Disability Income Insurance (DI) pays benefits if you become too sick or hurt to work. Anyone who depends on their income to pay the bills or maintain their lifestyle should consider disability income insurance protection.
If you are like most people, you have insurance on your house, your car and other items of value. But, you may have overlooked protecting what is often your most valuable asset – your ability to generate an income. The same income that allows you to accumulate, and pay for, the other assets you hold dear. Disability income insurance helps protect a portion of your income and provides a fundamental layer of security for your financial future.
A Disability Can Be Costly
Disability can be more disastrous financially than death. If you are disabled, you lose your earning power, but you still have living expenses and often huge expenses for medical care. Disability insurance helps you replace lost income. Many employers offer some type of disability insurance coverage for employees, or you can get an individual disability insurance policy. There are two types of disability policies: short-term disability (STD) and long-term disability (LTD). Short-term disability policies have a maximum benefit of two years, while long-term disability policies have benefits that can last the rest of your life.
Questions to ask before purchasing disability insurance.
- How is disability defined? Some policies consider you disabled if you are unable to perform the duties of any job. Better plans pay benefits if you are unable to do the usual duties of your own occupation.
- When do benefits begin? Most plans have a waiting period after an illness before payments begin.
- How long do benefits last? After the waiting period, payments are usually available till you reach age 65, though shorter or longer terms are also available.
- What dollar amount is promised? Can benefits be reduced by Social Security disability and workers’ compensation payments? Are the benefits adjusted for inflation? Will the policy provider continue making contributions to your pension plan so you have retirement benefits when the disability coverage ends?
Just over 1 in 4 of today’s 20 year-olds will become disabled before they retire.1
- 71% of American employees live from paycheck to paycheck, without enough savings to cushion the financial impact a disability may cause. 2
- Only a small fraction – 5% – of disabling accidents and illnesses are work related. The other 95% are not, meaning Workers Compensation doesn’t cover them. 3
- The average monthly benefit paid by Social Security Disability Insurance (SSDI) for 2010 was $1,128. 4
- At age 32, the chance of being disabled for 90 days is 6.5 times greater than the chance of death. 5
- Almost one-third of Americans entering the workforce today (3 out of 10) will become disabled before they retire
- Seventy-five percent of disabilities are caused by an illness rather than an accident. 6
- Every year, 350,000 personal bankruptcies are attributed to injuries and unexpected illnesses. 7
- The Average monthly benefit paid by Social Security Disability Insurance (SSDI) is $1,004/month. 8
- Social Security Administration, Fact Sheet March 18, 2011
- American Payroll Association, “Getting Paid in America”Survey, 2008
- Council of Disability Awareness, Long-Term DisabilityClaims review, 2011
- Social Security Administration, Annual Statistical Report
- National Association of Insurance Commissioners on the Social Security Disability Insurance Program, 2011
- Commissioner’s Disability Table
- Illness and injury as Contributors to Bankruptcy, Health Affairs, 2005
- Social Security Administrations, 2008
What does it cost?
As a general rule of thumb most disability insurance policies will cost about 1-3% of the insured’s gross income, for a high quality long-term or short-term policy. If you make $100,000 gross per year, you could expect your policy to cost anywhere from $1,000- $3,000 per year. This is the cost to insure 80% of your take-home pay or 60% of your gross income. The cost for a disability insurance policy will really range from one scenario to another based on a few different factors.
- Age- If your under 45 you can expect under 2%, if you over 45, you can expect over 2%
- Occupation- If you have a more physical occupation you can expect to be over 2%, while white collar computer jobs are under 2%
- Gender- Unlike life insurance, females actually pay 20% more for disability coverage than males. This is because more females experience disabling illnesses at earlier times in their lives than males
- Benefit Amount- The cost per dollar of benefit is very linear. You can save cost by taking a lower benefit amount.
- Elimination Period- The shorter your elimination period the more expensive the policy. If you want to save cost, try a longer elimination period.
- Benefit Period- The longer your benefit period the more expensive the policy. If you want to save cost, try a shorter benefit period
- Riders/Benefits- All riders and extra benefits will increase the cost of your policy
How do you apply?
