Disability Insurance (Part 2): The 9 Things You Need to Know Before Buying Disability Insurance

Most people don’t have sufficient disability coverage. 

Disability insurance is a contract between you and the insurance company that will replace your wages when you become sick or injured and cannot work for a long time.

According to the Social Security Administration, nearly 1 in 4 of today’s twenty year-olds will become disabled before age 67.  Most people think that Social Security will provide the benefits that they need, but often that is not the case:

  1. Social Security does not provide a person’s full wages as benefits.
  2. Social Security has a very strict definition of what “disability” is and is not.
  3. Social Security has a 5-month waiting period before you can receive any of the benefits.  Even in the face of medical costs that are associated with disability income, it means forgoing income for 5 months.

Social Security should only be used as a supplement to your own long-term disability policy.

Many employers offer disability coverage as an additional fringe benefit, but as we mentioned in Part 1 of our posts on the topic, employer coverage only covers you while you’re working there and become disabled while you’re working there.  Additionally, most group plans do not typically cover more than 60% of your salary.  It is not portable.  If you lose your job, your next employer may or may not have a long-term disability plan.  Unlike health insurance where you can get coverage under COBRA for a period of time, once you leave your employer’s plan, you no longer have any coverage as a safety net.

To the extent you have employer coverage, if you are applying for personal, the insurance company will take that into account and decrease your benefit accordingly.

Q: How much disability should you obtain?

A: At least 80% of your before tax earnings. 

When choosing a long-term disability insurance plan, these are some aspects of the fine print about which to ask:

  1. Check the definition of ‘disability’ (there are 3 potential options)
    1. Own occupation: this is the best definition of disability because it is the most broad. Under this definition, an insured person is considered entirely disabled if he is unable to do any or every duty of his occupation.  For example, if you can get a job in a different industry, you can still collect benefits under this policy.
    2. Any occupation: this is the strictest definition of disability. Under this definition, an insured person is considered disabled only when he is unable to do every duty for which he is trained.
    3. Split definition: frequently used by insurance companies, this is some sort of combination of the two previous definitions.
  2. Make sure that your contract is NonCancelable and Guaranteed Renewable. This guarantees that after you place a policy in-force that there will be no changes to your premium schedule, your monthly benefits, or your policy benefit. No one can guarantee that their incomes will never go down, under a Non-Cancelable policy even if your income goes down later in life, if you become totally disabled the insurance company will pay you the total disability benefit you originally placed in-force. Under a Non-Cancelable policy for example, if you changed jobs from being professional worker (a low-risk occupation) to a professional weight lifter the company could not change your benefits for the worse.
  3. Ensure that your monthly benefit coverage replaces between 50-80% of your pre-disability income.
  4. Make sure you get a cost of living rider, which is an inflation hedge for your benefits.
  5. Ask for a FIO (future increase option), which allows you to increase your insurance benefits as income rises, regardless of health. Without this rider, there is no way to protect your future earnings. A disability insurance policy by itself only protects the amount of income that you make at the time when you take out the policy. It does not grow automatically unless you have this.
  6. Check that the policy eliminates any requirement for you to pay any premium payments while you’re disabled.
  7. Ask about a residual benefits clause, which is a partial payout due to partial disability.  For example, receiving partial benefits if you’re only able to work part-time.
  8.  Evaluate and choosing the waiting period or elimination period as its sometimes known as.  The elimination period is the period of time between the onset of a disability, and the time you are eligible for benefits. It is best thought of as a deductible period for your policy. The most common waiting period is 90 days, but it can be less or more time. Examples include 30, 60, 90, or 180 days to 1 year to 2 year waiting period.
  9. Length of time or Benefit period. Think of the benefit period as the period of time you are eligible to collect benefits while on a disability insurance claim. The shortest period of time is coverage for 2 years up to life time benefits.

The underwriting for disability insurance is significantly different than the underwriting for life insurance.  As you get older, there is a higher probability of getting disabled and many people begin to develop ailments.  Therefore, over time it becomes more challenging and difficult to obtain reasonably priced long-term disability coverage.

It will depend on your overall health and what your doctors have put in your files.

Note that many insurance companies exclude coverage for Mental & nervous disorders, alcohol & drug claims, acts of war, and payments of claims caused during a crime.

Lastly, there are tax consequences for long-term disability insurance.

  1. If you pay the premium as an individual with after-tax dollars:  if/when you were collect insurance benefits, the benefits are tax-free.
  2. Benefits under an employer group plan are taxable if the employer paid the premium and the premiums were not taxable income to the employee.

If you’d like to set up an appointment to discuss your financial plan, we look forward to hearing from you.

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How to Shop for a Long-Term Care Insurance Policy

The last few weeks, we have discussed the basics of long-term care insurance and taken a deeper dive into why everyone needs long-term care insurance.   Now that you’re convinced of the necessity of long-term care insurance, the question is: what do you need to know when buying it?

The first question to answer in shopping for long-term care policies is: what type of policy should you buy?  There are two types of policies one should evaluate:

1. Indemnity policy.  An indemnity policy is a policy that will pay a predetermined amount for your cost of care regardless of the expenses you incur.

