Introduction
Disability insurance is an important money tool that protects income in the event of sickness or injury rendering you unable to work. Regardless of whether you are self-employed, working for a company, or a business owner, a proper disability insurance policy can prove to be a lifesaver when illness or disability strikes unexpectedly. But selecting the appropriate policy can be overwhelming, given the numerous choices in the market. To make a well-informed choice, it’s crucial to take into account several factors that suit your individual needs, lifestyle, and financial objectives. Here’s a detailed guide on how to select the appropriate disability insurance policy that suits your specific situation.
1. Know the Types of Disability Insurance
Before going into the specifics, it’s important to first know the two basic forms of disability insurance—short-term and long-term.
Short-Term Disability Insurance
Short-term disability insurance exists and is meant to give you a temporary income substitution if you get temporarily disabled and cannot work. This insurance is typically for a short period, 3 to 6 months, but occasionally it will go up to one year, depending on the company and policy terms.
- Duration of Coverage: While short-term disability insurance covers a duration that is typically between some weeks and six months.
- Benefit Amount: It usually covers approximately 60% to 70% of your gross salary during the period of coverage.
- Purpose: It’s helpful for recovery from surgery, giving birth, accidents, or illnesses temporarily hindering your capacity to work.
Long-Term Disability Insurance
Long-term disability insurance replaces income for a longer duration, from several years to the age of retirement. Should you be afflicted with a permanent or long-term injury or illness that affects your capacity to work for an extended period or forever, long-term disability insurance exists to ensure that you remain financially secure.
- Duration of Coverage: Long-term disability insurance generally covers benefits for two, five, or even to age 65, depending on the policy provisions.
- Amount of Benefit: Similar to short-term disability, long-term disability insurance also usually replaces 60% to 70% of your pre-disability earnings.
- Purpose: It’s most suitable for those who are at risk of long-term or permanent disability that would bar them from going back to their occupation.
2. Assess Your Current Financial Situation
Selecting the appropriate disability insurance policy begins with knowing your financial requirements. Reviewing your current financial situation can assist you in identifying how much coverage you need. Ask yourself the following questions:
- How much income do you need to sustain your lifestyle?
- What are your necessary monthly expenses (rent, mortgage, utilities, groceries, etc.)?
- Do you have savings or other sources of income to fall back on in the event of a disability?
- What are your long-term financial goals, and how can disability insurance assist in safeguarding them?
Having a clear idea of your income needs will lead you to the appropriate policy that can fund a good portion of your salary. Keep in mind that the majority of disability insurance policies fund up to 60%-70% of your gross income, so budget accordingly.
3. Investigate Policy Terms Thoroughly
Disability insurance policies vary widely in coverage, price, and conditions. So it’s important to read the fine print and know the ins and outs of any policy you are thinking about. Some things to look for are:
- Benefit Amount: Check what percentage of your income the policy will cover. Some policies pay a larger benefit percentage but at a higher premium.
- Elimination Period: Waiting period prior to benefits commencing after you become disabled. The shorter the elimination period, the more you’ll pay in premium. Think about how long you might live on without income until you start receiving disability payments and select the elimination period that works best for you.
- Benefit Period: Benefit period is the duration for which you will be paid disability benefits. It can range from a few years to retirement age. Make sure you choose a policy that offers benefits for as long as you may require.
- Exclusions: All policies have exclusions. These are certain conditions or circumstances where the insurance company will not offer benefits. Examples of exclusions are pre-existing conditions, injuries caused by self-harm, or disabilities arising from high-risk activities such as extreme sports. Ensure you are well aware of what your policy excludes.
4. Look at the Policy’s Definition of Disability
Perhaps the most important aspect of choosing a disability insurance policy is the definition of disability used by the insurer. Various policies have different definitions of being “disabled” or “incapable of working.” Knowing this definition will determine if you can or cannot claim your benefits when needed.
- Own Occupation Definition: This is a broader definition and will entitle you to benefits if you cannot do your own particular job, but can do another occupation or job. This is very beneficial for people who are professionals, such as doctors, lawyers, or other specialized workers whose profession demands a specific skill set.
- Any Occupation Definition: This is a stricter definition. In this category, you will receive benefits only if you cannot do any work at all, even if it is not in your line of work or another type of job for which you are trained. This definition can be more difficult to meet.