Once you have found a policy that you feel confident about, the next step is to apply for the coverage. This entails going through an application with your advisor over the phone and normally takes about 10-15 minutes. The application questions include your personal information, income information, employment information, and health information. Once your application is complete, it will be directly routed to the carrier providing coverage.
What should I expect in underwriting?:
In most cases, your application will trigger a telephone interview. The telephone interview is where the carrier takes an even deeper look into your health and employment history.
Depending on how much coverage you are applying for, you might have to complete a medical exam. Medical exams consist of a blood and urine sample, as well as your vitals (blood pressure, height, weight, etc.).
In 95% of cases, the carrier will take a look into your medical records. This is normally the most time consuming part of the underwriting process.
Total underwriting time can vary from 3-8 weeks depending on how fast all information and records are received to make a decision.
Which carrier should I go with?
Every carrier has in own niche market. Certain carriers perform better with certain occupations and in certain states. Every company has stronger and weaker policies, so make sure you have the riders that are important to you. You can work with your personal advisor to weigh the benefits of each company and make a decision for what is right for you.
Are there any Exclusions on the policies?
The short answer is yes. There are some things that are not covered with these policies. It varies from company to company but the most common ones are:
- Two year max coverage for mental/nervous or substance abuse disorders
- Exclusion of coverage if you become disabled as a result of committing a crime
- There are some polices that will exclude coverage from a disability that results from an act of war
- Normal pregnancy and maternity leave is not covered. Most policies will cover complications during a pregnancy (high blood pressure, back problems, bed rest, etc.) but not the pregnancy it-self.
- Any pre-existing conditions that come up during the underwriting process that the carrier deems “uninsurable”. Example: If you recently broke your right knee, they could place exclusion on just your right knee because of the associated high risk.
Basic Policy Features
Every disability insurance policy on the market has basic features that you need to understand. These features will greatly affect when you receive your benefit and how much you will receive.
Base Disability Benefit Amount
This is the amount of benefit you would receive on a monthly basis, while not being able to work. Your maximum total disability benefit will vary a little bit from company to company, but for the most part, you can expect to insure about 80% of your take home pay or 60% of your gross income. For individual coverage you generally get a specific dollar amount (e.g. $5,000/month). For group policies, you are generally covered for a certain percentage of your income (e.g. 60% of income). Your benefit is received by you, tax free, if you pay for your own premiums.
When your policy goes in-force, the coverage starts immediately. Technically, you could file a claim for coverage the same day that you put the policy in-force; however, all polices come with an elimination period. Once you file a claim for coverage, this is the period of time that you wait before you start accumulating your monthly benefit. Think of it as a “time deductible”, where you self-insure yourself before the company is on the hook to start making payments. (Read More)
Whether you file a claim the first day you have coverage or the last day you have coverage, you always have to satisfy your elimination period. Once the elimination period is satisfied, you start to accumulate your benefit. Every month that you remain out of work, you will receive your monthly disability benefit.
In order to figure out what elimination period fits your situation, there are a few things to consider: Ask yourself, “If I was to become disabled tomorrow, what is the longest I could wait before receiving my first benefit? If your answer is 7, 14, or 30 days, you most likely will be best fit with a short-term product. If your answer is 60 days, 90 days, 180 days, 1 year, or 2 years than a long-term product would be most fit for you.
Keep in mind that the shorter the elimination period, the more expensive the policy is. If you want to save cost, you can extend the elimination period a little longer. You can work with your advisor to find an elimination period that is right for you.
Once you go on claim, you receive your monthly benefit for the duration of your disability or the length of your benefit period, whatever comes first. Your monthly premium is waived as soon as you go on claim. The benefit period is not to be confused with a “term” of time, like that for a term-life insurance policy. Accordingly, it is the number of years that you are eligible to be on claim before you turn 65 years old (can be to age 67 or age 70). If the benefit period reads, “To age 65” that simply means there is no limit to the amount of years you can be on claim until you turn 65 years old.
