Everything You Need to Know About Disability Insurance
There is nothing more important to your survival than your ability to earn a living.
Your retirement accounts don’t matter if you can’t fund them. Your investments won’t appreciate properly if you can’t contribute. You can’t pay your mortgage. You can’t feed your family.
Income is what holds everything together.
Disability insurance protects that income. That’s why many people call it income protection insurance. It explains the purpose a little better.
Table of Contents
- What is Disability Insurance?
- How is Disability Insurance Different From Workers’ Compensation?
- What Are My Odds?
- The Most Common Reasons for Disabilities
- Does Disability Insurance Make Sense for Me?
- Perks of Having Disability Insurance
- How a Disability Insurance Policy Works
- Disability Insurance Riders
- Purchasing Tips
- Need Additional Help?
What is Disability Insurance?
If you are unable to do your job due to injury or illness, the insurance company pays you a set monthly amount. That way you can focus on your recovery instead of stressing over how to put food on the table.
How is Disability Insurance Different From Workers’ Compensation?
Workers comp only pays you if something happens to you on the job site. That’s it.
Whether it’s fighting through chemo or recovering from a car accident, that can leave families stranded.
I’ve seen Aflac commercials. Isn’t that disability insurance?
Sure. Aflac is a short term disability insurance plan. If you fall off a ladder and break your arm, their policy will probably cover you for a few weeks.
The major draw back to a short term plan is that most people who are unable to do their job have longer term issues. Take cancer as an example. It takes months to treat it successfully.
Don’t just take our word for it. Lifehappens.org is a non-profit dedicated to ensuring family financial stability. Click the image to the left for a PDF with more information.
What are my odds?
If you are a millennial, you have a 1 in 4 chance of becoming disabled during your working years. It’s probably something temporary, but you never know.
If I’m disabled, don’t I have disability coverage through the state or social security?
Some states (like California) have disability coverage for some people. The problem is that you have to be completely disabled. Same with social security disability. To qualify for those benefits, you cannot have a chance of recovery.
Plus the payout is often minicsule and difficult to survive on.
The Most Common Reasons for Disabilities
When most people think of disabilities, they think paralyzed people. In truth, that’s pretty far down the list.
According to WebMD, some of the most common causes of disability are the following:
- Back Pain
- Heart Disease
Surprising, right? Look at how this compares to the top reasons for disability insurance claims.
- Musculoskeletal/connective tissue disorders (30.7%)
- Disorders of the nervous system and sense organs (14.2%)
- Cardiovascular/circulatory disorders (12.1%)
- Cancer (9.0%)
- Mental Disorders (7.7%)
According to the Council for Disability Awareness, illness causes 90% of disabilities as opposed to accidents. That means there is a high chance that your worker’s comp isn’t going to cover it.
Does disability insurance make sense for me?
Most people think that “it will never happen to me.” Statistically, those people are right. 1 in 4 millennials will miss work due to disability during their working years. 1 in 8 will have a disability for more than 5 years.
So then you have to crunch the numbers to see what makes sense for you. Do you want to roll those dice to see if you can be one of the 3/4 that will be fine? What will happen to you financially if you can’t work for 5 years? Is the risk worth the odds?
On the one hand, if you are struggling to afford rent, the extra money for disability insurance might not be worth it. On the other hand, if you are risk averse and have some disposable income, it could be a good option for you.
Other Included Perks of Having an Individual Disability Insurance Plan
Along with the peace of mind that comes with knowing you will have income even if you can’t work, there are other perks to individual disability insurance plans.
No Worry Recovery
Recovering from an illness is hard work, even though it’s often portrayed as sitting in bed with flowers and sunshine filtering through gossamer curtains.
On top of that, you have to maintain your residence and your family. Then added on top of that are extra medications and doctors visits, maybe therapies. All when you have low energy as you recuperate.
At least if there is income, you don’t need to worry about where you will find the money for things like your kid’s school supplies. You can focus on you.
Most Companies Will Also Pay for Therapy
After all, the insurance company wants you to get better, so they’ll shell out some extra money to make sure that happens. If you need something like physical therapy, your disability insurance companies will almost always pay for it.
