After a person has activated their short term disability policy, many questions come to mind about the income they begin to receive. As always, it is better to determine the answers to these questions before you need them. Since this type of policy is not regulated in many states, it can be difficult to give hard answers to some of the most common questions. Fortunately, questions about taxes have very solid answers that you should know before you need to utilize this type of policy.
Short-term disability policies provide income to employees who have suffered injuries or illnesses that require them to avoid work for long periods. This sort of insurance is meant to bridge the gap between sick days, which rarely amount to accumulations of more than a couple of weeks, and long-term policies for disability which generally address very grave illnesses and bodily damage, such as cancer or injuries to the spine. When you have to rely on this sort of emergency income for an extended period, taxation is a valid concern.
Whether or not you pay taxes on the income that you receive from disability insurance depends on how you acquired the policy. Some employees pay for these policies out of their own pocket and merely use their employer as a conduit to the insurance company providing coverage. Others receive the coverage from their employer as a complementary part of their employment package. These latter employees rarely need to even think about their policies because their employers manage and pay for these plans.
If you pay for your plan with your own money, then you can answer this question by looking at your paycheck stub, whether you receive the check physically or just as a copy resulting from a direct deposit to your bank account. If the funds that your employer directed to pay for short-term coverage were included in the taxed portion of your paycheck, then you have already paid your taxes. The government cannot tax the same income twice. If you ever need to receive income from a policy like this, you will not have to worry about taxation.
However, if your policy is funded with a portion of your paycheck that is applied before taxes are calculated and removed from your salary, you will be taxed when these funds are distributed after an accident or injury. They will most likely be taxed upon payment, just like they are when you receive your salary. If your employer pays for this coverage out of his own pocket, then you will also be taxed for these payments when they are actually made.
You have to pay taxes on income at some point. Often the choice is up to you and you can decide which approach is better for you economically. If you exclude the disability premiums from taxation, you reduce your taxable income while you are healthy. You may not need the insurance and you can avoid paying taxes on a policy that you do not use this way. However, if you pay taxes on it ahead of time, it will relieve you of one more concern while you are recovering.