What Is Group Term Life and How Does It Work?

Group term life insurance is a common workplace benefit designed to provide financial protection for employees and their families. This type of insurance offers a death benefit to designated beneficiaries if an insured employee passes away during the coverage period. It serves as a valuable component of an employee benefits package, offering peace of mind through employer-sponsored financial security.

Understanding Group Term Life Insurance

Group term life insurance is issued under a single master policy to an employer, covering a group of employees. As “term” insurance, it provides coverage for a specific duration, which usually corresponds to the period of employment. It does not accumulate cash value over time, serving solely to pay a death benefit without an investment component.

Employers often play a significant role in funding group term life insurance, frequently covering all or a substantial portion of the premiums for a basic level of coverage. This employer contribution makes the benefit highly accessible and often free for employees, enhancing its appeal as a cost-effective form of life insurance. Eligibility for coverage commonly depends on employment status, such as being a full-time employee, and may include a short waiting period before coverage begins. For basic coverage amounts, enrollment does not require a medical examination or extensive health questionnaires.

Coverage amounts under group term life policies are determined in various ways, often based on a multiple of an employee’s annual salary, such as one or two times their earnings. Some policies may provide a flat amount of coverage for all employees, while others might link coverage levels to job classification or seniority. The specific method for calculating coverage is outlined in the employer’s policy documents.

Taxation of Group Term Life Insurance

The tax treatment of group term life insurance is a significant consideration for both employers and employees. Under Internal Revenue Code Section 79, the cost of the first $50,000 of group term life insurance coverage provided by an employer is tax-free to the employee. Employees do not have to report this amount as taxable income.

If an employer provides group term life insurance coverage exceeding $50,000, the cost of the coverage above this threshold is considered “imputed income” to the employee. This imputed income represents the economic benefit the employee receives from employer-paid premiums for the excess coverage, even though the employee does not directly receive cash. The employee is taxed on this calculated amount as if it were additional wages. This imputed income is subject to Social Security and Medicare taxes (FICA), though it is not subject to federal income tax withholding.

The calculation of this imputed income is determined using the IRS Uniform Premium Table (Table I rates), which specifies a cost per $1,000 of coverage based on the employee’s age. To calculate the imputed income, the employer subtracts $50,000 from the total coverage amount, divides the remaining amount by $1,000, and then multiplies that figure by the applicable Table I rate for the employee’s age bracket. For instance, if an employee aged 40 has $70,000 in coverage, the excess is $20,000. This $20,000 is then multiplied by the Table I rate for a 40-year-old to determine the imputed income.

Employers are required to report this imputed income on the employee’s Form W-2 in Box 12, using code “C.” There are specific exceptions to the $50,000 limit, such as when a qualified charity is the sole beneficiary for the entire policy term, or when the employer is the beneficiary of the policy. Group term life insurance provided under a qualified retirement plan may also be subject to different tax rules.

Key Features and Employee Considerations

Group term life insurance policies often include features that provide flexibility and continued coverage options for employees. One such feature is portability, which allows an employee to continue their group term life insurance coverage after their employment ends, such as when changing jobs or retiring. While portability offers continued protection, the employee assumes the full cost of the premiums, which can be higher than the subsidized rates received during active employment.

Another important option is conversion, enabling an employee to convert their group term life policy into an individual permanent life insurance policy, such as whole life insurance, upon leaving their employer. This conversion can be done without requiring a medical examination, guaranteeing coverage regardless of the individual’s health status at the time of conversion. However, converting to an individual permanent policy results in significantly higher premiums compared to the group term rates, reflecting the change in policy type and the individual nature of the coverage.

Designating beneficiaries is a crucial step for any employee covered by group term life insurance. Employees must clearly name the individuals or entities who will receive the death benefit in the event of their passing. Regularly reviewing and updating beneficiary designations ensures that the policy proceeds are distributed according to the employee’s current wishes.

Many employers also offer employees the opportunity to purchase supplemental or voluntary group term life insurance coverage in addition to the basic employer-provided amount. This optional coverage allows employees to increase their total life insurance protection, often at competitive group rates. While basic coverage does not require medical underwriting, higher amounts of supplemental coverage may necessitate a health questionnaire or medical examination.