The Council for Disability Awareness reports that one in four of today’s 20-year-olds might experience an injury or illness that prevents them from working for at least a year before reaching retirement.
The same report reveals that three in ten Americans can’t afford an unexpected $400 bill. They typically have to go over their credit limit or borrow money from family or friends.
Still, more than half of working adults in the US don’t have disability insurance to protect a portion of their income if they become too sick or injured to work for a prolonged period of time.
Getting proper coverage is essential, preferably while you’re still young and healthy because you never know what the future may bring. And the older you get, your disability insurance premium costs typically go up.
You may have health insurance, but that policy wouldn’t cover your income in the event of a disability that keeps you from working. It would only cover potential medical expenses, including prescription drugs and special treatments. But, you wouldn’t be able to access your health benefits to pay your regular bills like your home, utilities, food, etc…
This guide will help you learn all about disability insurance, including what it covers, who may need it, the factors that affect its cost, different riders to add to your policy, and more.
What is disability insurance?
Disability insurance is a type of coverage that protects your income if a sudden illness or injury leaves you unable to work for either a short or long period of time.
Also known as disability income insurance or income protection insurance, it provides financial stability, and it can be particularly beneficial if your family depends on your paycheck.
It doesn’t replace your entire income, but rather a portion of it, typically up to 60%. Some insurance companies may offer benefits of up to 70% of your gross income.
Once you’re eligible to receive benefits after filing a claim, you can receive it monthly, just like your regular paycheck.
You can use the benefit payments any way you want as there are no limitations. You can pay the bills, make the mortgage, loan, or credit card payments, and pay for childcare, groceries, and other personal expenses. You can even use the money to cover any necessary rehabilitation expenses, including therapy and healthcare costs, but it’s good to know what does disability insurance cover.
Who may need it?
Disability insurance is for anyone and everyone. A sudden illness or an accident that causes an injury can happen to anyone. We think that it’s the most important insurance you can have next to health insurance. After all, it protects your paycheck!
A potential heart attack, stroke, bone fracture, vision or hearing loss, or a serious illness could wreak havoc on your finances. Even a temporary disability could push you into debt unless you have enough liquid savings to cover all the necessary expenses while unable to work.
That’s why this insurance is an excellent way to secure your financial future. It can help you maintain your lifestyle and support your family in case an unexpected disability prevents you from working and earning an income.
How does it work?
When you take out a policy, you agree to pay monthly premiums for the benefit of receiving monthly payments if you ever become eligible.
Each policy has a maximum benefit period that sets how long you would be receiving monthly payments due to a disability that keeps you from working. The period ranges from several months up to ten years or until you reach retirement. It depends on the specific policy, which you’ll of course want to thoroughly review with an advisor.
Another common feature is the waiting or elimination period, during which your insurer checks if you have a disability and how it may affect your ability to work. Depending on the policy, you may have to wait a few weeks or several months for the insurance to kick in.
Group vs. individual policies
Many employers offers disability insurance as an employee benefit, thus covering some or all of the costs. That kind of group coverage doesn’t require individual underwriting. However, it’s not a portable plan, meaning you’ll lose the coverage if you stop working for the employer who provided it.
That’s why it’s essential to get individual coverage as well. It’s portable so you can keep it if you change jobs. It’s typically more expensive than a group plan, and requires underwriting. However, it does makes sure you’re covered especially if you are not working for an employer who offers group coverage. And it can also be used to supplement the benefits of insurance that a group plan might offer you, in the event you need them.
Individual disability insurance is not tax-deductible. You pay the premiums with after-tax dollars, so you receive tax-free benefits. That’s not the case with group policies, which require policyholders to pay income tax on the benefits.
What does disability insurance cover?
Depending on the type, disability insurance can cover the following:
- Temporary disability — This refers to any injury or illness that may affect your ability to work for a short period of time until you recover.
- Permanent (total) or presumptive disability — This refers to serious impairments that may leave you out of work for the rest of your life. They include vision, hearing, or speech loss, or the loss of use of one or more of the body’s extremities. Presumptive disabilities require no waiting or elimination period.
- Serious physical illnesses like cancer, tumors, circulatory and cardiovascular diseases, joint, muscle, and back disorders, and disorders related to the nervous system and spine.
- Some mental illnesses like depression, anxiety, and other nervous disorders, as long as they’re not pre-existing. Insurers that cover mental health conditions typically offer shorter benefit periods in most cases.
When it comes to total disability, almost every insurer offers the following provisions:
- Own-occupation insurance — You may be eligible if a potential disability prevents you from working at your current job but doesn’t keep you from earning an income in a different occupation.
- Any-occupation insurance — You may qualify if you become unable to work in any occupation due to a disability. It’s a cheaper option but more difficult to qualify for, which can cause challenges for some.
Let’s go over the different types of disability insurance, including what they cover and exclude.
Short-term disability insurance
Short-term disability (STD) insurance protects your income if you can’t work for several months or a year due to an injury or illness.
It replaces a portion of your gross (pre-tax) income for 3-12 months, but some insurers offer a maximum benefit period of two years. The typical waiting period ranges from several days to two weeks.
STD insurance is available through some employers as a group policy. So, it may seem similar to workers’ compensation, but it doesn’t cover a work-related injury or illness.
