the coverage, how valuable it is perceived to be by employees, and how it fits into the overall benefits strategy of the employer. These factors have to be weighed when adopting or revising a disability insurance program:

Eligibility. Plans are typically limited to active full-time employees and should specify the number of hours employees are required to work to be eligible for benefits.

Premiums. Employers or employees may pay the premiums for disability coverage, or they may share the premium costs.

Coverage. The plan will provide details on the maximum benefit amount that employees are eligible to receive under the plan (e.g., 60 percent of an employee’s predisability income).

Defining disability. The plan should include the definition of disability that will be used to determine whether an individual is eligible to receive benefits under the plan.

Partial disability coverage. A plan may provide partial disability coverage that applies when an employee is able to work part-time or return to work on a restricted basis. Such coverage may be advantageous to employers because it encourages employees to return to work sooner.

Disability insurance plans are welfare benefit plans subject to the requirements of the Employee Retirement Income Security Act (ERISA). Plans must be in writing and must meet the reporting and disclosure requirements of ERISA. A disability insurance plan must include a claims procedure that is explained in the plan's summary plan description.

Enhanced claims procedure requirements. Stricter claims procedure requirements apply to disability plans than apply to many other ERISA plans (except for even stricter rules for health insurance plans). Disability claims must generally be decided within 45 days with the possibility of two 30-day extensions for circumstances beyond the plan's control. Any adverse benefit determination must include the specific reason or reasons for the denial.

Disability claims submitted after April 1, 2018, are subject to new, stricter procedural requirements, under regulations that the U.S. Department of Labor finalized on December 19, 2016 (81 Fed. Reg. 92316).

The rules impose detailed requirements on the claims and appeals process. A plan must avoid conflicts of interest, and if a claim is denied, the denial notice must include a sufficient explanation of the rationale—especially if the plan’s findings differ from those of the beneficiary’s treating healthcare provider, or from a disability determination made by the Social Security Administration.

The beneficiary must be given full access to their claim file on request. The rules also afford new rights to appeal an adverse decision and to seek review in court. In addition, the set of adverse disability requirements subject to these procedures now includes retroactive rescissions of coverage. Please see the Benefits Recordkeeping and Disclosures section.

Practice tip: Plans should provide that the plan administrator has discretion to interpret the plan and determine benefit eligibility. Such a provision protects a plan in the event of a lawsuit for benefits, because courts will generally reverse the administrator's decision only if they believe it was arbitrary or capricious. If such discretion is not specifically granted, a court will review the claim from scratch and substitute its own judgment for that of the plan administrator. Even with such a provision, it is important to follow the plan's claim procedures exactly. If the claims procedure requirements are not completely followed in a particular case, a court may not defer to the plan administrator's determination.

The federal Age Discrimination in Employment Act makes it illegal for employers to deny long-term benefits altogether based on age. For example, it is illegal to deny all long-term disability benefits to employees over the age of 65. However, according to the Equal Employment Opportunity Commission (EEOC), it is legal to reduce either the level or the duration of benefits for older workers so that the cost of benefits provided older workers is equal to the cost of those provided to younger workers. The EEOC has specifically ruled that it is permissible to reduce the duration of benefits in either of the following ways:

If employees pay disability insurance premiums themselves, with after-tax dollars, any benefits received will be tax-free. If the employer pays the premiums, the benefit payments are taxable to the employee. This means that when the employee pays the premium, less income has to be replaced for the employee to maintain the same standard of living while disabled.

The FMLA requires that employers with 50 or more employees give unpaid leave of up to 12 weeks per year to employees with “serious health conditions.” Please see the national Leave of Absence section. What constitutes a disability under a short-term disability plan and what constitutes a serious health condition under the FMLA may overlap. FMLA programs and disability programs should be coordinated, and employers should inform employees requesting leave for a serious health condition that (1) FMLA leave (if applicable) is unpaid, and (2) to the extent a serious health condition is also a disability under the short-term disability policy, an employee may be entitled to income replacement under the short-term disability plan.

By referring to the disability policy, an employer puts an employee on notice that FMLA leave taken for a serious health condition may also trigger disability benefits.

Substitution of paid leave. Final FMLA regulations indicate that leave taken pursuant to a disability benefit plan would be considered FMLA leave for a serious health condition and counted in the leave entitlement permitted under the FMLA, if the situation otherwise meets the criteria for FMLA leave. In such a case, the employer may designate the leave as FMLA leave and count the leave against the employee’s FMLA leave entitlement.

In addition, the FMLA regulations permit an eligible employee to choose to substitute accrued paid leave (such as sick, personal, or vacation leave) for FMLA leave. If an employee does not choose to substitute accrued paid leave, the employer may require the employee to substitute accrued paid leave for unpaid FMLA leave. This means the paid leave provided by the employer would run concurrently with the unpaid FMLA leave. But because leave pursuant to a disability benefit plan is not unpaid, the regulation provides that neither the employee nor the employer may require the substitution of paid leave. Employers and employees, however, may agree, unless prohibited by state law, to have paid leave supplement the disability plan benefits, such as in the case in which a plan provides replacement income for only two-thirds of an employee’s salary (29 CFR 825.207).

Disability plans generally require a statement verifying an illness or injury before approving disability income coverage. Authorization is required for a healthcare provider to provide such information directly to a disability plan. Refusal to authorize the release of information needed to process a disability claim could be grounds for denying the claim. Employers may want to amend their disability policies to require that employees complete an authorization in order to be eligible for benefits.

Health insurance plans are covered by the Health Insurance Portability and Accountability Act (HIPAA). Thus, information that a health plan has may not be used to resolve a disability plan claim. This may be difficult to do when the person responsible for administering both plans is the same individual. In such an event, the plan administer should make sure that the disability plan obtains medical information independently from the health plan.

Whether or not an organization has disability coverage, employees do become disabled. Therefore, all employers should be prepared to deal with the following matters:

Job protection. Federal law does not currently require that jobs be held open for disabled workers, and most employers do not make it a practice. Employees returning from leave covered by the FMLA, however, must be offered the same or equivalent positions. In addition, the Americans with Disabilities Act, which covers employers with 15 or more employees, may require employers to modify jobs so that disabled employees can return to work sooner. If employers do hold jobs open or modify jobs for some workers and not for others, they may be susceptible to discrimination charges. The Human Resources department should make decisions on modifying jobs or holding them open and maintain detailed records on why some jobs have been so treated and others have not.

Insurance premiums. Most employers require employees to begin paying 100 percent of their basic health insurance premiums within the first year of disability. Whatever the time period, employers should establish a firm policy that spells out when disabled workers must start paying healthcare premiums for themselves and their dependents. This will eliminate another possible basis for charges of favoritism and discrimination.

Termination. Employers should also have a policy that details when disabled employees are to be terminated. A typical practice is to terminate such an employee after 1 year of disability, although some organizations wait much longer. It costs relatively little to keep a disabled worker on a disability leave of absence, and it gives workers a feeling of security to know that they are still employees.

A few jurisdictions (California, Hawaii, New Jersey, New York, Puerto Rico, and Rhode Island) have laws providing for income replacement when a worker is disabled for reasons that are not related to the job. The amount of employee contributions and the amount of benefits vary with income. In all six of these jurisdictions, employers may offer benefits that go beyond those provided by the state programs, but those benefit packages should be designed with careful consideration of the contents of the state programs.

Numerous factors must be considered when implementing a disability insurance policy. Use the following checklist to evaluate your policy.