If you earn $400,000 or more and assume your employer’s long-term disability plan has you covered, the arithmetic is probably worse than you think. Group LTD was designed around the median employee, not around partners, producers and C-suite executives whose pay is mostly bonus, and the disability insurance gap that results routinely leaves high earners replacing 25% to 35% of their actual take-home income. At Margolis & Associates we can walk you through exactly where the shortfall comes from and how individual coverage is layered on top.
What Group LTD Actually Promises (and What It Delivers)
Almost every group plan is marketed with the same headline: 60% income replacement. That number is accurate only in the narrow sense that it describes the formula before three separate reductions get applied. Those reductions compound, and they compound hardest at the top of the pay scale.
- The definition of covered compensation usually excludes bonus, commission, K-1 distributions and equity comp.
- The monthly maximum benefit caps the payout regardless of what your salary calculation produces.
- Income taxation applies to the full benefit when the employer pays the premium, which is the case in the vast majority of plans.
Any one of these would be manageable in isolation. Stacked together, they turn a 60% promise into something closer to a quarter of what you actually earn.
Gap One: Base Salary Only
Read your certificate of coverage and look for the phrase “basic monthly earnings” or “covered earnings.” In most plans it means base salary as of a fixed date, excluding overtime, bonuses, commissions and employer retirement contributions. A managing director whose W-2 shows $250,000 in base and $600,000 in bonus is insured on $250,000.
For partners in law firms, medical groups and accounting practices, the problem is sharper still, because guaranteed payments and distributive share often fall outside the plan’s definition entirely. I have reviewed plenty of partner-level certificates where the covered earnings figure bore almost no relationship to the K-1.
Gap Two: The Monthly Cap
Group plans nearly always impose a maximum monthly benefit. In the New York metro market, typical caps land between $10,000 and $25,000 per month, with $15,000 being extremely common at mid-size firms. Some smaller employers still carry $6,000 or $8,000 caps that have not been revisited in a decade.
A $15,000 cap equals $180,000 a year. If your household spending assumes $700,000 of gross income, the cap alone erases the 60% promise long before taxes enter the conversation.
Gap Three: Pre-Tax Premiums Create Post-Tax Pain
This is the piece most executives have never had explained to them, and it is the single largest driver of the shortfall. The tax treatment of a disability benefit follows the tax treatment of the premium.
- Employer pays the premium with pre-tax dollars: the monthly benefit is fully taxable as ordinary income to you.
- You pay the premium with after-tax dollars: the benefit arrives income tax free.
- Split arrangements: the benefit is taxable in proportion to the employer-paid share.
The IRS spells this out in its guidance on taxable and nontaxable income, and the rule is not discretionary. Because the employer deducts the premium as a business expense, the benefit becomes taxable compensation on the back end.
For a New York City resident, the combined federal, New York State and city marginal rate on a large disability benefit commonly runs 42% to 48%. That is a very expensive way to save a few hundred dollars of premium.
A Worked Example: The $600,000 Executive
Consider a 47-year-old executive in Manhattan earning $300,000 base and $300,000 bonus, covered by a standard group plan: 60% of base salary, $15,000 monthly cap, employer-paid premium.
- 60% of covered earnings ($300,000 base) equals $180,000 a year, or $15,000 a month.
- The cap is $15,000, so the benefit is not reduced further. Gross benefit: $180,000.
- Taxed at a combined 45%, the net benefit is roughly $99,000.
- Against $600,000 of gross earnings, that is about 16.5% income replacement.
Sixteen percent. Not sixty. And if the plan offsets for Social Security Disability Insurance or state disability benefits, which most do, the insurer’s payment drops further while the household’s need stays exactly the same.
Gap Four: The Definition of Disability
Group contracts typically pay under an “own occupation” standard for the first 24 months, then switch to an “any occupation” standard. After that switch, benefits can stop if you are capable of working in any job for which you are reasonably suited by education, training or experience.
A surgeon with a hand tremor can teach. A trial attorney with a cognitive impairment can consult. Under an any-occupation definition, that capability can end the claim even though earning capacity has collapsed. Quality individual policies offer true own-occupation language to age 65 or 67, which is a materially different contract.
How Individual DI Closes the Gap
The solution is not replacing group coverage. It is layering an individually owned policy on top of it, so the group plan absorbs the first slice of need and the personal policy covers the taxable shortfall and the excluded bonus income.
- Supplemental Individual DI: Personally owned, premiums paid with after-tax dollars, benefits received tax-free. When structuring disability insurance in NYC, carriers will generally underwrite to a combined replacement ratio in the 60% to 75% range of total compensation.
- Guaranteed Standard Issue (GSI): available when an employer or partnership enrolls a group of executives, typically 5 or more lives. Coverage is issued with no medical underwriting, which matters for anyone with a health history.
- High-limit excess DI: surplus-lines and Lloyd’s markets can add $10,000 to $100,000+ of monthly benefit above what domestic carriers issue, appropriate for earners above roughly $1 million.
- Business overhead expense and buy-sell DI: for owners and partners, these cover fixed practice expenses and fund a disability buyout of an equity interest.
- Riders worth paying for: true own-occupation, residual or partial disability, future increase option, and cost-of-living adjustment.
Frequently Asked Questions
How much of my income does group LTD really replace?
For most high earners, the real net replacement lands between 15% and 35% of total compensation, not the advertised 60%. The gap comes from base-salary-only definitions, monthly caps and full income taxation of employer-paid benefits.
Can I make my group LTD benefit tax free?
Yes, if your employer offers a “gross-up” arrangement where the premium is added to your W-2 as imputed income, typically costing you tax on a few hundred dollars annually. The benefit then arrives income tax free, which is one of the highest-return benefit decisions available to an executive.
How much individual coverage can I qualify for on top of group?
Carriers generally underwrite total coverage to 60% to 75% of gross earnings, counting the after-tax value of the group benefit. A $600,000 earner with a taxable $15,000 group benefit can often add $8,000 to $12,000 per month of individual coverage.
Find Out What Your Real Replacement Ratio Is
If you want to know what your coverage actually delivers when you account for monthly caps, bonus exclusions, and taxes, we can help. We will analyze your current group certificate alongside your compensation structure to calculate your true after-tax replacement math,and show you exactly what a supplemental layer would cost to protect your full earning power. Contact Margolis & Associates today to get started.
