Risk Topic 8 - Managing Human Capital Risk

Employee Benefits

Any type of compensation other than direct current salary or wages

Total compensation = Current wages(cash) + Value of EE Benefits

EE - employee

ER - employer

Why Employee Benefits Are So Important

- Spend high $$ on EE benefits (Approx - 40% of payroll)

- Rate of increased cost is high - growing much faster than cash wages

---results in labor strikes

---serious financial impacts for employers

What are the benefits of offering employee benefits?

- Attract and retain capable employees

- Tax advantages

- Productivity and better EE relations

- ER can take advantage of group insurance

Benefit Financing (Non-Contributory)

- ER pays full cost of plan

- EE is covered without making a financial contribution

- All eligible EE's must be covered

- Eligibility = Participation

Benefit Financing (Contributory)

-ER and EE share in the cost of the plan

-For an eligible EE to become a participant, they must make a financial contribution

Benefit Financing (Voluntary)

EE pays the entire cost of the insurance plan

Section 125 Plans (Cafeteria Plans)

- ER sponsored benefit plan that gives employees access to certain taxable and non taxable pretax benefits

- Employees contribute a portion of their salary on a pretax basis to pay for the qualified benefits.

----That portion is not considered wages for federal income tax purposes

- Cafeteria plan contributions are not usually subject to FICA taxes, SUI taxes and Workers Compensation premium

- ER can deduct the cost of EE benefits as an ordinary business expense (same as salary)

Taxes treatment of EE benefits

- The EE is sometimes not taxed on the value of their ER provided benefits

- Method to compensate on EE tax free (for some benefits)

EXAMPLE: suppose EE has choice between $5000 in cash or insurance;

ER View: health insurance same as $5k increase in salary, both tax deductible

EE View: Cash creates tax liability

Flexible Spending Account (FSA)

- An EE agrees to reduce their salary pre-tax by a certain amount and money is deposited into an FSA

- Three types: Healthcare (certain procedures not covered by medical plan, copayments), Dependent Care (child/elder), Transportation (public transit or parking)

- Any unused funds at the end of the plan year remaining in an FSA are forfeited to the ER; used to fund administrative costs of FSA (use it or lose it rule)

Problems with FSA

- ER is at risk in medical care account because funds are available immediately

- FSA Maximums:

---Medical max is $2,500 set per IRS

---Dependent/Transportation max is $5000 set per IRS

Section 125 Plans Tax Treatment

- Favorable tax treatment exists only for qualified plans

- Doesn't discriminate in favor of key EE's or highly compensated EE's (HCE)

- IRS sets the guidelines

Mandated/Compulsory Benefits

- AKA social insurance programs

- Common Traits

---Mandate participation (required)

---Require the employer to act in a risk bearing capacity to provide insurance and/or pay benefits

---Include Social Security, Workers Comp, and Unemployment Compensation Insurance

Group Insurance

- Group insurance (GI) vs. Individual Insurance (II)

- Exposure unit is a group of individuals

---Insure group as a whole

---No individual underwritings

---Look at broad characteristics of group to determine rates

-Usually experience related

---Premium/rate is now based upon past claims experience of group

---Low claims = save in rates

---High claims = penalized

---Provides on incentive to control losses

Group Insurance Advantages

- Rates are generally lower than individual insurance

- For same level of expected cost, group insurance is less expensive per EE than individual insurance

- No individual underwriting (helpful if bad risk)

- Commissions tend to be lower

- ER helps to collect money

---creates possible adverse selection issue

Methods to Control Adverse Selection

1. Waiting periods

- Period of time an EE must work before being covered by EE

2. Pre-existing condition exclusions (PCEs)

- Condition that has been treated and a claim filed for with an insurer

3. Minimum Participation Requirements

- Insurer may require a minimum % of eligible EE's be covered under the group plan

4. A minimum group size

5. Steady flow of persons through group

6. Reasons group exists

- Group should exist for a reason other than purchase of insurance

Disadvantages of Benefit Plans

1. Coverage may be temporary (stops when you leave job)

-An EE leaves the group - coverage might terminate

2. Married with children

- people with families are over compensated