Disability can derail retirement security, but many people do not realize that. In a world where retirement benefits are increasingly provided through defined contribution (DC) plans, disability is a major financial and life-altering risk facing most adults throughout their work life. However, many employees are not aware of how serious a risk it is, both to them and their family.
Traditional defined benefit (DB) plans often included some element of disability protection, but as more employers have moved to DC plans as their primary retirement vehicle, protection of retirement savings in the event of disability is generally not provided. A period of disability usually means no more retirement savings, and it may mean that accumulated savings are withdrawn and spent for immediate expenses, and some plan sponsors do not focus on how disability can threaten the retirement security of their employees.
The 2012 ERISA Advisory Council studied this issue in their report, Managing Disability Risks in an Environment of Individual Responsibility. In a DC plan covered by ERISA, the Council found gaps in disability coverage and barriers to offering continued accrual of pension contributions during disability.
In addition to the concerns about retirement savings in a DC plan, there are other important concerns about disability coverage today:
- Far too many individuals do not fully understand the risk of becoming disabled during their working years. Consequently, they often do not appreciate disability coverage. They are also unlikely to understand how it works, and some will be surprised by how offsets affect the benefit paid.
- Gaps in coverage are significant with only 31% of the labor force covered by employer-sponsored long term disability (LTD) benefits.
- While the primary offset under a disability plan is Social Security disability benefits, in other cases the benefits are offset by other sources of income. I was surprised to hear about some of the types of offsets experienced by the clients of the plaintiffs’ attorneys who testified before the Council.
- While economic security initiatives for the disabled should include both income protection and back-to-work support, current conflicting definitions of disability and back-to-work policies do not always work well together to meet the desired overall goal.
- The complex nature of many disability coverage contracts and the administration of these contracts have often resulted in the insured, and sometimes the sponsoring employer, misunderstanding the details of the coverage.
The Council report offered several recommendations to the Department of Labor (DOL), including expanded outreach and education on the topic of disability benefits and issues for the public, employees and employers who sponsor benefit plans. The recommendations also include a review of the DOL claims regulations as they apply to disability claims to see if they should be updated.
The recommendations also request guidance for plan sponsors and administrators on several topics: (a) permissibility of auto-enrollment for employee contributory LTD plans; (b) characterization of long term disability benefits as welfare benefits without regard to retirement age; (c) payment of insurance premiums for continuing retirement contributions during periods of long-term disability in DC plans, including whether a default feature is appropriate. Clarifying item (a) may help improve coverage. Items (b) and (c) address issues that are linked to the problem of protection of retirement savings on disability where the primary retirement plan is a DC plan.
The Council report also commented on several other issues that are important from a policy point of view and need some attention paid to them. First, is the ambiguity regarding the tax treatment of benefit plan provisions permitting continued accumulation of DC plan retirement savings during the period where the participant is suffering from a disability. Second, multiple definitions of disability create confusion and can be a barrier to the ability of an individual to return to work. Third, the Council report comments on offsets to Social Security benefits and the fact that they are not always understood or expected.
I served on the ERISA Advisory Council during 2012 and worked on the disability topic. This article represents my personal views and not those of the Council.
Tune in next week when I will share my continued observations on this topic.
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