Types and Choice of Disability Insurance: Every year, millions of Americans suffer from disabling injuries. Disability insurance, which is in addition to health insurance, helps to replace lost income if a person is unable to work due to a disability.
There are three basic methods for replacing income.
- Employer-Sponsored Disability Insurance
In most states, this is required. Most employers offer some form of short-term sick leave. Many larger employers also provide long-term disability coverage, typically with benefits of up to 60% of salary for up to five years until the age of 65, and in some cases for life. - Social Security Disability Liability
This is paid to workers whose disability is expected to last at least a year and is so severe that they will be unable to work. - Policies of Individual Disability Income Insurance
Workers compensation (if the injury or illness is job-related), auto insurance (if disability results from an auto accident), and the Department of Veterans Affairs also provide limited replacement income in some circumstances. Individual disability income insurance is the best way for most workers, even those with some employer-paid coverage, to ensure adequate income in the event of disability.
Workers who purchase a private disability income policy can expect to replace 50% to 70% of their income. Individual disability benefits are not taxed; however, benefits from employer-paid policies are subject to income tax.
Types of Disability Insurance
There are two types of disability policies: short-term and long-term, each with its own set of benefits. Short-term policies have a 0 to 14-day waiting period and a maximum benefit period of no more than two years. Long-term policyholders have the right to renew their policy without a premium increase or a reduction in benefits.
When purchasing a disability policy, there are several options and factors to consider.
Additional Purchase Alternatives
The insurance company allows the policyholder to purchase additional insurance at a later date.
Benefits Coordination
The amount of benefits received by policyholders from their insurance companies is determined by other benefits received as a result of their disability. The policy specifies a target amount that the policyholder will receive from all policies combined and will make up any difference that other policies do not pay.
Cost of Living Adjustment (COLA)
The COLA gradually increases disability benefits in response to rising living costs as measured by the Consumer Price Index. If policyholders choose the COLA, they will pay a higher premium.
Rider for Residual or Partial Disability
This provision allows employees to return to work part-time while still receiving a portion of their salaries and a partial disability payment if they are still partially disabled.
Premium Refund
This provision requires the insurance company to refund a portion of the premium if no claims are made during the policy’s specified time period.
Premium Provision Waiver
This clause states that the policyholder is not required to pay premiums on the policy after being disabled for 90 days.
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Factors Affecting the Choice of a Disability Insurance
Disability Definition
Some policies provide benefits if employees are unable to perform the usual duties of their job. Others only pay if workers are unable to find work that matches their level of education and experience. Some policies define disability in terms of workers’ occupations for the first two or three years before paying benefits only if they are unable to perform any occupation. Policies of “own occupation” are more desirable, but more expensive.
Duration of Benefits
The benefit period is the length of time that policyholders will receive monthly benefits throughout their lives. Experts typically recommend that the policy pay benefits until the policyholder reaches the age of 65, at which point Social Security disability will take over. Because policies with lifetime benefits are still relatively inexpensive, young people may consider purchasing one.
Replacement Ratio
A policy that replaces between 60% and 70% of total taxable earnings is recommended. If available, a higher replacement percentage is more expensive. Before determining how much disability coverage is required, other sources of income should be considered.
Disability coverage resulting from an accidental injury or illness
Although an accident-only policy is less expensive, it does not provide adequate coverage. Accident and illness coverage should ideally be purchased.
A Cost-of-Living Increase in Benefits
Benefits may not be paid for a decade or more, and policies should keep up with increases in the cost of living.
A policy that provides “residual” or partial benefits
This type of policy allows people to work part-time and still receive a benefit to compensate for lost income. A residual benefits policy, which is standard in some policies and optional in others, pays partial benefits based on income loss without an initial period of total disability.
Transition Advantages
Some companies provide it as a way to offset financial loss during the post-disability period of rebuilding a business or professional practise.
Ongoing Protection
A non-cancelable policy remains in effect as long as the premiums are paid; neither the benefit nor the premium can be changed. A guaranteed renewable policy maintains the same benefits but may cost more over time because the insurer can raise the premium for an entire class of policyholders.
Economic Stability
Check insurers’ financial stability with an agent or a ratings firm.