When choosing between these two definitions, consider the nature of your work and how a disability might impact your ability to perform your job versus another one.
5. Compare Policies from Multiple Providers
Disability insurance policies are available from a variety of insurance companies, each with its own terms, benefits, and premiums. It is always best to shop around and compare policies from various companies before deciding. Things to consider when comparing providers are:
- Premium Costs: Don’t go for the lowest policy, but rather compare the premiums against the coverage offered.
- Provider Reputation: Opt for providers with a good reputation for settling claims and providing great customer service. Review the company’s ratings from rating agencies such as A.M. Best, Moody’s, or Standard & Poor’s for financial strength.
- Claims Process: Ensure that the provider has an easy and transparent claims process. Check reviews and seek feedback from existing policyholders regarding their claims experience with the insurer.
6. What the Cost of Disability Insurance Is
The price of disability insurance depends on various factors, such as your health, age, occupation, policy type, and coverage amount. You should try to balance between how much you can pay in premiums and the coverage you need.
Age and Health
Healthier, younger people generally pay lower premiums since they are less likely to be risks to insure. But as you get older or develop health problems, your premium will rise. Insurance firms view risk based on your health profile and age, so it pays to buy disability insurance when you are young and healthy in order to secure a lower rate.
Occupation
The nature of your job also plays a significant role in determining your premium. Jobs that are physically demanding or carry a higher risk of injury, such as construction work or working with heavy machinery, will generally come with higher premiums. On the other hand, jobs that are sedentary or less risky, such as office work, tend to have lower premiums. Some insurers offer “occupational classes” that categorize jobs based on their risk level.
Coverage Amount and Duration
The greater the amount of coverage you require, the more you will pay in premiums. If you choose a greater benefit amount, shorter elimination period, or extended benefit period, be prepared to pay more premiums. You should consider how much of your income you would have to replace in the event of disability and choose a policy that meets your needs without breaking your bank.
7. Group Disability Insurance vs. Individual Disability Insurance
The next important choice to make in choosing a disability insurance policy is whether or not to choose group disability insurance or individual disability insurance. Both have their pros and cons, so it’s important to compare them.
Group Disability Insurance
Group disability insurance is usually supplied through your work. Short-term and long-term disability insurance may be included in the benefits offered by many employers. This sounds like a great idea, but there are a few things to keep in mind:
- Coverage Limits: Group plans usually only cover a percentage of your income, usually about 60%. This might not be enough to keep you at your current standard of living, particularly if you have important expenses.
- Portability: Perhaps the worst thing about group disability insurance is that it’s usually tied to your employment. If you switch jobs, you might lose coverage, and you might struggle to get a new policy with the same terms.
- Customization: Group plans are made to be one-size-fits-all, so you might not be able to customize the coverage to fit your particular needs. Individual policies, however, can be tailored to fit your situation.
Individual Disability Insurance
Individual disability insurance provides greater control and flexibility. With an individual policy, you can customize the terms to fit your specific requirements, such as the benefit amount, elimination period, and benefit period. Some of the most important benefits are:
- Greater Coverage: Individual policies usually enable you to get a larger percentage of your income (up to 70-80%) than group policies.
- Portability: Because individual disability insurance is not employer-specific, it continues in force when you switch jobs. This offers long-term protection.
- Customizable Terms: An individual policy can be tailored with numerous riders and options to more appropriately fit your individual and financial circumstances.
Though individual disability insurance may be more costly than group coverage, it provides broader protection and greater peace of mind.
8. Leverage Tax Considerations
Disability insurance policies have a number of tax consequences that you should consider prior to making your decision. Depending on whether you remit premiums using pre-tax or post-tax dollars, the tax treatment of your benefits will vary.
- Pre-Tax Premiums: If your company provides disability insurance and you contribute premiums through a payroll deduction with pre-tax dollars, any disability benefits you get will usually be taxed as income. This will lower the benefit amount you get.
- Post-Tax Premiums: If premiums are paid in after-tax dollars, the resulting disability benefits received will be tax-free. This is a benefit in the long term, as you will be left with the full benefit without taxes to deduct.
It’s important to take your tax status into account and seek the advice of a financial advisor to decide if paying post-tax premiums is more advantageous for you, particularly if you anticipate using disability benefits for a long time.
