Protecting Your Income When You Are in the 25%
The month of May is disability insurance awareness month, which presents a great opportunity to revisit what disability insurance is and where it might fit into your financial plan.
The most common misconception
Most people don’t think disabilities are very likely so they try to justify not spending the money on insurance they may “never use.” But the 2018 Social Security Administration harshly shares that’s if you’re in your twenties now, there’s a 25% chance you’ll become disabled for 90 days or more before you turn 67.
What is disability insurance?
Disability insurance* is meant to replace part of your income if you get sick or injured and are unable to work. There are two main types of disability insurance: Long-Term Disability and Short-Term Disability. As their names suggest, one is to cover immediate needs and the other is to cover financial needs over an extended period of time.
Short-term disability insurance usually pays out 40%-60% of your pre-disability income. It has a short waiting period of anywhere from a day to a couple weeks before it kicks in and it can last up to a year for qualified circumstances. Pregnancy is a common short-term disability claim.
Long-term disability kicks in after an extended waiting period, usually around 3 months, but can last for anywhere from 5 years or until you reach age 67. Typically, a long-term disability policy will replace 50-60% of your pre-disability income and in some cases can pay out closer to 100% of your income.
Many employers now offer Long-Term Disability insurance, and some even offer Short-Term Disability, as part of its employee benefits package. If they offer both, they usually coordinate the benefits so if an employee “goes out” on short-term disability, the long-term disability payments wouldn’t begin until the short-term eligibility was exhausted.
Group disability is usually, all or partly, paid for by your employer and is commonly much less expensive than buying your own individual policy. Much like employer-sponsored life insurance, relying on disability insurance through your employer is fine as long as you are still working for that employer. Unfortunately, in most cases, it is not portable so you cannot continue your disability coverage if you are no longer with that employer.
It is important to remember that your employer-sponsored benefit plan is not only taxable to you on payout but if you are collecting long-term disability from your company benefits, you are most likely no longer eligible to contribute to your employer-sponsored retirement plan such as a 401k.
The cost of getting individual disability coverage on your own is usually more expensive than employer-sponsored coverage but not so much that it is unaffordable. Individual short-term disability policies are the most expensive primarily because the waiting period to start claiming benefits is so short making the risk for insurers higher. It may be cost prohibitive for an individual to purchase short-term disability on their own. Conversely, estimates for the cost of an individual long-term disability policy are typically around 1-3% of your annual income. So if you make $75,000 per year, the cost would be roughly $63 to $185 per month accordingly. Individual disability rates factor in your age, sex, health, occupation and income among other things. One nice benefit is if you pay for an individual plan yourself with after-tax dollars, the benefit is received tax free.
Ensuring part of your income is covered by a long-term disability policy is a good start to financial security, but you may be able to replace nearly your entire income in the event of an extended disability by combining policies. The most common way to set your family up to receive the maximum amount of disability payments is by combining an employer-sponsored long-term disability policy with an individual long-term disability policy. As mentioned before, most standard group long-term disability policies cover 50-60% of your income after you satisfy the elimination period (typically 3 months). But you can take out an individual long-term disability policy that will cover most of that remaining 40-50% of your income. So if you were to have a qualifying event, such as a sickness or injury, that prevented you from working for an extended period of time, the combination of the two policies would pay you roughly 90%-100% of what you were paying prior to becoming “disabled.”
What makes sense for someone else may not make sense for you. Some people just wanted to cover their Mortgage, Utilities and Grocery bills and others want to continue to live the same lifestyle they had prior to being unable to work. A CommunityAmerica disability specialist can help guide you through the decision-making process and provide you with detailed information and cost estimates to achieve the protection you desire. During disability month, please consider taking advantage of this complimentary service. Nobody plans to be sick or injured for an extended period of time, it just happens. Make sure your family is covered in the event it does.