How a Disability Insurance Policy Works
There are a ton of parts that go into a disability insurance policy. Some offer more bang for their buck than others, and we will discuss that in each section. Please keep in mind that these are opinions based on experience. Use your judgment on if this matches your situation.
The benefit period is how long your policy will pay you for each disability. The typical lengths are 2 years, 5 years, and to age 67.
Keep in mind that the average disability lasts around 7 years.
Benefit periods count for one particular reason. Yet they can be invoked multiple times. Let’s say Bob has skin cancer with a 5 year benefit period. He is out for 2 years, recovers then goes back to work. If in another 10 years he develops prostate cancer, he can go on claim for another 5 years.
Our recommendation for benefit period:
5 year minimum. 2 years will help you out, but 5 years is only slightly more expensive and will mitigate costs better. 67 is the best choice in case you are one of that 30% of claims with musculoskeletal issues. Those almost always stay with your for the rest of your life.
Waiting Period (Officially Called Elimination Period)
There is always a waiting period on disability insurance policies. It can be 30 days, 60 days, 90 days, 180 days, or 365 days.
This is the period between when your doctor says “you have a disability” and when your insurance payout starts. Insurance companies assume (wrongly) that most people have about 3 months of expenses saved us.
At least that is the recommendation of most financial advisers. Unless you have a business or do freelance work, then you need a year. In any case, no long-term disability company will pay you immediately.
Exception: There are a couple of companies who will offer a short-term disability policy. Those have a 7 or 14 day waiting period. Sometimes 0 for accidents. But the benefit periods are also really short. If you are playing the odds, then short-term plans won’t do much for you. They’re also crazy expensive. You will pay about the same for a short-term plan as you would for a long-term plan.
Our Recommendation for Waiting Period:
90 days. That’s the best ratio of dipping into savings versus how much your disability insurance plan will cost you. You won’t save much money with a 180-day waiting period. A 60-day will shoot your premiums through the roof.
Non-Cancellable vs. Guaranteed Renewable
These are the two types of contracts. The base contract is a guaranteed renewable disability insurance plan.
All guaranteed renewable means is that as long as you pay your premiums, you have coverage.
A non-cancellable contract is a step up. This means that as long as you pay your premiums, you have coverage. It also adds a condition that the insurance company can never raise your rates.
At this point, you probably think that non-cancellable is the way to go. Hold that thought for a moment, please. Would you still think the same if I told you the last time a company raised rates was in the early 1970s?
(Quick Aside) How Disability Companies Actually Raise Rates
Raising rates on a disability insurance product is an enormous pain in the rear end. It’s expensive and time-consuming because the company has to apply to the state board of insurance anytime they want to do something with a product, whether it’s a new product or old one. As we all know, government anything takes forever. When it’s insurance, it makes the lines at the DMV look like racehorses.
There is also the added risk that when a customer sees that you want to raise their insurance payments (for which they have no tangible benefit), they will dive straight into the loving arms of your competitors.
So instead of dealing with that potential debacle, they just issue new products. (Pro tip: if you hear a company is issuing a new product, call your agent or DI wholesaler and find out what the difference is. Chances are someone can tell you why.)
The other sneaky way is to change the occupation class. (Disability insurance rates people by occupation instead of the life insurance health classes.) Of course, that doesn’t retroactively affect your policy.
How a Disability Insurance Policy Actually Works (Continued)
Depending on the company you apply with, these next disability insurance components are riders. That means they often cost extra.
Residual is the only rider you better put on your policy. (That sounds aggressive, but seriously, it would be stupid to skip over it for reasons I’ll detail in a moment.)
Residual (sometimes people call this partial) is where you can still work, but only part-time. This is most common in illnesses that haven’t progressed to the more severe stages. It kicks in when your hours (or wages) drop below 80% of normal. Most importantly, it starts the clock on the waiting period.
Let’s use cancer as another example. You get diagnosed, and suddenly you are at home sick from chemo all the time. The chemo ramps up. So people often miss a few days of work at first. (Provided their employer isn’t entirely heartless.)
Bob decides to schedule his chemo on Friday morning, so he has all weekend to recover. Then as the chemo ramps up, he starts taking Fridays and Mondays off. This can go on for some time before he is too exhausted and nauseous to work.
If Bob has a residual rider on his policy, that will kick in as soon as he is working less than 80% of his normal hours or is making less than 80% of his normal pay.
