Protecting yourself and your family in the event of a disability is an important step. The right disability insurance planning maintains your lifestyle if you can’t work and protects your investments from being sold off cheaply to access cash.
Early in your career, your largest asset is your future human capital.
A twenty-five-year-old who earns $100,000 and gets raises of 3% annually until sixty-five will earn $7,866,330 during their career.
At thirty-five, they will have $6,585,550 in future earnings left.
At forty-five, $4,998,681, and even at fifty-five with just ten working years left, they have $2,866,062 in future earnings.
Time converts those potential dollars into real money unless you’re disabled (or die) along the way. You need to pair your hopeful wealth creation plans with a strategy to protect yourself if things go wrong.
According to the US Census Bureau, 16.6% of people between twenty-one and sixty-four in had a disability in 2010. 11.4% of Americans (nearly 70 percent of disabled Americans) had a severe disability. Severe disabilities include such things as:
- Being deaf or blind
- Being unable to perform one or more functional activities
- Requiring a wheelchair, a cane, crutches, or a walker
- Needing assistance to perform one or more activities of daily living: getting around inside the home, getting in or out of bed or a chair, bathing, dressing, eating, or using the toilet
- Needing assistance to perform instrumental activities of daily living: going outside the home, managing money and bills, preparing meals, doing light housework, taking prescription medicines, or using the phone
- Having difficulty finding a job or remaining employed
- Being diagnosed with Alzheimer’s disease, dementia, or senility
These are all serious conditions that limit your ability to earn money. You must protect yourself and your family from this risk. The protection comes in two forms: protecting your unearned income through disability insurance, and protecting your plans through estate planning. We discussed estate planning here. Let’s focus now on insurance.
Disability insurance pays you money when you’re disabled and can’t work. Your financial plan should guide the amount of coverage to target. It can replace the income needed to make ends meet and allow you to save enough for your long-term goals.
There are three main avenues of disability insurance coverage: government programs, work plans, and private coverage.
Government programs include workers’ compensation and Social Security Disability Insurance (SSDI). Workers’ compensation covers people injured on the job. It’s important protection for certain professions, but most professionals are not at risk of job site injuries or illnesses. The overwhelming majority of disabilities occur off the job, and SSDI is difficult to qualify for and provides meager benefits.
A work-sponsored group plan is free to you, but the benefits are taxable because the employer paid the premium (unless the employer sets it up so that you’re taxed on the premium payments they’re making for you).
Private coverage will generate tax-free income since you paid the premium, but you should consider the after-tax amount of the work benefit to ensure you have sufficient coverage. Other things to consider when purchasing a private policy are the definition of disability, the type of disability covered, the waiting period, the length of coverage, and inflation.
Pay attention to how coverage plans, work or private, define disability. Some policies cover you if you are unable to perform any occupation, while some will cover you only if you cannot perform your own occupation. A variation is that some will cover your own occupation for a time and then switch over to any occupation.
Consider only the own occupation benefits that you receive through your work policy when assessing your coverage.
You don’t want to be forced to take a job you don’t want because you wouldn’t be covered otherwise.
Look for policies that cover partial and not just total disability and that provide residual benefits (benefits for loss of income if you are able to work but not make as much as you used to).
Disability Insurance Policy Features
A waiting period in disability insurance functions like a deductible. You decide how long to wait before receiving benefits once you are eligible. The typical periods range from thirty days to a year. Obviously, the longer the waiting period, the cheaper the premium. You should analyze the cost savings for longer periods versus the disability benefits forgone, and factor in your liquid savings and work coverage that will provide help during the waiting period.
The length of coverage is how long disability payments will last. Most people cover themselves for their working years—that is, until a normal retirement age of sixty-five. However, cheaper, shorter periods are available if that is all your financial plan requires.
Finally, target policies that provide a benefit increase every year through an inflation or cost-of-living adjustment rider. That way, your benefit can keep pace with inflation rather than you losing a certain amount of purchasing power each year.
Some policies include a feature that allows you to buy additional coverage without having to go through underwriting again so that your target benefit can keep pace with your growing career income.
Many financial planners will tell you that one of the hardest recommendations to get clients to agree with is purchasing their own disability insurance policies. That’s certainly been my experience. Sure, a disability is not likely, but it is a realistic possibility. If it happens, the framework we’ve discussed should protect you.
Understanding the major items to consider when purchasing coverage, along with the help of an experienced professional, can take you through the coverage process successfully. Assess your work coverage, understand the benefits and gaps, and then use the pointers above to make a smart purchase of any supplemental coverage.