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Why You Need Disability Insurance
In many respects, disability insurance is just as important to your family's future as life insurance. Both provide financial security when your family's most important asset -- your income -- is lost.
Statistically, however, you're as likely to be disabled for six months or more as you are to die prematurely. Moreover, the long-term disability of a wage earner could have greater negative financial consequences for the family than if the wage earner were to pass away. With death, income stops, but so do the expenses of the deceased. If you are disabled, however, you and your family will have to cope with medical and other costs in addition to the lost income.
You could use your savings to cover these expenditures, but how much money do you have and how long would it last? You could try to borrow money, but could you get a loan if you're not working? Many people assume if they are disabled, government programs will take care of them. While such governmental programs are available, they often are inadequate: Most state maximum disability payments amount to $300 to $450 a week for only one year. Clearly, if you lose the ability to earn a living because of sickness or injury, your family's financial future may be in jeopardy. No one wants to think about becoming disabled, but the ramifications are undeniable.
Here's where disability insurance steps in. It helps protect against financial catastrophe, ensuring that your family will have enough money to meet its living expenses. Although the importance of disability insurance is obvious, the coverage remains a puzzle to many.
What Is Disability Insurance?
Most people think a disabling injury or illness is a remote possibility. The statistics tell another story, however. People in their early 30s are three times more likely to suffer a disability lasting three months or longer than they are to die. Nearly 33 percent of all people will suffer a serious disability between the ages of 35 and 65. The average disability will last more than five years, but for 30 percent of those disabled, it will persist for life.
These statistics show the importance of having adequate insurance protection. If you're like most people, your ability to earn a living is your most valuable asset. Disability insurance steps in if you lose that asset as a result of sickness or injury.
So take stock of your existing resources. Some cases of disability qualify for Social Security benefits, but many don't. Also, keep in mind that there is a five-month waiting period for Social Security disability benefits.
Find out whether your employer provides disability insurance protection for you through a group plan and, if so, determine the scope of this coverage. Most disability plans use a disability benefit level of 60 percent of gross salary. Most other employers also provide this type of coverage, and many give employees the option to buy more insurance. Buying extra coverage through a group plan is almost always less expensive than buying an individual policy on your own.
Institutions that provide a group disability plan for their employees often add a monthly annuity premium benefit feature. This feature ensures that pension contributions continue even while you're receiving disability income benefits. This allows you to continue your retirement plan while disabled, a particularly valuable feature since the pension contributions will accumulate over decades.
Also, consider how much sick pay you are entitled to. Many employers continue wages for a specified time. In addition, workers' compensation benefits, though usually small, would probably kick in if you were disabled because of an injury or illness related to your job. Don't forget to look into veterans' disability benefits if you served in the armed forces.
Evaluating Disability Income Insurance Policies
Pay particular attention to:
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Elimination period (the period before benefits become payable)
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Percentage of salary payable
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Effect of benefits from other sources such as Social Security in determining how much you will receive
If you find that you need more insurance, there are some issues to consider before you buy a policy. You can buy disability insurance that will pay benefits anywhere from two years to as long as you live. In general, the longer the maximum benefit period, the higher the cost of the policy. You should buy coverage so that benefits will continue until the time you can begin receiving retirement income. A typical individual policy with a ninety-day waiting period for someone age 35, in a nonhazardous job, runs about $450 a year per $1,000 of monthly benefits that would last through age 65.
In addition, choose a policy with an appropriate waiting period -- the time from the onset of a disability until benefits begin. Waiting periods typically range from one to six months. Your waiting period should be synchronized with your paid sick leave and your emergency fund savings. For example, if you have three months of paid sick leave, you wouldn't need coverage until the beginning of the fourth month of your disability. It's also wise to choose a policy that waives the payment of premiums during the time you are receiving benefits under the policy; since the policy will not provide the full amount of your salary while you are disabled, this policy feature protects you from the additional burden of having to make the premium payments during your disability.
Finally, make sure you understand how the policy defines "disability." The most liberal definitions -- those that define disability as the inability to perform your current job -- are the most desirable, but they're also the most expensive. Any policy worth considering will be guaranteed renewable, at no increase in premium, until you reach age 65. It's also important to understand the distinction between disability and workers' compensation insurance. While both provide benefits if you are disabled and can't work, workers' compensation covers only those injuries and illnesses that are work-related, meaning that they occurred at work or as a result of employment. Other disability plans cover illnesses and injuries that may happen anytime or anywhere.
Many people already receive disability coverage through their employers' group policies. Many teaching and research professionals, for example, are covered by group long-term disability plans. If you pay the premiums of your disability income coverage, you receive the benefits tax free. If your company pays the premiums, benefits are taxable.
Disability Coverage Types
There are two basic types of private disability income plans: short-term disability policies, in which benefit payments generally last twenty-six weeks or less; and long-term plans, in which benefit payments are customarily provided after short-term benefits have elapsed. Short-term policies, for the most part, are basic sickness and accident plans. These policies assure continuous income for those unable to work because of temporary illness or injury.
