What’s protecting your paycheck from a disability?

If you’re self-employed, or if you work for a small business, there’s a good chance that you have either no protection against a long term disability, or very limited protection.
Kerry PeabodyCSA, CLTC

Kerry Peabody
CSA, CLTC

According to the Social Security Administration, 69% of the private industry workforce has no private long term disability protection. While there are government safety nets, you need to understand the various programs and how they work.

The first tier of paycheck protection for most employees is workers’ compensation coverage. This highly-regulated, state-mandated benefit is provided by employers for their workers. Benefits under this program are triggered only by work-related injury or illness. So, if you’re injured on the job and it’s a compensable injury, your medical expenses would likely be covered, and up to two-thirds of your average weekly wage.

But if the injury happens over the weekend, or if you suffer a non-work-related health issue, these are generally excluded from workers compensation benefits. Although the program helps thousands of people in the state each year, the benefits leave much to be desired, and the higher your income, the less adequate the coverage will be.

The second tier of protection is Social Security Disability Income, or SSDI. In 2013, 11 million Americans collected SSDI benefits. The guidelines for qualification for SSDI are quite strict; in fact, nearly 65% of SSDI claims are initially refused, and it may take as long as two years to qualify. Once eligible, the average benefit is $1,129 per month. If you’re collecting workers compensation benefits, SSDI will adjust their benefit down to ensure that you’re not being paid an “excessive” benefit.

The third tier of paycheck protection is the first of the private insurance options, and the one that is most commonly offered in the worksite – Group Short Term Disability plans. In most cases these plans are paid for by the employer. Typically, these will pay benefits as soon as 7-14 days after a disability begins, and will last for 13-26 weeks. They usually replace 50-70% of your income while you’re disabled. Keep in mind that if
your employer pays the premiums for your disability coverage, then the benefits you receive will be taxable.

Next is Group Long Term Disability (GLTD) coverage. These worksite plans usually have a 3 to 6 month waiting period before you qualify to receive benefits, but can pay benefits for anywhere from two years all the way to full retirement age. These plans are more costly for employers, and as such, so are often offered only in less-risky, higher paid, white-collar occupations. Again, if the employer pays the premiums, your benefits will be taxable. This can make a big difference in disposable income when you go on claim.

Finally, we come to Individual Disability Insurance, often referred to as disability income (DI) insurance. DI insurance is bought either as a stand-alone benefit by people who have no group coverage, or as a supplement to their group LTD coverage. (This is especially true with higher wage earners and business owners.) An individual DI policy can replace as much as 60% of your regular income, and since the premiums are paid with after-tax dollars, the benefits are not taxable. Why does DI only replace 60% of your income? Because if it replaced your full paycheck, you’d be far less eager to go back to work!

The DI policy chosen, the benefits it provides and the price will be determined by the client’s occupation, age, health, and income. Typically, these policies cost anywhere from 1-3% of an individual’s gross income. Someone in good health making $50,000 per year could usually purchase a policy for $500 – $1,000 per year. These policies are usually medically underwritten, so health will be reviewed as part of the application process. As with any insurance product, you need to do your homework and be sure that the product you purchase is the one best suited to your specific needs.

For business owners and self-employed individuals, individual disability insurance is also a valuable business planning tool. Consider this – if the business owner is disabled, the business itself may be at risk. To prevent this, there are individual disability policies – business overhead expense plans – that are designed to cover normal business expenses if an owner is disabled. These plans will often cover normal expenses such as rent, employee salaries, utilities, etc., for up to a year. There are also disability “buy/sell” policies that would provide the funds to allow a 3rd party such as a family member, key employee or business partner – to buy the disabled owner’s share of the company.

Of course, there are other ways to cover a brief disability. If your disability only lasts a few weeks, your savings is your first line of defense. Or you can fund your lifestyle with credit, or by borrowing against your home. However, lenders may be hesitant to make loans if you can’t work. You can use your retirement savings to cover expenses, but most of these are in qualified plans – IRAs, 401Ks, etc., and there are significant
penalties for pulling money out of these plans early.

If you’re disabled for an extended period, you need to know what your options are to keep the bills paid and your family secure. Learn as much as you can about your employer-provided coverage, and if you don’t have worksite coverage, or if you discover the benefits are inadequate, you may want to explore an individual DI policy. But the key is to find out what’s available now, not after something happens and your income stops.