I’m going to talk about something mundane, long-term disability insurance (LTD). I know, I know, you are probably thinking, “Great, someone else telling me I need the insurance.” I am not going to go into the reasons why you should buy it, but more into what do I look for when purchasing it. I am also going to discuss what to do if you have coverage through your benefits at work.
Employer Sponsored Plans
If you are fortunate, your employer will offer LTD as an option in your employee benefits package. If you are really lucky, you employer will actually pay for it. I am fortunate enough to work for a company that offers LTD. The company pays for the 50% of pay option and I have the ability to buy additional coverage up to 70% of my pay. Most people probably just check the box for the desired coverage level and then do not give it any more thought. However, they could be short-changing themselves and not realize it until it is too late.
With employer paid coverage, you have to be careful. If your employer is paying for the coverage, the benefit will be taxable to you when it is paid. So, that 50% benefit my employer offers, is probably closer to 35% or 40% after taxes. That’s ok you say, I pay the premiums myself. Do you pay the premiums pretax or post tax? Meaning, are the premiums deducted from your paycheck before the tax calculations? If they are pretax, then you have the same issue of the benefits being taxable when paid. So again, in my case, even if I had selected the 70% option, the payments will probably be closer to 55%.
The other item to consider with employer sponsored plans is how the benefit is calculated. Is the benefit simply calculated on your salary? Are bonuses considered? What about overtime or commissions? It is important to know just how much you might receive, so that you know if you are adequately protected. My benefits are strictly on my annual salary.
Once I did the calculations of what I would receive from my group plan, I realized that I was coming up short. I could probably survive on just the benefits from my company’s plan, but who wants to just survive. If I was going to be disabled for a long period of time, I still wanted the ability to save money. That is why I looked into purchasing a policy on my own.
There are a few things to consider when purchasing a LTD policy.
Probably the one item most people think of first is the monthly benefit. This is what will be paid to you in the event that you become disabled. Insurance companies, during the underwriting process, will look at a couple of years worth of income history to determine the benefit amount. Generally, insurance companies will not want the benefit amount to exceed 70% of your pay. However, they will factor in bonuses and overtime in the calculation, as well as whether the benefit on an employer plan is taxable. In my case, even though I had elected the 70% option, the benefit was taxable and did not include my bonuses. Therefore, when I applied for an individual policy, I was still able to qualify for a benefit, even though I had a policy covering 70%. You will also want to consider adding inflation protection to your benefit. By that, I mean your benefit will increase every year that you receive it. For example, if I become disabled and start receiving my benefit, do I want the same benefit amount in 20 years or one that has been adjusted for inflation every year?
How long do you want to receive your benefit? This is pretty straight-forward. Do you want to for a certain number of years, e.g. 5 years? Or do you want it to a certain age, e.g. age 65? My decision was based upon what would happen to me long-term. For me, the thought of relying only on Social Security disability for the rest of my life was scary. That’s why for my policy, I opted for a benefit duration that would take me until retirement. This way, maybe I can save some money for retirement and not have to rely on Social Security exclusively.
Another item to consider is the elimination period. You can think of this as a deductible. How long do you want to wait before the benefit begins? Obliviously, the longer you wait, the less expensive the policy is going to be. When you purchase a policy, you will usually have options such as 3-months, 6-months or even a year for the elimination period. In my case, I didn’t need the policy to begin right away. My company offers a short-term disability plan that pays a benefit for the first 6 months of a disability. After that, my company sponsored policy would kick in. I have calculated that this policy would cover my bare minimum expense needs: food, shelter, utilities, etc. It wouldn’t leave any room for savings, but I still would be able to survive for a short period of time. That’s why, for my private policy; I opted for the 1-year elimination period. I wanted the policy to start in the event of a truly catastrophic situation, where I would not be able to work for an extended period of time. This allows me to keep my costs down while still being protected.
Look at What you Have
These are some of the things that you should think about when you are thinking about purchasing a policy. The first step should really be looking at the coverage you already have in place and determining whether it is adequate or not. Even if you have coverage at work, you might be surprised that the benefit isn’t as much as you thought. Only by looking at who pays the premium and what the benefit covers will you know whether you’re protected or not.