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When you can no longer work
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May 5, 1999: 11:09 a.m. ET
Disability insurance can save you financially if you can't earn an income
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NEW YORK (CNNfn) - With the amount you spend on auto, property, life and health insurance, who would have thought there was anything left to protect?
Unfortunately, you may have forgotten to safeguard yourself against a more likely -- and perhaps more severe -- occurrence: that you will be seriously injured and will no longer be able to earn an income.
About 22 million Americans face injuries or illnesses each year that prevent them from holding a job and at least one expert considers disability coverage "the most overlooked area of financial planning."
"Because everyone is living paycheck to paycheck… a disability could ruin them financially," certified financial planner John Sestina said.
Sestina speaks from experience. About 20 years ago, the CFA came down with a serious case of pneumonia that put him out of work for 6 months. Luckily, he was covered by a disability policy that kicked in after 30 days.
Others may be less fortunate. Only 40 percent of those employed by medium and large businesses in the United States are covered for disabilities and only 23 percent of small business workers have the benefit.
Weighing the odds
Since the vast majority of Americans -- a stunning 94 percent -- do not have enough savings to live more than two months without an income, most experts agree that almost everyone should get disability insurance.
"If you are disabled, you are still a consumer and there are living costs that are associated with you," said Lydia Scheckels, a certified financial planner at Philadelphia-based Wescott Financial Planning. "And there's a greater chance you'll be disabled by the age of 65 than that you'll die by the time you are 65 "
In fact, nearly one in seven people can expect to be disabled for five years or more before the age of 65, according to the Health Insurance Association of America. That chance increases to one in five for people between the ages of 35 and 65.
Despite these figures, many consumers put off disability coverage, partly because preparing for the possibility of a long-term injury can be rather unpleasant psychologically.
"I think a lot of it is associated with denial," said Scheckels.
Getting over misperceptions
In addition, many people may overestimate the sources of income available to them if they are disabled.
The federal social security program, for example, pays more than $2 billion in disability benefits to nearly 5 million people each year. But the eligibility requirements for such aid are far more stringent than for private polices and payments may be limited.
For one, only people who are unable to hold any job, not just the one performed at the time the disability began, are eligible. In addition, benefits don not kick in until 5 months after the disability occurred and claim processing can take as many as 3 months. Finally, payments may be reduced by worker's compensation or other government benefits received, including pensions and military perks.
Many people also may believe that worker's compensation will cover them if they suffer an injury that prevents them from returning to work. But worker's comp only covers injuries that occur in the workplace and benefits vary greatly. Often worker's comp is subject to minimum and maximum amounts and may not meet long-term financial needs.
Finally, short-term and long-term disability coverage are often confused. While many employers offer short-term disability coverage, these policies often last only a few months.
Since the average length of all disabilities lasting more than three months is 2 years, short-term coverage may be less than adequate in many cases.
Assessing your needs
How much income you currently have will largely determine how much disability insurance you will need.
Disability policies will never make up for the full amount of your salary, since insurance carriers do not want to encourage workers to "disable" themselves, but coverage of about 60 to 70 percent of income is not unusual.
Ask yourself if this limited amount will be enough for you and your family to live on and whether you will have alternative means of support, such as social security, savings or employer-sponsored benefits.
When evaluating your employee plan, keep in mind that you will be taxed on the benefits you receive.
Employee plans are not portable, so if you switch firms regularly, an independent policy may be wise. Benefits paid by an individual policy are tax-free.
What to look for
The most important aspect of a disability policy is how the insurer defines a disability. This determination will effect both the size of payments and the length of time you will be covered.
Policies that offer coverage on a "own occupation" basis are the most generous and usually the most costly. Under this provision, income will be replaced if you cannot perform the duties of your usual job. For example, dentists would be covered if they injured an arm, but lawyers probably wouldn't be. "Own occupation" policies are generally only sold to professionals.
"Regular occupation" coverage is more common. It kicks in if a disability prevents you from doing your current job and covers you as long as you are not working. But benefits end when you return to work at a new occupation.
Many policies will provide "regular occupation" coverage for two to five years and then switch to "any occupation" coverage.
Like social security, "any occupation" policies only cover people who are unable to get any type of employment.
Additional considerations
Once you have determined which type of coverage is most appropriate for you, you'll want to evaluate the waiting period, also known as the elimination period, before the benefit starts.
Elimination periods can range from 30 days to 6 months, and the longer you choose to wait until you start receiving benefits, the lower the insurance premium will be. If you have employer-sponsored short-term disability coverage, you may want long-term coverage to kick in when that runs out.
But don't cut back on the waiting period just to save a buck. If you do not have other sources of income or savings available to you during that period, the lost income could be financially crippling.
Next you will have to decide how long coverage should last. Since disability insurance is designed to replace lost income, there is generally no need to extend it beyond the retirement age of 65. While choosing a shorter coverage period, anywhere from 1 to 5 years, is also an option -- and certainly a cheaper one -- it is not necessarily advisable.
"Chances are, if you've been out of the work force for five years, you're probably out of the work force for life," said Scheckels.
Beyond basic coverage
In addition to level and duration, there are so-called "riders" you can add to your policy. Riders add perks, but also add to the cost of the policy.
Adjusting payments for inflation is one. For an additional premium, many insurance carriers will increase benefit payments by a specified percentage, generally 4 to 10 percent, after each year of disability. While this is a relatively expensive option, it may be the only way to maintain your standard of living.
Residual coverage is another option. An illness or injury may make it impossible for you to work full-time, but may not incapacitate you altogether. Back injuries, for example, may preclude you from sitting at a desk for a certain number of hours each week, but won't keep you from engaging in part-time work. As a result, some plans will pay you a disability benefit simply in proportion to how much your income drops. 
-- by staff writer Nicole Jacoby
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