If you’re one of the millions of Americans living paycheck-to-paycheck, and most of us are, an accident or illness that leaves you unexpectedly unable to work can leave you unable to pay for your living expenses and result in financial devastation. For this reason alone, Disability insurance is a very important insurance coverage. Unfortunately, far too many people don’t have enough, if any, disability coverage to protect them from the above.
Cost is one commonly cited reason for the lack of disability coverage. This is especially true for those employed in a high-risk occupation. Other factors impacting rates include the benefits selected, age, and personal health history. However, considering the protection provided by disability insurance, a premium amounting to 3% or less of your income is a relatively small investment. You might have many other tangible areas to spend that 1–3% of your income now, but how would you financially survive should you become unable to work in the future? For more on why disability protection matters, see The Importance of Disability Insurance.
Most experts agree that adequate coverage starts with a policy providing a minimum of 60% of your gross income during the time you’re disabled. The reasoning being is Disability insurance premiums are typically paid using post-tax dollars, meaning the benefits are tax-free. So, a policy that provides 60% of your pre-tax income would amount to your existing paycheck.
The waiting period of a policy is a major factor when it comes to policy rates. Premiums are usually significantly lower if you can afford to wait 90 days after becoming disabled to begin collecting benefits. Do keep in mind that this delay means you’ll need personal savings to cover your expenses while waiting for the benefits to start. The maximum benefit period is another major factor affecting the policy rate. Purchasing a policy that only offers benefits until you’re 65-years-old can lower the rate, but you should expect to have sufficient retirement income to provide coverage at the end of the maximum benefit period. For details on short-term options and waiting periods, review Understanding Short-Term Disability Insurance.
When looking at disability policies, you should pay close attention to how the policy defines disability. Some policies are designed to only pay in the event of a total disability and inability to work any job. Partial disability protection is an important feature, as it’s designed to pay the lost percentage of your income in the event that you’re only able to work part-time during your disability.
You should further determine if the policy is guaranteed renewable and non-cancelable. With these features, the policy can’t be canceled and the premium can’t be raised should your health change during the course of the coverage. It’s important to make sure the policy has an inflation rider that provides a cost of living adjustment for the disability period. A future insurability rider is another option to consider. This feature will permit you to buy additional coverage (regardless of any occupational, activity, or health-status change) should your income increase. Some carriers might also have an option for transition benefits that will pay a portion of any income loss you might incur when returning to work after a period of disability.
If you’re unsure which options fit your situation or how much coverage you need, talk to an agent.
Frequently Asked Questions
How much of my income should disability insurance replace?
Most advisers recommend a policy that replaces at least 60% of your pre-tax income to approximate your take-home pay, since benefits are usually tax-free. Your individual needs may vary based on expenses and other income.
Are disability insurance benefits taxable?
Benefits from a policy you pay for with after-tax dollars are generally tax-free; benefits from an employer-paid plan may be taxable. Check your policy details or consult a tax professional for specifics.
What is the waiting (elimination) period?
The waiting period is the time between becoming disabled and when benefits start; common options are 30, 60, or 90 days, and longer waits reduce premiums but require more savings to bridge the gap.
Should I buy partial disability coverage?
Partial disability coverage can replace a portion of lost income if you can only work part-time after an illness or injury, and it’s worth considering if your job can be done on a reduced schedule.