One of the first steps in an effective financial plan is to identify and manage any risks to you and your family when it comes to your finances.You insure the risk of losing your house, you insure the risk of your car being totaled, you even insure the risk of losing your life. You insure a lot of things, but one of the biggest assets you need to insure is your ability to earn an income.
→ Think about it:
If something happened to you where you couldn't go to work anymore (and therefore couldn't earn a paycheck) how would that impact you and your family?
What would you do?
It would likely be devastating to you and your family.
Especially, if you're higher income and your lifestyle is more expensive.
One moment you're making X amount of dollars per month, and then a life changing accident or circumstance happens and now there's no money coming in.
Let's be honest. It would be potentially life shattering.
That's why insuring your ability to earn an income is critical and that's where disability insurance can help.
Disability Insurance (DI) protects your ability to earn an income in the event you become disabled and can't work.
If you're in an accident or for some other reason are unable to work due to a qualifying disability, DI will pay you a monthly income benefit while you're disabled and not working or bringing in an income. This can be huge to help not disrupt or destroy your lifestyle while you're dealing with a disability or situation where you can't go earn the income you're accustomed to.
In exchange for this monthly benefit, you pay an annual premium. The annual premium amount is based on your income, age, health, line of work, etc.
As with any insurance policy there are other various specifics and need-to-know details about the policy.
DI policies will have a benefit period which is the length of time that you are paid your monthly benefit. The benefit period can range from 2 years, 5 years, 10 years or can even last until age 65. The benefit period can also impact your annual premium. For example, the longer the benefit period the higher the premium for the policy.
As previously mentioned, the policy premium can also be impacted by things like your income, age and health. If your income is higher, you're likely going to need a higher benefit amount which will translate to a higher premium. If you're older you'll likely pay a higher premium. If you're younger and healthier you'll likely pay a lower premium.
DI policies will also have what's called an elimination period. The elimination period is the amount of time you have to wait when you file a claim before your benefit starts. A lot of times this is 90 days, but it can be shorter or longer. The shorter the elimination period the higher your annual premium and vice versa.
For example, if you become disabled and file a claim on January 1st and your DI policy has a 90 day elimination period, then you would need to wait 90 days until April 1st before you start receiving your monthly benefits.
Your monthly benefit within a DI policy is the actual benefit you get each month if you become disabled and file a claim. This is really where the rubber meets the road because the monthly benefit is the income you receive while you can't work and is the whole idea behind having disability insurance.
When you first establish your DI policy, the monthly benefit will be in today's dollars and based off of your current income. But if your income goes up over time, which is likely, you want to make sure your monthly benefit increases as well so that you're keeping your income insured even as it grows over time. That's why it's important to have a COLA or inflation adjustment rider on your policy. This COLA or inflation adjustment can increase your monthly benefit amount over time, but it does come at a cost and will usually result in a higher premium on your DI policy.
These are some of the basics when it comes to understanding a DI policy; however, there are other ways that you can customize your DI policy to fit your needs and goals for insuring your income.
W2 Income Earners
If you have W2 income then you need to have disability insurance on that income. Because that is earned income, income where you need to go earn it to receive it, and if you became disabled where you couldn't go earn that income anymore then it would stop coming in.
Essentially, if you have a job where you're employed for a company then you need to have that income insured with a DI policy.
And ideally you should have your own DI individual policy. A policy that you own and that you control.
Even if you have disability insurance through your employer you should still have your own individual policy that you own and that you control.
Here's why.
Your DI coverage that you might have through your employer is likely a group policy. And group policies typically have what's called own occupation for the first couple of years of your disability should you become disabled, then after that it reverts to any occupation.
Own occupation means that you're considered disabled if you can't work in your "own occupation". For example, if you're an attorney and for some reason you become disabled and can't work as an attorney anymore, but you could go work at McDonald's, under own occupation you are still considered disabled and entitled to a benefit.
Conversely, under "any occupation" to be considered disabled you have to not be able to work in any occupation. So, in our attorney example if you couldn't work as an attorney but could still go work at McDonald's you would not be considered disabled and you wouldn't be entitled to a benefit.
If your group DI policy has an own occupation definition for the first couple of years that's fine, but what if your disability last longer than a couple years and your group policy now switches to an any occupation definition after a couple years? You won't be able to receive any income benefits anymore. This could be catastrophic to you and your family financially.
That's why it's important to have your own individual policy and ideally one that has an own occupation definition on the policy for the life of the policy to help mitigate this risk.
Additionally, with group policies if you leave the employer providing the DI policy then you obviously lose the coverage. Whereas, with your own individual policy it stays with you for the life of the policy as long as you pay the premiums, even if you change employers.
Small Business Owners
Even if you own your business the income is still likely earned income. And if you own your own business, especially if you are a one-person business, then you arguably need DI more than if you were W2.
There's a couple reasons why:
First, as the business owner your income is solely driven by your ability to go out, work in the business and bring in revenue. If you were unable to go work in your own business and bring in revenue your income might completely disappear.
Second, you obviously are not employed by company where you can have access to a group DI policy to give you coverage.
Given that your income could be completely gone if you were unable to work in your own business and you don't have access to group coverage should you become disabled you need to take the steps to protect yourself and get your own individual DI policy in place.
This is a major gap and risk factor that many business owners overlook.
And as a business owner it's critically important to structure your DI policy to meet the needs of your business such as increasing the monthly benefit as your business income increases.
If you're in a situation where you need a DI policy, W2 income or self-employed business owner, and you don't have a DI policy in place that you own, I'd love to have a conversation with you to see how we might be able to help and get you started in the right direction.
Feel free to schedule a time to talk with me using the link below.
Cheers,
Michael
Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual.
Please keep in mind that insurance companies alone determine insurability and some people may be deemed uninsurable because of health reasons, occupation, and lifestyle choices.