Jan 23, 2018
Insurance agents are quick to point out that a person’s chances of being disabled for three months or more are much higher than the chances of dying during that person’s working career. You make sure that you have life insurance. Why not make sure you have disability insurance to cover a risk that is much more likely to occur? So goes the sales pitch. It’s true that your chance of being disabled for an extended period is quite a bit higher than your chance of dying before age 65. But that doesn’t necessarily mean you should be quick to buy disability insurance that covers you for more than the first year or two. Disability policies typically provide two types of benefits: short term payments and long term payments. Short term is usually for the first six to eighteen months of disability after which, if you are still disabled, long term benefits kick in. For both, the policies usually pay between 60 – 70% of the insured person’s base compensation. In addition, many disability policies, and almost all offered through your employment, contain Social Security Disability Income (SSDI) offset provisions. This means that insurers will offset against your disability claim any money you end up receiving from SSDI. If you receive additional Social Security disability benefits because you have dependents living at home, disability policies usually allow the insurer to offset those benefits too. Generally a person can’t qualify for SSDI unless and until they have been out of work for more than a year and are not likely to return to a meaningful job. What this means is that for folks earning no more than $2,000 to $3,000 a month, money spent to buy disability benefits beyond a period of from 18 to 24 months where the policies contain SSDI offset provisions is probably wasted money. You can see why by looking at the following hypothetical. Let’s say you’re 45 years old, earning $2,500 a month and you are diagnosed with severe rheumatoid arthritis. It’s not immediately apparent that you are going to permanently disabled but after 18 months off work with steady degeneration in your physical condition, you feel worse than ever and your doctor tells you you’re not ever likely to go back to meaningful work. Your disability policy pays you 66.6% of your gross wages, $1,666.00 per month, and has an SSDI offset provision. When it becomes clear you are probably not going to be able to return to work, you apply for, and eventually receive, SSDI. How much you receive in SSDI will vary depending on how much you’ve contributed to the Social Security system over your working career. But it can easily be as high or higher than the amount of your disability policy payment, especially if you receive dependent benefits. And your disability insurer will insist on offsetting, dollar for dollar, all money you get from SSDI. If you receive $1,500 in SSDI, you will get only an additional $166.00 from your disability insurer. You can easily end up with the disability policy payments being almost completely eaten away by the SSDI offset. The fact that many disability policies specifically say that you are entitled to a minimum benefit of $100 a month even if the SSDI offset is greater than the policy benefits will be small comfort to you. So, here’s the bottom line: disability insurance is a very important financial planning tool for individuals who are unable to work for up to a year or two. It often takes that long or more for an SSDI claim to be processed and approved. During that waiting period, short term disability payments can be a critically important lifeline until you either get back to work or qualify for SSDI. And long term disability is important even after that, and even after taking a hefty SSDI offset into account, if you are a high wage earner and need to make up the difference over the long term between relatively low SSDI benefits and what you were making at your high income job. That’s why insurance agents sell a lot of disability insurance to doctors, lawyers, mid and upper level executives, key employees and other high earners. But unless you are earning more than the average range of compensation in this country, disability insurance that covers you for more than a couple of years is usually money down the drain if it is provided through a policy that has an SSDI offset provision. You would do better to take the money you pay for long term disability each paycheck and put it in the bank.