Maternity benefits are often part of this insurance. Many employers offer them through their STD insurance, thus enabling expectant mothers to receive the benefits while pregnant and after giving birth. The waiting period is typically up to six weeks after giving birth or 12 weeks after having a C-section.
Long-term disability insurance
Long-term disability (LTD) insurance covers lengthy or lifelong disabilities, including traumatic injuries and serious illnesses.
LTD provides monthly benefits for as long as a particular disability lasts. Depending on the insurance company, the benefit period can be a specific number of years (two, three, five, or ten years) or up until retirement.
The waiting period (or elimination period) is typically 90 days, but you may have to wait up to a year. It’s good to know the waiting period for a disability insurance policy. A long elimination period is critical for the insurance company to ensure that an applicant has a long-term disability before receiving any benefits.
If you have both short-term and long-term disability insurance, the former will pay out the benefits before the latter kicks in.
LTD insurance typically doesn’t offer maternity benefits. However, expectant mothers who experience a pregnancy complication may qualify, as long as the complication causes a lasting disability or worsens a pre-existing health condition that had been under control (e.g., multiple sclerosis or diabetes).
Social Security Disability Insurance
If you pay Social Security taxes, you may be eligible for Social Security Disability Insurance (SSDI). It’s a government-funded federal insurance program for certain individuals with a severe disability.
The Social Security Administration imposes strict eligibility criteria for the program. You may be able to qualify for SSDI if you’ve worked a job covered by Social Security and have a severe condition that prevents you from performing basic work-related activities for at least a year.
SSDI benefits convert automatically to retirement benefits if an individual still has a particular disability when they reach retirement. The problem with SSDI is you may try and qualify for benefits, but not be eligible due to your situation. So, if you don’t have a private disability insurance policy and are depending on SSDI then you could be in a challenging situation.
Factors that affect the cost of disability insurance
Before writing a policy for an individual, every insurance company assesses the risk. Riskier policyholders face higher premiums, but you might be able to reduce the risk and get better deals.
Many factors can affect your insurance costs, including:
- Age — Disability incidence typically increases with age, since getting older increases the risk of various illnesses and injuries. That means you’ll pay higher premiums when you’re older. If you’re still young, then that’s the perfect time to get proper coverage.
- Gender — Women file more disability insurance claims, so they typically face higher premiums – 40-50% higher than men. However, historical data on disability insurance rates by age shows that men pay higher premiums as they age.
- Health — If you’re healthy and have no family history of chronic illnesses, your insurance costs will be lower. Depending on the insurer, you may be able to exclude a pre-existing health condition, but you wouldn’t receive any benefits for it if the condition worsens.
- Occupation — Working in a field with a high risk of injury generally means higher insurance premiums. For instance, firefighters, police officers, and construction workers are more likely to suffer a disabling injury than teachers or office workers.
- Lifestyle — Smoking, drinking, and various dangerous hobbies make you a risky policyholder. For instance, extreme sports like skydiving, freediving, paraskiing, highlining, wingsuit flying, and mountain biking put your health and life at risk and therefore, they can inflate your premiums significantly.
- Income — Disability insurance benefits are based on your income. Since they replace a portion of it, they’ll be higher if you earn a generous annual salary. However, that means you’re a greater financial risk to insurance companies. That’s why a higher annual salary translates to higher premiums.
- Benefit amount — Disability insurance can cover 40-60% (sometimes up to 70%) of your pre-tax income. The more coverage you choose, the more you’ll pay in premiums.
- Benefit period — The longer you receive the benefit payments, the more you pay in premiums.
- Waiting or elimination period — A shorter waiting period typically means higher premiums. That’s why a policy with a longer elimination period might be the best way to go.
- Additional coverage — Adding an optional rider to your policy to provide more coverage will inflate the cost. However, some policies feature one or more supplemental riders that you can use at no extra cost.
Riders to add to your policy
Some riders may increase your disability insurance costs, but they allow you to customize any LTD policy to your needs. The key is to keep them to a minimum to avoid inflating your premiums.
Some of the most common disability insurance riders include:
- Non-cancelable rider — This provision prevents your insurer from canceling the policy, reducing the benefits, or raising the premiums, as long as you keep paying them.
- Guaranteed renewable rider — With this provision, you can renew the policy without any changes. The insurer can’t cancel it, but they may raise the premiums.
- Residual or partial disability benefit rider — If a job change to a disability leads to a lower annual salary, this rider will ensure you keep receiving partial benefits.
- Benefit increase rider — If your income increases at some point, you can apply for this additional coverage and increase the benefits.
- Cost-of-living adjustment (COLA) rider or inflation protection rider — To offset inflation costs, this rider adjusts insurance benefits annually for as long as you remain disabled and eligible for payments.
Disability insurance is one of the most effective ways to protect your income if a potential disability keeps you from working. Whether you end up unable to work for a couple of weeks, months, years, or for the rest of your life, it would provide you with the necessary financial stability to help you and your loved one’s maintain your lifestyle while you recover.
As discussed above, a short-term policy may not be enough to cover your lost wages in the event of a disability. So, even if you have an short term disability insurance policy, consider getting a long-term policy as well. That way, you’ll get full coverage that will provide much-needed peace of mind.
Hopefully, you’ll never have to use it, but preparing for the worst is the smartest step to take.
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