Short-term benefits apply when a disability prevents an employee from performing basic occupational duties. The duration of benefits can range from thirteen weeks to fifty-two weeks, although most employees are covered up to twenty-six weeks. If the disability requires long-term absence from work, the income serves as a bridge to long-term disability benefits.
Long-term plans provide disability benefits after short-term benefits expire. Group long-term protection is either fully paid by employers or its costs are shared by employees. Individual long-term policies are designed for those without group coverage. These policies are also used by employees to supplement their group disability coverage.
The income from many group long-term plans is reduced by benefits such as Social Security and workers' compensation. Most group plans also limit benefits for up to two years and define disability as your being unable to perform your regular job. But if you are still disabled after two years, the definition changes, and usually benefits are paid only if you can't perform any job "for which you are suited by education, training, or experience" -- a much more restrictive definition.
Most policies limit income replacement to 60 percent of your predisability salary, excluding bonuses. Why not full income replacement? Insurers view a 60 percent income replacement as an incentive for employees to return to work. Many cap the total amount of income replacement coverage for the same reason. While the waiting period for short-term benefits is usually a week, the waiting period for long-term benefits is usually three months or more. Some plans allow you to increase this waiting period, in return for reduced premiums. If your financial situation allows you to absorb substantial income losses up front, you should choose a longer waiting period.
Some group long-term disability plans provide annuity premium benefits. This provision ensures that your pension contributions will continue while you're receiving disability benefits. Many policies also offer convertibility provisions, permitting you to convert your group coverage to an individual policy after termination of your employment.
Many group policies, also offer partial or residual disability benefits. These benefits are designed for those able to work part-time after a disability. If, for example, a cardiac condition allows you to work only 60 percent of the time, the partial disability benefit would replace the difference between your former earnings and your current earnings.
Additional Insurance
To find out if you need additional coverage, first determine how much your employer-provided policy will pay if you become disabled. Determine when your benefits will begin and end. Not all employers provide short-term disability protection during the waiting period of your group disability policy, which means you may go as long as six months without an income.
Also keep in mind that group plan benefits might be taxable. Add up the dollar benefits you expect from your group policy, as well as any additional benefits you are entitled to under public programs, and compare these with your current monthly budget. Determine whether or not the benefits will cover your future financial outlays, without severely reducing your living standard.
If the benefits fall short, individual disability protection can supplement your group benefits. These benefits are tax free. Insurers of individual policies generally allow you to customize the plan according to your needs. For example, some plans offer riders that provide money to support your children's education if you are disabled. And they are portable, meaning you can take the coverage with you if you change employers.
Many policies also include cost-of-living adjustments, raising benefits to keep pace with inflation. Although this feature often is expensive, it may be important during a lengthy period of disability to maintain your standard of living.
Make sure the benefits cannot be canceled, changed, or restricted by your insurer during the life of the policy. Noncancelable policies give you the right to continue a policy by timely payment of premiums, and the insurer cannot change the premiums and benefits indicated in the policy unless it changes them for all policyholders in your class. Guaranteed renewable policies will be renewed automatically with the same benefits, but the premium may be increased. Optionally renewable policies often can be extended at each premium due date, but only if the insurance company decides to do so.
Sources of Income Protection
There are other potential sources of income replacement in the event that you become disabled. The most well-known is workers' compensation, a system established under state law that provides payment to employees who are injured in the course of employment.
Social Security also provides benefits for long-term disabilities; however, they are extremely restrictive. To collect, your disability must be severe enough to prevent any substantial gainful work and must be expected to last at least twelve months or result in death. You also have to demonstrate you are unable to perform any job that exists in the national economy, whether or not such a job exists in your region.
Even if you qualify for Social Security disability benefits, there is a waiting period of five full months before benefits can begin. In 1997, the average Social Security disability payment was $704, with the maximum payment depending on the beneficiary's age and income level.
These amounts -- even with any additional dependents' benefits -- are likely to be inadequate to support a disabled person and family, especially when factoring in additional medical and other expenses incurred by the disabled wage-earner. Moreover, for individuals with middle- or high-income levels, Social Security benefits are subject to federal income tax. In short, you should not depend on Social Security to provide you with sufficient financial support if you become disabled.
Additional possible sources of disability income include:
Sick leave pay, which usually involves no waiting period, but generally has a very short benefit duration Veterans Administration pension disability benefits, for eligible veterans Civil service disability pay, for federal or state government workers Group union disability coverage Automobile insurance, if disability results from an auto accident Supplemental Security Income for people with low income and limited assets
Back to Work
Many disability programs offer free rehabilitation services to help disabled workers return to work. Almost all disability plans, for example, offer certified rehabilitation specialists who will work with you, your doctor, and the services available in your area to help you get back on the job.
These carriers evaluate the demands of your previous job to see if you can return to it or to a similar occupation. And if you need special medical treatment, we'll locate it for you. We'll also arrange for vocational testing and counseling for you as you go through your rehabilitation program. We'll be there every step of the way, through each and every job interview, until you're back on track.