Short Term vs. Long Term Coverage
Don’t worry about whether your policy is considered “short term” or “long term”. They are essentially the same thing. The only difference is the length of the elimination period and the length of the benefit period. In order to figure out what product is best for you, which statement resonates with you most?
I am interested in disability insurance because if I can’t work, I won’t be able pay my next month’s rent/mortgage. I need coverage within 30 days of being out of work & a pay check. If this represents your situation, you need Short-Term Coverage.
I am purchasing disability insurance because I want the peace of mind knowing that all of my future income is protected. I can afford to be out of work for a few months, but I want to make sure my family and I are okay if something drastic unexpectedly happens. If this represents your situation, you need Long-Term Coverage.
If you are somewhere in the middle, don’t worry. We can design a product for you with a happy medium between both extremes.
Coordinating with Disability Insurance through Work
If you have group long term disability insurance (LTD) through your employer, you’re one step ahead of the game. This type of coverage provides basic protection, but you might consider supplementing this basic coverage. Do you know the benefit percentage you would receive and for how long you would be eligible to receive benefits? Is the benefit amount capped? Not sure? You’re not alone. Many people don’t. Chances are your group LTD plan looks like this:
– Most group LTD plans replace 60% of your base salary.
– Benefits are payable after six months, referred to as a 180-day waiting or elimination period.
– The benefit period is to age 65.
– The maximum monthly benefit amount is $10,000 or more.
– Most monthly benefits are taxable because many employers pay the premium, further reducing the benefit percentage.
– Incentive income (bonus, commission, etc.) is typically not covered.
You may find that you have a significant income gap. That is, there is too much of a difference between your pre-disability income and the group LTD benefits you’d receive while disabled.
Your bonus – hard-earned but unprotected
Currently, many companies are offering lower salary increases and higher “variable” pay components of employee compensation. So if you suddenly can’t work, it might feel like you never earned that bonus income, because it’s unlikely to be included in the calculation of your monthly benefit.
A Disability Insurance Rider is nothing more than a clause added to your policy to change the way a policy is paid out or to add additional coverage. Sometimes these riders are significant enough to change when you get your benefit at all. The most important riders are on the top, followed by ones that are more discretional further down. The exact specifications of each rider can change from carrier to carrier but these are good general guidelines to get a good understanding.
Partial Disability Rider (Residual Rider)
What is it? If you are going to include one rider, this should be it! Instead of having to be fully disabled to file a claim, this rider changes the terms of the policy so that if you are only partially disabled, you can receive partial benefit. Most of the time, these benefits kick in as soon as you are making less than 80% of the money normally make.
Why you need it: The chances of getting partially disabled are even higher than getting fully disabled. Being out of work part time for an extended period of time is almost as bad as being totally out of work.
What is it? This rider guarantees that your premiums cannot and will not be increased until age 65 (in some cases 67 or 70). If you don’t have this rider, the insurance company reserves the right to increase premiums if they experience higher than forecasted claims. However, even without the rider, your premiums are not expected to increase; it’s just a possibility.
Why you need it: No one likes when their premiums increase.
Cost of Living Adjustment Rider (COLA)
What is it? This rider increases your benefit by about 3%, per year, while on claim, to keep pace with inflation. Some riders keep pace with inflation and some are fixed. There are also some riders that offer 6% increases instead of the normal 3%.
Why you need it: If you go on claim for an extended period of time, you are at risk that your benefit amount will decrease in purchasing power over time.
What is it? This rider pays out an additional monthly benefit to those that experience catastrophic disabilities. You get to choose the exact dollar value but there is normally a cap on what is offered to you, depending on your income. To qualify as for the catastrophic benefit there are three ways to qualify; most of them being pretty “catastrophic”.
1) A disability that prevents you from doing 2 of the 6 “activities of daily living”
5. Transferring (walking)
6. Continence (Holding your bladder)
2) A disability in which you lose any two or more limbs (arms or legs)
3) A disability in which you lose your loss of sight in both eyes or hearing in both ears
Why you need it: In the case where you get “catastrophically” disabled, not only do you lose your income, but also you expenses for care will go up. The catastrophic rider provides extra monthly benefit to those people who become catastrophically disabled.