For example, if you have an indemnity policy that covers the predetermined amount of $300 per day, but you only incur $232 in costs, you still receive the full amount of $300 per day, despite the excess of $68 per day.

The benefit of an indemnity policy is that any excess payment you receive can be used to offset expenses that may not be otherwise covered under the policy.

2. Expense reimbursement policy.  An expense reimbursement policy pays the actual long-term care expenses, up to the daily benefit amount.

For example, if your daily cost of care is  $232, with an expense reimbursement policy, the policy will pay exactly $232.

The advantage of this plan is that excess benefits remain in the policy and extend the benefit period.

Once you have determined which type of policy will be best for you, there are several options that must be decided for each specific plan.  When looking to purchase a policy, the key points to look for are:

1.  The daily benefit amount.  The daily benefit amount is the fixed dollar amount that is payable from a long-term care insurance policy.  You want to make sure that you choose a sufficient daily benefit amount to protect yourself from spending down your assets if you need long-term care.  Your cost of care range will be determined by where you live, which should be tied into evaluating how much of a daily benefit one should purchase.

According to the Genworth Financial 2013 Cost of Care survey:

  • In New York, the annual cost for
    • Private room in a nursing home: $125,732 (requiring $350 of benefit per day)
    • Home health aid: $50,336 (requiring $140 of benefit per day)
  • Compare this to the annual cost in the state of Alabama
    • Private room in a nursing home: $69,543
    • Home health aid: $36,608

2.    Inflation protection.  Most long-term care policies offer inflation protection, which is a valuable way to plan for the ever-increasing cost of long-term care.  Inflation protection allows you to purchase premiums at a fixed cost; in other words, you can increase your coverage over time without increasing your premiums.  Inflation protection gives you peace of mind tomorrow with prices today. The younger you are, the more important it is to have inflation protection.

For example, as noted above, the 2013 cost of a home health aid in New York was $50,336.  Assuming a 5% rate of inflation, in 15 years, that same care now costs $144,575.  With inflation, long-term care can become costly quickly; it is important to hedge against inflation.

There are several rider options for consumers including: no inflation, compound inflation, and simple inflation.  Inflation protection is the costliest rider for long-term care policies.

 3. The elimination period. The elimination period refers to the waiting period before the policy coverage kicks in.  Some people view long-term care insurance as catastrophic coverage; therefore they purchase a long-term care policy with an elimination period.  You can determine the appropriate length of an elimination period based on how much out-of-pocket cost you are willing to pay.

For example, if you put a 100 day elimination period into your policy, and something happens wherein you incur $300 a day in care costs, you will be liable for that $30,000 out-of-pocket until the elimination period ends (on day 101).

4.    Length of coverage.  To determine the length of coverage, many people look at the average stay in a nursing home.  Determining the length of coverage on your policy – whether it’s 3 years, 5 years, or a lifetime benefit – is a function of how much money will be used up over what period of time.  Of course, the longer the period of time, the more expensive the policy is.  It is important to note that most long-term care premiums are not guaranteed; insurance companies generally can increase the cost of premiums.

 

For more information on long-term care policies and retirement planning, contact us.

5 Risks to your Retirement Planning

dice money retirement riskOne of the biggest retirement issues that people face is that they have not spent enough time planning for retirement and therefore don’t have a plan in place to retire confidently.   No matter your age, you should have a plan that is specifically designed to meet your personal goals and needs while taking into account your time horizon and level of risk tolerance.

Every retirement plan should:

1. Provide for predictable streams of income that are reliable and can help avoid surprises. 

2. Allow for access to your financial assets to meet your changing needs over time

3. Include some elements for growth opportunities so that your income has the potential to keep pace with inflation.

 

There are 5 big retirement risks that people face:

1.  Inflation Risk  This is your reduction in purchasing power over time.  At a bare minimum, your income should keep pace with inflation in order to maintain your standard of living.  Did you know that you that you would need $264.12 in 2010 to match the buying power of $100 in 1980.  [Beauty of Labor statistics, CDI calculator 2010]

2. Healthcare Risk The cost of healthcare has increased dramatically.  Did you know that the average price increase of prescription drugs from 1994-2005 was 8.3% per year?

3. Longevity Risk  This is the possibility of people outliving their financial assets.  Did you know that there is a 63% probability that one person from any given couple (currently age ~65) will live to age 90?  With many people living 20-30 years (or more!) in retirement, it is important to appropriately plan so that your financial assets don’t run out.

4. Excess Withdrawal Risk This is the risk of withdrawing too much money from your investment portfolio too quickly, which could result in running out of money.  Did you know that 70% of people falsely believe they can safely withdraw 10% or more a year from their retirement saving?

5. Market Risk This is the possibility that you have investment losses that may reduce the amount of money you have to live on in retirement. 

 

In order to retire with confidence, developing a sound retirement plan that addresses these specific issues is integral, instrumental, fundamental.  We will dive more deeply into these topics in the coming weeks.  For now, if you have questions or want to set up an initial assessment of your retirement strategy, contact us.