Most importantly as soon as he triggers the condition for residual to kick in, it starts ticking down that waiting period.
You can see that without residual, you have an all or nothing policy. Which is still better than nothing, but the cost of the rider is negligible compared to the cost of the policy. You might as well save yourself a headache and have it.
Own Occupation vs. Modified Occupation vs. Any Occupation
Your disability insurance policy will have an occupation definition. This determines what “unable to work” means. The best disability insurance companies will not even offer you an any occupation definition. It’s important to watch out for them anyway.
Any occupation means that the insurance company will only pay your disability claim if you cannot do ANY job. Some of the companies who offer any occ definitions qualify with “any occupation by training or experience.” So even if you are a neurosurgeon now and develop a slight tremor that prevents you from doing surgery, but you had a summer job in high school flipping burgers, guess what you are still qualified to do.
That’s some nonsense, right? How are you supposed to maintain your lifestyle like that?
That is an extreme example. But most of us had terrible jobs early on in our working years that we would rather not repeat.
Modified occupation is the base level acceptable definition. It just means that if you cannot do your job (the one that you were doing when your doctor broke the news to you) and you aren’t doing any other job, then your disability insurance company will pay the claim.
Honestly, unless you are a super type-A personality, this definition is fine. Although if you are the type of person who has to be doing something productive all the time, you might want to consider an own occupation definition.
An own occupation (aka true own occupation) definition means as long as you cannot do your job (and many times in your specialty), you will receive your payout. If you choose to work another job while on claim, then you can do so without any effect on your benefits.
A common example you will hear is about doctors. Most examples for disability insurance pertain to doctors because they almost always buy disability insurance. Maybe it has to do with being around sick people all the time. It could be that the enormous student loans create a strong risk aversion. Who knows.
Anyway, if our neurosurgeon from the previous example develops a tremor that prevents him from doing surgery, he will get his disability claim paid. But then he gets bored. After all, it’s only a tremor. It’s not like he can’t do anything. So he decides to switch to a general practice physician or teach neurosurgery at a medical school or switch gears entirely and do something different, he can. He will still receive his disability benefit every month.
COLA stands for Cost of Living Adjustment. Inflation means your dollar is worth less every year, right? So if you are on disability for 20 years the spending power of your benefit will be less than what it was when you originally went on claim.
COLA compounds your benefit every year that you are on claim, usually by about 3%. There are also variable types of COLA that range from 1 – 10%. The variable is tied to the CPI so whatever it was the previous year, your COLA matches for the next year.
Bonus, it’s compounding. So if you start out with a $1,000 a month benefit, then the next year you will have a $1,030 per month benefit. The year after (if you picked the standard 3%) will be $1,060.90.
This only happens while you are on claim.
Future Purchase Option
This rider does almost exactly what it says. It allows you to increase your benefit after you own the policy for a while.
Remember when we talked about the benefit I almost always set at 60% of your income? Hopefully, your income is increasing. But once your underwriter a policy, that’s your benefit. You could always get a second policy, but that’s pain.
FPO allows you to send in proof of your current income to increase your benefit. Keep in mind your premiums will also increase to reflect the new benefit. However, they are the same underwriting guidelines that your underwriter used originally.
If something happened since you took out your policy and exercised your FPO, that doesn’t affect your new rates. Did you gain a little weight? Doesn’t matter. Did you start smoking? Doesn’t matter. Have you developed chronic back pain that you haven’t seen the doctor about yet? Doesn’t matter.
If you are considering any add-ons to your policy in addition to Residual/Partial, then this is a good idea.
Automatic Increase Rider (AIR)
This is another rider with a relatively straightforward name. This automatically increases your benefit over the first 5 years of your policy. The downside is your premium also increases.
The idea behind this rider is to increase your benefit as inflation decreases the buying power of each dollar you earn.
Some companies include this rider without any extra charge to the policy. After all, it doesn’t make a lot of sense for you to pay for the privilege of increased benefits if you’re paying for those with increased premiums.
Waiver of Premium
This rider is so important that it comes without charge on every reputable policy.
Waiver of premium on a disability insurance policy kicks in when your doctor says you can no longer do your job. Once it does, you no longer have to pay your disability insurance premiums until you are fully recovered.
