In 2015, the CRA (Canada Revenue Agency) updated its disability benefit tax withholding requirements. The changes impacted the method of calculating taxable disability benefits for both STD (short-term disability) and LTD (long-term disability) plans.
Traditionally, STD and LTD benefits would be taxed when you file your annual income tax returns. This meant income tax was not deducted during issuance of STD or LTD payments. From January 2015, CRA requirements are now that STD and LTD payments have to be taxed at the time the payments are issued.
STD and LTD Wage Loss Replacement Plans (WLRPs), which insures employees against loss of employment income following disability, accidents, or sickness, are generally subject to tax when the employer is the one making contributions and are to be reported on line 104 of your T1.
On the other hand, STD and LTD plans that fall under income-replacement benefits, which are payments made to persons who are unable to work as a result of auto accidents, are normally not taxed. Income replacement benefits are offered as part of SABs (Statutory Accident Benefits), which are a requirement in Ontario with all auto insurance.
If the employee is making the full premium payments for his/her STD or LTD plan, they are not taxed. When you are paying your own LTD insurance premiums, you are using “after-tax” dollars. This means you do not get to reduce your income tax to cater for the premiums you have paid for disability insurance.
When you get disability benefits under an insurance plan for which you were paying all the premiums, the benefits will generally not be taxed.
In Canada, you are normally taxed on all compensation you receive from your employer. It does not matter what the compensation was for. This includes salaries, wages, employer-provided parking, and one-time bonuses.
Although the employer does not have to pay tax on premiums paid to cover you under a group LTD or STD insurance policy, there is a trade-off. You will have to pay tax on any benefit you get under such a policy in case of disability.
To account for this, the premiums the employer pays for you need to be added to your income through payroll deductions or as a lump sum on your T4 at the end of each year.
Note that if group disability insurance premiums are shared between you and your employer, then you are entitled to get benefits equal to your own contribution on a non-taxable basis.
If you qualify for a non-taxable plan, you must be legally obliged to pay the full premium and this must happen in practice. To demonstrate that the payment of premiums is happening in practice, your employer must show the premiums are accounted for through payroll deductions/records.
LTD benefit taxation is clearly complex. Good long term disability lawyers in Toronto will have the training and experience necessary to get the most out of your LTD insurance plan and to appeal to the insurer in case you feel you have been denied your dues.
Learn more about Short Term and Long Term Disability.