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Why Disability Income Insurance?

If you were unable to work for an extended period of time due to an injury or illness, how long would you be able to pay your bills and meet your day-to-day expenses? Do you know how much income you would receive from outside sources — and for how long?

A long-term illness or injury could wreak havoc on even the soundest financial plan and can occur at any time. With that in mind, your best defense against such a financial catastrophe may be the purchase of a disability income insurance policy with enough coverage to compensate for your lost wages.

Disability income insurance replaces part of your income if you become unable to work due to an injury or illness. It provides you with cash that you can use for paying your mortgage or rent, buying groceries, and meeting your daily living expenses. Even if you don’t have an immediate need for disability income insurance, it also gives you some peace of mind that comes from knowing that you have a financial plan already in place.

The Most Important Insurance Policy of All?
In fact, some may argue that disability income insurance is the most important type of insurance policy you can purchase — more important than homeowner’s, health, auto, or even (in certain cases) life insurance. That’s because disability income insurance protects one of your most important and valuable assets: your ability to earn income. After all, it is your ability to earn income that allows you to have a car, a home, and a particular lifestyle, as well as to purchase the various insurance policies that safeguard your net worth and the financial well-being of your loved ones.

Putting Policies in Perspective
For most people, there are two main forms of disability income insurance to consider: employer-sponsored policies and private insurance policies. Employer-sponsored policies (called "group" policies) are relatively inexpensive to purchase and generally remain in effect for as long as the individual continues to work for the company. However, there are often significant limits on the benefits provided by group policies, so it’s important to determine whether the coverage is enough to address your potential spending needs. (Government-sponsored disability income insurance programs and policies also exist, but they generally have strict eligibility requirements and therefore don’t apply to many people.)

Private insurance policies are paid for by individuals and provide coverage when group policies don’t apply or don’t provide enough income. On the surface, a private policy is usually more expensive to purchase than a group policy. However, a private policy’s potential to provide much greater benefits over time may make it a more prudent long-term choice. And considering that group policies often end up providing inadequate benefits, even those workers with group coverage should consider purchasing a private policy in order to fill the income gaps frequently associated with group-only coverage.

Keep in mind that some people may be eligible for disability benefits through other sources — such as worker’s compensation programs, Veterans Administration pension programs, state vocational rehabilitation programs, and Social Security, among others — but coverage and availability vary significantly.

Who Needs Disability Income Insurance?
For all practical purposes, if you need the income you earn at work, you probably also need disability income insurance. Consider this: Almost one third of Americans between the ages of 35 and 65 sill experience a disability of at least 90 days at some point during their working lives.1 Among those most likely to benefit from disability income insurance are:

  • Small-business owners and the self-employed. People in this group may be most at risk of financial hardship arising from a disability, since most don’t have group coverage and time out of work generally means that income stops flowing. Small-business owners may want to consider purchasing group coverage for themselves and their employees. Offering group disability income insurance coverage does more than simply enhance the financial security of current employees — the benefit can also help to attract new employees, as well.

  • High-income professionals. These individuals typically would not receive enough income from a group policy to cover their usual spending needs and to maintain their preferred lifestyle.

  • Primary "bread winners." Regardless of whether an individual already has some group coverage, it’s important not to be lulled into a false sense of security. Quite often, group coverage just doesn’t provide enough money — even for those with relatively modest spending needs. 

So How Much Disability Income Insurance Do You Need?
The key to determining your disability income insurance needs is to assess exactly how much money you would be required to spend during each week or each month that you would be unable to earn your normal pay. For example, if you would need 80% of your pretax earnings, but your group policy would only pay an amount equal to 60%, then you would in all likelihood need additional disability income insurance coverage.

Finally, keep in mind that a disability income insurance coverage varies in availability based on your occupation. Some higher-risk jobs may not be covered. Others may offer only limited coverage. That’s why it’s important to seek the assistance of a qualified insurance professional. He or she can help you assess your disability income insurance needs and find a policy that’s most appropriate for you.

Disability Defined
The way in which a disability income insurance policy defines disability can determine your eligibility to receive insurance benefits should you become disabled. Generally speaking, you want a policy with the most favorable definition of disability. Here’s a quick overview of the three basic definitions of disability:
The most comprehensive definition of disability. It essentially states that you’re unable to perform the material and substantial duties of your own occupation. Generally speaking, the insurer will consider your occupation as the job you were performing at the time of your disability.
Income replacement.
Similar, but less comprehensive than the "own-occupation" definition. Policies with income replacement coverage define disability as sickness or injury that doesn’t allow you to perform the material and substantial duties of your own occupation and typically stipulate that you’re not currently engaged in any other occupation.
Gainful occupation.
The least desirable definition. These policies define disability as your inability to perform the material and substantial duties of your occupation or any other occupation that you are considered to be reasonably qualified for by way of your education, skills, or training.

Points to Remember

  1. Disability income insurance provides replacement income to individuals who are unable to earn income from work as a result of an extended illness or injury.
  2. There are two main types of disability income insurance: employer-sponsored (or "group") policies and private policies. Group policies are typically less expensive, but they may also have more restrictions and limitations than private policies.
  3. Many people with group policies may have a false sense of security due to the mistaken belief that the group policy would provide enough money to meet spending needs. In reality, it may also be necessary to supplement group coverage with private coverage.
  4. Among those most likely to need disability income insurance coverage are small-business owners, the self-employed, high-income professionals, and anyone who is the primary earner in his or her household.
  5. Disability income insurance coverage varies based on your occupation.

This article is not intended to provide specific investment or tax advice for any individual. Consult me, your financial advisor, or your tax advisor if you have any questions. 

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