The vast majority of people have a big hole in their otherwise carefully laid financial plans. A gap that, if unaddressed, could derail them from reaching their goals — or worse. The potential consequences are unfathomable. Yet the hole sits there, big as day.
It’s difficult to imagine reasonable, intelligent people intentionally leaving such an enormous pitfall in their plans. But more likely, what appears to be done intentionally is actually done unwittingly.
So what is this huge financial mistake? Most Americans live paycheck to paycheck. A short period of unemployment can result in significant financial consequences. Imagine what would happen in a more drastic situation: if you were entirely unable to work for a period of time due to disability. This is not out of the realm of possibility.
The Statistics on Disability
Over 85 million Americans are disabled, according to the U.S. Census Bureau. Not surprisingly, those with a disability earn earn significantly less than those without. Looking at tables prepared by the Social Security Administration, you can see that the chance of a worker being disabled before age 65 is three to four times more likely than the worker dying before that same age.
Disability during an individual’s working years is actually quite common.
In 2015, 10.5 percent of the U.S. population between the ages of 18 and 64 were disabled. Less than 35 percent of them were employed, while 76 percent of those without disabilities had jobs. That’s a big difference.
Disability is real. It happens.
The Excuses: Why People Don’t Get Disability Insurance
Many people believe that disability won’t happen to them. They play the lottery believing they can win a one-in-a-couple-hundred-million long shot. That 10.5 percent quoted above is from just one year. The chances across an entire career are much, much higher.
Meanwhile, others believe that they can’t afford to address the problem. They’ll tell you that over an expensive latte or craft beer. They just don’t have the money. There’s no money while they are not sick or injured. Imagine how little there will be if the paychecks stop due to injury or sickness.
Still others believe that they are covered through work. Let’s look at this a little deeper.
Existing Disability Coverage
Some people have no disability income insurance. These are clear cases — they need to get some! But others may believe they have adequate protection through work. This bears scrutiny.
Five states have a disability insurance mandate. In these states, your employer must provide disability insurance coverage. How these programs work and the fine print varies from state to state, but for all five of them, the coverage is only short-term. That’s not much help for a long-term disability.
Short-Term vs. Long-Term Disability Insurance
Some people have group coverage through work. Here we need to differentiate between short-term and long-term disability coverage. There is no universal definition or break point. But generally, six months or less is short-term, while over six months is long-term. While you may find some policies that use a year or some other period, for our discussion, we will assume that six months is the breaking point.
Short-term disability coverage is more common than long-term coverage, and you cannot be disabled long-term without being disabled short-term first. (You can’t be disabled for over six months without being disabled for six months first!) Short-term coverage suffices for a number of brief disabilities and serves as a bridge to long-term coverage for protracted ones.
Long-term coverage begins where short-term leaves off. But there are still a lot of variables here. Long-term disability insurance covers a specific period of time, such as three years, five years, or until age 65. During that period, it pays some percentage of your income — most commonly 60 percent.
It’s Not Enough
Whatever disability insurance you have, it’s not enough. Many people think they can reduce expenses if they’re disabled. The reality tends to be the opposite: Expenses go up.
There are things beyond our control. There are initial expenses, such as wheelchairs, wheelchair ramps, and other adaptive needs. And there are ongoing expenses — perhaps a change in required childcare or other services. You’ll also need to save for retirement, when the disability benefits stop.
It’s nice to think that we can economize and reduce costs, but reality often has other plans. Sixty percent of one’s pre-disability income is generally insufficient for dealing with long-term disability. And many group plans don’t provide cost-of-living increases, so the benefit doesn’t go up, even though the expenses still do.
Disability is a complex issue, and disability income insurance is a complex product. A plan’s language is extremely important — more so than the cost. Here are a few points to look at very carefully:
The first is the definition of disability. Each policy — whether through work or through an individual plan — has a definition of disability. How it defines disability determines what you’ll get paid for. The more liberal the definition, the more likely it is that you’ll get paid. The trade-off is that plans with a more liberal definition of disability will have higher premiums than those with narrower definitions. This is an important consideration.
Waiting and Benefit Periods
The next items to consider are the waiting or elimination period and the benefit period. The waiting or elimination period is the time after you become disabled, but before benefits begin. A policy with no waiting period will be far more expensive than one with, for example, a 30-day waiting period. If you’ve built a decent emergency fund, you can opt for a longer waiting period — perhaps even a few months. On the other hand, if your savings are scant, a shorter waiting period might be more appropriate.
The benefit period is how long you’ll receive benefits if you become and remain disabled. In other words, the longest possible period of time that the policy will pay out for. Again, this can range from a couple of years to until age 65. Rarely will plans offer an option of paying longer than to age 65.
Then there’s another big complication of language: the occupation classification. Bear with me — we’ll make sense of this!
A policy can have coverage for any occupation or specifically for your own occupation. An “own occupation” policy defines disability as your inability to perform duties of the job you are in at the time you become disabled. So qualification for payment is based upon that job. An “any occupation” definition is generally broader: Qualification to receive benefits is based upon your ability to perform the duties of any occupation you are suited for by education or experience. It will be harder to qualify as disabled under an “any” occupation definition than it will be to do so under an “own” occupation definition.
Individual long-term policies often have an “own” occupation for a certain period of time. After that period ends, the definition converts to “any.” For example, you may qualify as disabled if unable to perform the duties of your own occupation during the first five years of a disability, then after that you are only able to collect if the disability prevents you from doing the duties of any occupation you are suited for by education or experience.
As you can see, this gets complex.
The solution can be straightforward.
The first step is to understand the problem and educate yourself on the options.
In general, you should avail yourself of any group plans available through your employer. These tend to be imperfect and likely won’t meet all of your needs. Still, they’re an important step, and the cost is generally far lower than that of an equivalent individual policy.
In addition to group plans, most people should have an individual disability insurance policy. If you have a group plan, that is a huge help, as it meets a portion of your total need and you’ll need less in the way of individual coverage. But it’s still good to have both to cover all of your needs. Make sure to consider and understand the contract language both in your group plan and in any individual policies that you hold.
Get It With the Intention of Getting Rid of It
You should always purchase disability insurance with the intent that the need is temporary — that you will eventually be able to get rid of it. You can get rid of it when you achieve financial independence. In other words, when you can afford to live the lifestyle you want to live — including the possibility of some increased expenses — without needing work income. Once you achieve financial independence, you no longer need to protect your income, so you no longer need disability insurance. Until then, a lack of disability insurance is likely the greatest hole in your financial planning.