Disability insurance protects the most valuable thing you own: yourself.

Before I define disability insurance, let me set the scene for you:

Joe Danger, CPA earns $100,000 a year working at an accounting firm.

In his free time, Joe likes to practice juggling chainsaws.

During a recent chainsaw-juggling performance, Joe injures his hands. Without any working fingers, Joe is no longer able to use the number pad on his keyboard.

He can’t work, and he’s not entitled to his salary!

Pretty unfortunate for Mr. Danger, right?

But he’s not alone.

Even if you’re not into extreme extracurriculars, you could still find yourself in a similar position as Joe: unable to work and not entitled to your salary.

Disability insurance can be referred to as income-replacement insurance. It replaces a portion of your income in the event that you are unable to work

Disability insurance is paycheck insurance.

Also, if you find yourself too ill to work for months on end, disability insurance can help you make ends meet.

Who doesn’t need disability insurance as a part of their financial plan?

If you are not looking at a lifetime of employment, disability insurance likely doesn’t make sense.

Additionally, If you fall under one of the following categories, you do not need a disability policy:

• Retirees
• People who are working but nearing retirement
• Non-working spouses

Why you need disability insurance

For working professionals, disability insurance is one of the most important policies you can own.

It protects the most valuable thing you own: yourself, and your ability to earn more money from working in the future.

Think about it: what’s the value of your car? Your house? Your 401(k)?

Whatever it is, it’s likely a small fraction of your future salaries.

Don’t believe me? Let’s do the math.

If your annual salary is $200,000 and you’re 20 years out from retirement, you are worth $4,000,000. You should insure that with disability insurance. 

Short-term vs. long-term policies

Short-term disability policies are distinct from long-term disability policies in not only how long the benefits last, but also when you start receiving money.

Consider one real-life example of an employer-provided short-term disability policy:

• Coverage for 11 weeks
• At 66.7% of salary
• 7 days after the disability occurs

If your employer offers both short and long-term disability (LTD) policies, know that a LTD policy will only kick in after a short-term policy ceases providing benefits. You’ll likely never receive both short-term and long-term benefits at the same time. 

Depending upon the specifics of each disability policy, there might even be a lapse in coverage between short-term disability ending and long-term disability benefits beginning.

It is not uncommon for employers to offer employees the opportunity to purchase additional long-term disability coverage.

Think back to our example of Joe and his chainsaws. The base LTD policy provides protection of 40% of Joe’s wages.

This is common.

Employers can also offer employees the chance to purchase an additional 20% of coverage.

Therefore, in the event of disability, you may be entitled to up to 66 2/3% of your wages – but only if you opted for additional protection.

So, should you go for the additional protection from your employer’s LTD plan?

Own Occupation

While 66% of a person’s salary is considered adequate protection, these employer-provided LTD policies usually have one very large problem: an “own occupation” definition of just two years.

This lessens the likelihood of receiving longer-term benefits.

To define “own occupation,” let’s return to our hypothetical story with Joe Danger, CPA:

Joe is no longer able to perform his job as an accountant, and he never purchased the additional coverage. However, he is still enrolled in his employer’s base long-term disability policy at no charge.

The benefit kicks in after 180 days, paying Joe 40% of his base wages. Joe collects $40,000/year for two years.

Two years later, the disability policy stops paying benefits.

Why do Joe’s benefits end after two years?

For most group disability policies (which includes employer-provided policies), the conditions for receiving benefits usually change at the two-year mark:

• Before two years, “disability” means you cannot perform your own job
• After two years, “disability” means you cannot perform any job

Two years later, Joe still cannot perform his job as an accountant.

But, Joe could, for example, find work as a door greeter at a supermarket. On that basis, the disability insurance policy will stop paying benefits after two years.

If you only take the long-term disability coverage offered by your employer, you might have serious gaps in income protection.

Fortunately, you can supplement your employer-provided policy with a private disability policy, and a rainy day fund, which will give you better protection.

Disability Insurance Pitfalls to Avoid

When shopping for a disability policy, you may be offered certain “extras.” Some extras are great, like an own occupation definition that doesn’t change. 

Other extras can be a complete waste of money, like a retirement savings feature. Disability insurance policies may offer the option to put away extra money in an account for you. The money in the account is intended for your retirement. Is is important to consult a trusted fiduciary to help you make the best possible decision. But this information will guide you in the right direction.

The idea behind the account is that it could be a replacement for your workplace retirement account, such as a 401(k). Unfortunately, this offer isn’t as good as it seems. Insurance companies charge a lot of fees on the account.

And remember, an insurance agent is not a fiduciary. They do not have your best interest in mind. Their only goal is to sell the most expensive policy, so they can earn the highest sales commission.

It’s your responsibility to review the policy to make sure that you are getting exactly what you need.That doesn’t mean you need to sort through all this information and make a decision on your own. If reviewing insurance contracts isn’t your cup of tea, you can work with a fee-only fiduciary financial planner to review any disability contract proposals for you.