Indemnity – Policyowner can take rider benefits up to the maximum monthly benefit limit regardless of the actual expenses incurred.
Reimbursement – Policyowner is reimbursed based on actual expenses incurred by the insured, up to the maximum monthly benefit limit.
Although this makes it seem like an indemnity rider might be the best choice, most indemnity riders have a “real maximum limit” of 1x the HIPAA limit. If we look ahead 25 years, the monthly HIPAA limit (at 3 percent inflation) would be $25,110. This would be the max benefit even if they purchased a $50,000 monthly benefit. The result: you may never get to take an amount up to the indemnity limit you purchased unless the IRS significantly changed the HIPAA limits or there is substantial inflation.
Some indemnity carriers have a limit that is a multiple of the HIPAA limit, for example, 2x the HIPAA limit. However, keep in mind that the IRS only automatically allows benefits up to 1x the HIPAA limit to be received untaxed. If you wanted to take more than the HIPAA limit, you would have to ‘prove expenses’ to receive favorable tax treatment. So, even though you don’t have to submit receipts to the life insurance company, you will still have to keep track of your receipts to prove expenses to the IRS.
With the reimbursement rider, you can take up to the full monthly benefit as long as they have qualifying expenses. There is no restriction based on HIPAA limits. You still will have to prove expenses to get reimbursed, but because there is no HIPAA limit, you may be able to take more benefit from the rider than from a company with a 1x HIPAA limit. And, because you have to submit receipts, your records will already be ‘in order’ to prove expenses to the IRS, if needed.
In next blogpost, we will show a case study.