It’s one less thing to worry about paying for if you are one of the four people that will go on claim over the course of your working years.
Return of Premium (ROP)
This one is complicated. Return of premium sounds excellent in theory. In practice, it depends on how the disability insurance company specifically structures their return of premium rider.
Some companies will return 100%, others 80%, others 50%. You need to know at what interval they return premiums. Is it every 10 years? When the policy expires at age 67? What about if you cancel the policy?
The cost of the rider will nearly double your premiums. So for this rider, you need to ask yourself if you can (and more importantly will) do something to invest the money better.
For example, if you are super diligent about investing, then we would recommend skipping on the ROP rider and investing the money it would have cost you. If you are more of an “I’ll get around to it someday” type of investor and you can afford return of premium, then you are essentially paying yourself a huge chunk of change many years down the line.
Tips for Buying Disability Insurance
Disability insurance is more expensive than life insurance. Here are a few tips to getting the lowest rates. There is also one for making the underwriting process easier and 4x faster.
Present your job in the best light possible
Disability insurance will put you in a rate class according to your job. Your health matters, but not as much as in life insurance. Your family history doesn’t matter.
If you have a job that is harder on your body or puts you at risk, you will pay more than someone who sits behind a desk all day.
There are even subcategories for people who sit behind desks depending on how much they make.
Therefore rather than just stating your job title on your application, you should be as detailed as possible about your duties. The more white-collar duties you have, the better. The more you can show you make, the better.
If you are self-employed, read more about disability insurance for business owners here.
Ask about simplified issue
Simplified issue is wonderful. It’s like the no medical exam policy of disability insurance. If you are looking at a lower benefit amount, then you might qualify for a policy with super fast underwriter and no medical exam.
You are looking at a 2-week underwriting process instead of 6 to 8. Plus you don’t have to fuss with the medical exam. You only have to fill out the application and complete a phone interview that asks you most of the same questions as the application.
You can also get simplified issue and guaranteed issue DI policies for groups, explained here.
Ask for a policy review if you stop smoking or lose weight
The primary health concern for disability insurance companies is the height and weight of the applicant. Of course, underlying health conditions are important as well. Smoking will add another 50% (or even double) your premiums.
Therefore if you stop smoking or lose weight, contact your insurance agent about a policy review. For both smoking and weight loss, a year must pass without either a cigarette or with stable weight. Once you meet this qualification, the company will remove the smoker or table rating.
Buddy up for a multi-life discount
Discounts are great, right? So if you can find two others people applying with the same company, you might able to get 15% off. The catch is that the entire group must work at the same place. (Sorry, no company allows a multi-life discount for a husband and wife.) Sometimes you can get a 2-person discount if you and your partner own a business together.
Women pay significantly more for disability insurance than men. However, every once in a while you can find a gender-neutral multi-life discount. This isn’t as good of a deal for men, they normally will see about a 10% discount as opposed to a 15% elsewhere. But for women, you are looking at up to 40% off.
So talk to your agent about if any companies are offering this is your state. If you are, talk to two other of your lady colleagues, and all go in on this together. You will not find a better deal anywhere.
Disability insurance often assumed to have most of the same properties as life insurance. This is wrong. This results in a lot of questions about how things work and why they are so varied. If you have other questions, please feel free to call 858-703-6178.
Why is disability insurance so expensive?
You are much more likely to become disabled than die in your working years. Traditional disability insurance companies will not offer policies to people over 67 or sometimes 70.
Why does it only cover 60% of my income?
They offer a benefit below your income to discourage malingering (faking injury so you can sit at home and do nothing.) By offering a benefit that should support the family, but isn’t as much as they’re accustomed to, it incentivizes people to focus on recovery so they can go back to work.
Plus, they base the benefit off of your gross income, not your net. Depending on how much you pay in taxes, it’ll be closer to what you normally take home.
Why does it cover less than 60% of my income?
60% is a general rule. Think of it as a sliding scale. If you make under $60,000, you might see a little higher benefit. If you are earning much more than that, then your benefit will be lower.
The idea is that when people have higher incomes, they are better at self-insuring. It’s also a common assumption in the insurance industry that people with higher income are more financially responsible. Therefore they won’t be up a creek without a paddle if their income suddenly stops. They are more likely to have some savings or emergency fund.
