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Protecting Your Income In Case of Disaster Part I

By: Investor Solutions

By: Investor Solutions, Inc.

Would you be able to survive if your income suddenly disappeared? If you’ve planned correctly, your emergency reserve might sustain you for three to six months. But, what happens after that? How do you feed your family if you’re not making any money?

There are two things that can terminate one’s income – death or disability. Most people plan for the first, owning different variations of life insurance policies in the event of a death. But, how many of you protect the largest asset you may possibly own: your ability to earn an income? Safe-guarding your future income is the heart of any successful financial plan.

It’s hard for anyone to imagine the unthinkable, like a prolonged or permanent illness. But, it’s a reality for many. In fact, the probability of becoming at least temporarily disabled during your working years is higher than the probability of dying during your working years. The Department of Social Security Administration claims that a 20-year-old worker has a 3-in-10 chance of becoming disabled before reaching retirement age.

For additional disability statistics, check out the Department of Labor’s site: http://www.dol.gov/odep/pubs/ek99/resources.htm.

Death vs. Disability between
the Age shown and Age 65

Age

Death

Disability

25

24.1%

34.8%

30

23.5%

33.1%

35

22.8%

31.3%

40

21.8%

29.1%

45

20.4%

26.3%

50

18.3%

22.6%

55

14.9%

17.6%

60

9.3%

10.6%

Male, 30 day elimination
period, top occupational class,
temporary or permanent disability.

With odds like this, anyone not owning a disability policy that protects income during their working years is a sitting duck! Relying on the hope that you bypass illness or injury is not an option. Disability insurance is an essential component of a comprehensive financial plan.

Budgeting for disability coverage should be just as important as budgeting for groceries. But, it’s not always cheap, and the older you are the more expensive it is, so start early. Many corporations offer disability coverage as part of the employee’s group benefits. While the coverage is free, it contains very some serious drawbacks.

The biggest problem with group disability policies is their lack of portability. If you quit or get fired, you’re left without coverage and totally unprotected. And what if at the time of your termination your health status has changed and you are no longer insurable. Don’t paint yourself into a corner by limiting yourself to an employer sponsored disability policy.

Second, benefits are usually limited to 60% of your salary and capped at $5,000 a month. Some companies take Social Security into account when calculating your benefits, possibly reducing or totally eliminating the amount of your disability income. If your company paid for the coverage on your behalf, the benefit to you is taxable. So, if you’re making $100,000 year and you become disabled for an extended period of time, your (taxable) income just dropped to $60,000 a year! What do you do…stop paying your mortgage? Having a basic group policy is really not enough.

Finally, insurance companies follow strict participation limits that control how much coverage an applicant may obtain. Generally, insured individuals can purchase no more coverage than is sufficient to cover roughly two-thirds of his income. So, if you are covered under an employer’s group policy (for 60% of salary) and you attempt to buy additional coverage on your own, the underwriter will consider that coverage when determining the amount of insurance you can qualify for. It’s likely that you may only be able to buy another 10% of coverage.

Interestingly, if you purchase a policy on your own for (say) 67% of your salary and then get hired by an employer who offers a group policy, the participation limits become irrelevant. Therefore, it’s possible that the insured’s after tax income may actually be higher when disabled that if he continued to work. Incidentally, benefits received from disability policies paid by an employee with after tax dollars are tax free.

Most individuals that fail to own disability coverage do so because they don’t realize they need it or, the cost is “too prohibitive”. After all, if you can’t afford the disability insurance premium, how do you expect to afford a disability?! In fact, The Consumer Federation of America and The American Council of Life Insurers conducted a survey which found 82% of people have no long term disability insurance, or believe their coverage to be inadequate. Yet, many of you allocate more of your insurance budget towards your car insurance, homeowners insurance or boat insurance than you do towards protecting your income. A sound financial plan should contain a balanced allocation of dollars within the insurance component. It won’t do your family much good if you are “overloaded” with life insurance and then get disabled

Now that we’ve ascertained the need for this type of coverage, let’s explore the various features of disability policies in my next article.