Future Increase Options (FIO)
What is it? FIO is a rider that allows you to increase your disability coverage without having to medically qualify again. You will, however, need to submit financial documents to qualify for the increase. In most cases you have the ability to increase your coverage on every policy anniversary date.
Why you need it: If you are expecting an increase in pay over your working career, it would be important to consider including FIO with your policy. As your income increases, you are at risk of losing more if you are out of work. Not to mention your disability coverage today might not cover your higher living expenses in the future. You can always purchase additional coverage without the rider, but you stand the chance of losing your insurability. Going through the underwriting process again can also be quite cumbersome.
Social Insurance Substitute Rider (SIS)
What is it? Social Insurance Substitute coverage is a benefit that you have in conjunction with your base benefit. The coverage is paid out the same as base benefit, except that any aid you receive from a government entity would offset the amount of social insurance substitute benefit that you receive. At the end of the day, you are guaranteed to receive the benefit from someone, but the insurance company is not always on the hook if you get help elsewhere. SIS benefit does not affect your base coverage payout in any way.
Why you need it: The social insurance substitute rider is not for everybody. Most of the time, we recommend products without the SIS rider. The SIS rider pays out similarly to base benefit but there are some limitations that make it cheaper. In a situation where cost is a big issue, SIS benefit can be a cost-effective solution.
At the end of the day, the best disability insurance coverage is the coverage that is in force when you become disabled. That being said, there are a few different differentiators which set the average policies apart from the best policies. Unlike life insurance, where payouts are very black and white, disability insurance has some shades of grey. If you are interested in the top policy in the market, it is important to know these policy differentiators.
Definition of Disability
The way that a disability is defined will have a big impact on when and if you receive any of your disability insurance benefits. The most common definitions of disability are “Any Occupation”, “Own Occupation” & “True Own Occupation”.
An “any occupation” definition is the cheapest and will payout benefits the least often. In order to qualify for benefits, you need to be unable to perform the material duties of “any” occupation. For example, If you are a dentist and you break your hand, you might still be able to teach dentistry and you wouldn’t be paid out unless you couldn’t teach as well, even if it wasn’t your usual occupation. You wouldn’t receive your benefit unless you were disabled from doing any reasonable occupation, given your skills, education and expertise.
An “own occupation” definition is the most common and sought after. You are considered disabled and receive benefits when you can’t perform the duties of your regular occupation at the time of your disability. You will never be forced to work in a new occupation before receiving any of your benefit. If you were a dentist and you broke your hand; preventing you from performing the material duties of your own occupation, you would receive your benefit. Even if you were perfectly capable of teaching dentistry, you would not be forced to do so. However, if you chose to teach dentistry on the side, while collecting your claim, any income received would offset your disability benefit received.
A “True Own Occupation” definition is the highest quality and most expensive option. It pays out the same as a “own occupation” with the exception that any income received from a new occupation, while remaining disabled from your usual occupation, would not offset your disability insurance benefits received.
Renewability- Non-Cancellable & Guaranteed Renewable
This guarantees that after your policy is put in-fore, your premiums and benefits cannot be changed. Your rates are guaranteed to be level and can never increase with in the time frame of the policy (normally to age 65 or 67). Additionally the coverage cannot be taken away from you. This is the strongest renewability option and will cost the most in premium.
Renewability- Guaranteed Renewable
This guarantees that you can never have your coverage taken away from you, as long as you continue to pay your premiums; until the allotted age of 65 or 67. Your rates are supposed to remain level but there is no guarantee they will remain level. If the insurance company experiences higher than expected claims they reserve the right to increase everyone’s policy equally.
Partial Disability Benefits
A large percentage of disability insurance claims either start or end with a partial disability claim. Having a partial disability rider allows you to collect part of your claim while being partially disabled. In order to qualify for partial disability benefits you have to:
1) Suffer a loss of time and duties (and/or)
2) Suffer a loss of income of at least 20%
Most policies allow you to qualify with one or the other. The percentage of income that you lose will depict the percentage of your benefit that you would receive.