Personal Finance Essentials
Key Issues Regarding Disability Income Insurance
Disability Income Insurance > Key Issues Regarding Disability Income Insurance
When evaluating a disability income policy, cost is only one dimension. The more important question is whether the policy will actually pay a claim when you need it to.
There are several factors that determine both the cost of a policy and its real-world value. Understanding them will help you make a smarter decision.
How Disability is Defined
This is the single most important factor in any DI policy, and it’s the reason you should never buy based on price alone. Cheap policies have definitions of disability so narrow that filing a successful claim is difficult. More expensive policies have more favorable definitions that are far more likely to pay.
Here’s a practical example: a surgeon loses a finger. Is she disabled? Under a standard contract, probably not – because she can still teach or consult, and her income might not suffer even though she can no longer perform surgery. Standard policies require that you be unable to perform the duties of your own occupation and not be working in any other occupation.
Better, and more expensive, policies use an “own occupation” definition, which would consider that same surgeon disabled and entitled to benefits even if she continued working as a professor of medicine. If you’re a white-collar worker or someone in a specialized field, the own-occupation definition is worth paying for.
This is also why the Social Security Administration, which uses a “totally disabled” definition, initially denies more than 65% of disability claims filed. Don’t assume Social Security will be there for you.
Occupations and Activities
The more physically demanding or dangerous your job, the higher your premium – and in some cases, coverage may not be available at all. Workers in high-risk occupations like construction often find that DI coverage either carries unusually high premiums with benefits payable only for five years or less, or is simply not offered. By contrast, general office workers typically qualify for coverage at lower cost with benefits payable to full retirement age.
Occupational classifications are very specific. Nurses who work in emergency rooms, for example, may be classified differently from nurses who work in administrative roles. Each classification carries a different premium based on the relative risk of injury.
In addition to job duties, insurers consider your age, sex, tobacco use and leisure activities. Those who scuba dive, hang glide, ride motorcycles, pilot small aircraft or engage in other high-risk hobbies will pay more – or find that their policies exclude injuries resulting from those activities.
Waiting Period
The waiting period – also called the elimination period – is the amount of time between the onset of a disability and when your benefits begin. You can typically set this at 30, 60, 90, 180 or 365 days. The shorter the waiting period, the higher the premium.
A 90-day waiting period is generally the most cost-effective choice. Insurance companies know that most disabilities don’t last more than 90 days, so choosing a 90-day wait saves significantly compared to a 60-day wait – without much additional risk to you. The savings from moving from 90 to 180 days are proportionally smaller.
That said, self-insuring for the first 90 days could cost you $10,000 or more in out-of-pocket expenses. Before choosing a longer waiting period, make sure your cash reserves are sufficient to carry you through.
Benefit Duration
Many policies pay benefits for only five years – which is a problem if you become disabled at age 52. The best policies pay benefits until you reach age 65, or until your expected retirement age. The longer the benefit period, the higher the cost.
For workers in high-risk occupations or those with pre-existing medical conditions, obtaining full-career coverage may not be possible. Whatever your situation, seek the longest benefit period you can find.
Partial Disability Coverage
What if you’re injured and your doctor clears you to work only four hours a day? Some policies pay nothing in that scenario because you’re not considered totally disabled. Better policies pay partial benefits to compensate for the hours you can’t work or the income you can’t earn, provided you show a loss of income of at least 20%. If you might ever return to work part-time before fully recovering, partial disability coverage is worth having.
Benefits That Grow with Your Income
All DI policies are written based on your income at the time you apply. Since your income will likely grow over time, you need a policy whose potential benefit grows with it. A policy purchased when your income was $30,000 won’t provide much help if you become disabled when you’re earning $80,000.
Inflation Protection
If you become permanently disabled, you could be receiving benefits for decades. The purchasing power of a fixed payment erodes significantly over time. The best policies include a cost-of-living adjustment (COLA) option, which increases your benefit each year in line with inflation – or at a minimum, guarantees you the option to increase your coverage as the Consumer Price Index rises.
Guaranteed Renewable and Non-Cancellable
Look for a policy that is both guaranteed renewable and non-cancellable. Guaranteed renewable means the insurer cannot raise your premium. Non-cancellable means you remain covered as long as you pay your premiums – even if you change jobs, switch careers or stop working entirely. Together, these two features provide the security that your coverage won’t disappear or become unaffordable.