Common $ense Questions
When buying disability insurance to supplement your group plan, you can ask some smart questions:
How does the policy define "disability"? Must I be totally disabled or just partially disabled to collect benefits? Does the policy offer residual benefits supplementing my income if I am able to work part-time?
When do the benefits begin, from the first day following a disability or after six months?
Does the policy pay disability benefits both for accident and for sickness? (Some pay only for accidents.)
Disability, An article by Allen Checkoway
The risk of long-term disability is increasing. A two-decade study reported in Health and Society (1984) revealed a 32 percent reduction in mortality from heart disease and hypertension, cerebrovascular diseases and diabetes--the four leading causes of death. But the morbidity (disability) risk increased 55 percent over the same time frame.
It's important to understand the disability signs of the times. Certain negative trends are affecting insurers and their management of risk. Between the ages of 35 and 65, three out of 10 working people are disabled for 90 days or longer. Nearly one in five people will become disabled for five years or more years or more prior to age 65. "New" causes of disability are complex and difficult to manage. Carpal tunnel syndrome, chronic fatigue syndrome, Epstein Barr and AIDS have become significant influences in disability claims management. A study conducted by a major disability insurer found that 10 percent of their new claims came from some form of psychiatric disorder. Moreover, nearly half of their long-term disability claims are caused by a psychiatric disorder.
The same study identified a dramatic increase in certain disabilities (psychiatric conditions, severe back pain, AIDS, carpal tunnel syndrome and Epstein Barr syndrome) over a four-year period.
Over the past two decades, improvements in medical technology have prolonged lives dramatically. Heart bypass surgery, angioplasty, transplant surgery and many modern forms of cancer treatment didn't exist 20 years ago. Though people with illness are living longer, they're living longer disabled lives.
The risk of disability is greater than the risk of death at all ages between 20 and 65. We buy life insurance because death is inevitable, but disability is only a possibility. If an employer doesn't offer group LTD automatically, their employees will not be likely to buy individual coverage. In the time it took to read this far, three people died and two of them had sufficient life insurance to cover their needs; approximately 104 people became disabled and 76 of them have no disability coverage.
Prefunding LTD Today
Individual disability premiums are calculated based on age and occupation at the time the policy is issued. The most economical time to purchase coverage is when we're young and in good health, though the probability of total disability exists at all ages.
Let's assume, for example, that a 30-year-old executive is earning $60,000 per year and is eligible for $3,000 a month disability coverage. He decides to defer the purchase of DI insurance. What's the cost of delaying a DI program until later, say until age 45?
At age 30, he would have only been spending $830 a year until age 65 (with $29,050 total premiums to age 65). Waiting until age 45 to begin coverage, the cost would be $1,460 a year for 20 years to age 65, or $29,020 in total premiums.
There is virtually no difference in total cost to age 65, whether starting a DI program at age 30 or 45. (Note: These calculations do not take into account the time value of money.) But there is an immense difference in total potential benefits. Had the 30-year-old become disabled the month after purchasing coverage, he would have received $3,000 per month for 35 years, or $1.26 million in total benefits by age 65.
Starting a program at age 45, total benefits to age 65 would be only $720,000, or $540,000 less than if coverage had started 15 years earlier.
What else is he gambling by waiting until age 45? Isn't it also predictable that DI policies in the future will be less liberal than those offered today? What's the likelihood he'll still be medically insurable at age 50? If he's uninsurable, these illustrations won't matter.
What if he develops a herniated disc in his back between age 30 and 45? If he can purchase DI, his contract will have a back exclusion É and no coverage for one of the leading causes of long-term disability. Plus, he'd be spending more money for fewer potential benefits, with no benefits whatsoever for a recurrence of his back problem.
Furthermore, the chances of recovery from a long term disability diminish as we get older. Note that for a total disability occurring at age 35 and lasting one year, 9 percent will be disabled at the end of five more years. When disability occurs at age 55, however, 20 percent will still be disabled at the end of the next five-year period. Although the chances of a total disability reduce with age, the chances of recovering from that disability diminish dramatically at the older ages.
To summarize, the total premium cost to age 65 is the same, whether starting at age 30 or 45. Starting at age 30 provides guaranteed coverage for 15 more years. $3,000 per month individual disability coverage provides $540,000 more potential benefits when starting 15 years sooner. Starting at age 30 "locks in" today's low rates on a guaranteed basis to age 65.
Today's good health guarantees restriction-free coverage versus running the risk of having future medical conditions excluded from coverage. The hazard of long-term disability at any age is too significant to be ignored. Delaying the purchase of disability insurance must be avoided at all costs.
Will the benefits be paid until age 65?
The length of time that a policy will last is extremely important. Some policies only offer benefits for as little as one year, while others pay through a specified age such as 70. Since disability benefits are designed to replace earned income, most people do not need benefits extending beyond the working years.