Are Disability Insurance Payouts Taxable?
Nope! You are paying for your policy with post-tax dollars. Therefore you do not need to pay taxes on your disability insurance benefit.
What is not covered?
There are a few stipulations that are common in most insurance policy. Disability insurance will not cover the following:
- Acts of war, declared or undeclared
- Acts of terrorism
- Attempted suicide
- Disability occurring while attempting to commit a felony
- Normal Pregnancies (more on this later)
- Some policies will have exclusions specific to the person (for example, someone who has survived prostate cancer might have a prostate cancer exclusion on his policy.)
Can I get it through work?
Some companies offer disability insurance to their employees. This is different than an individual disability insurance policy. Group policies frequently have shorter benefit periods and/or more restrictions. That doesn’t mean they’re all terrible.
Get a copy of your policy from HR and ask your insurance agent to review the differences between them.
How do I get more coverage?
Outside of AIR and FPO riders you have two options, a new policy or a supplemental policy.
You can drop your coverage and get a brand new policy with a higher benefit. This is generally not advised since your premiums depend on your age.
Stacking policies is common among high-earning individuals. Most traditional companies will max out the benefits at $15,000 or $17,000 per month. That is called the issue limit. Most disability insurance companies will have a second “participation limit.” This is the total amount of coverage that you have.
Once you go beyond that participation limit with multiple policies, you can take out coverage from a non-traditional company. What you can get from them is up to their discretion.
A quick side note on stacking policies. Only submit one application at a time. If you apply with two companies at once, red flags go up when they do their Medical Information Bureau check. Then you have delays and headaches while you have to explain to both companies that no, you aren’t trying to commit insurance fraud. You just want to stack policies.
Why can’t I get coverage if I earn more than 6 million a year?
Most companies believe you should be able to self-insure at that point. Ask your life insurance agent about non-traditional disability insurance.
Does it cover pregnancy?
This is a tricky one. Normal pregnancies, no. Complications of pregnancy, yes.
Insurance companies believe that because childbirth is a normal part of life, they should not be on the hook for paying you while pregnant or on maternity leave.
That being said, if there is a complication, then they will pay. Keep in mind most individual disability insurance policies have a 90 day waiting period. If you are doctor ordered bed rest, you can submit a claim and start ticking down that waiting period. If something goes wrong during the birth and you cannot return to work for a while, that also counts as a disability.
Can I get disability insurance while pregnant?
It depends on the trimester. There is normally no issue getting coverage in the 1st trimester. The second is iffy, and it depends on the company you apply with. The 3rd trimester is always a postpone.
Who decides I’m disabled?
Your doctor. The disability insurance company reserves the right to have to examined by a specialist at their expense. Although that rarely happens.
What if I’m a pilot, firefighter, lumberjack, oilman, etc.?
Some occupations make it almost impossible to get reasonably priced disability insurance. Pilots, firefighters, lumberjacks, anyone working on an oil rig, miners, etc.
Occasionally a traditional disability insurance company will take one of these occupations at the lowest class rate. But your best bet is to either look at a non-traditional disability insurance company or set aside enough money every month to cover your living expenses for a year.
What about pre-existing conditions?
Some pre-existing conditions can be excluded from the policy. Others will increase the premium 25% to 200%.
If you have high blood pressure or high cholesterol, that’s pretty normal. Most disability insurance companies won’t care about that.
Most of the time people can get away with exclusions and small ratings. But for serious things like multiple sclerosis, you might face a decline. Ask your agent to pre-screen anything serious before applying.
Can I work in a different job?
If you have a “true own occupation” definition on your policy, then yes. Otherwise, no.
Can they force me to go back to work?
An insurance company can only force you back to work if you have an “any occupation” definition on your policy. Even then sometimes they can only ask you to do something you are qualified for by education or experience.
Does individual disability insurance have health classes like life insurance?
No. Individual disability insurance has occupation classes instead. Your job is the determining factor on your disability insurance rates.
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Need additional help?
Have more questions about disability insurance? Curious to see what your rates might look like? Give us a call at Abrams Insurance Solutions. We are happy to answer your questions and there is never any obligation to buy. Speak with a knowledgeable disability expert today at 858-703-6178.