What is disability insurance?

Given the financial impact of injury and illness, most members of the workforce should put a disability income insurance plan in place.
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8 mins

Disability insurance protects your source of income if injury or illness limits your ability to work. Also known as disability income insurance and income protection insurance, this coverage will pay a portion of your income while you are disabled.

In this article, we will cover the basics of disability insurance, including:

Read on to learn more!

Is disability insurance worth it?

Yes, anybody who earns an income should have disability insurance. Without it, a bad accident, loss of vision, chronic condition, or illness could cause financial hardship. Even a temporary disability can cause you to deplete your savings, fall behind on bills and rack up debt.

Consider, for example, what would have if you suffer a heart attack. Because it didn’t happen as a result of your job, you wouldn’t collect workers compensation. You would also not qualify for government benefits. Therefore, without disability insurance, you would have no income while you recover. The same would be true if you were injured in an accident.

Disability insurance is for the mechanic who can’t repair cars for a few months with a broken hand. It can provide income to pilots and truck drivers who suffer vision problems. It helps architects, accountants and attorneys who can’t work after suffering traumatic brain injuries. Some people think of disabilities only in terms of catastrophic events like paralysis. But most disabilities that cause people to miss work are due to more common ailments like back injuries, diabetes, or broken bones. According to the Social Security Administration, about 25 percent of 20-year-olds will become disabled at some point before reaching age 67.

According to WebMD, the most common reasons for disability claims include:

  • Musculoskeletal disorders.
  • Heart disease.
  • Digestive disorders.
  • Mental health issues.
  • Cancer.
  • Injuries such as fractures, sprains, and strains of muscles and ligaments.

From arthritis to stroke to depression, it's important to recognize the wide range of disabling conditions that can prevent you from earning your income.

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How does disability insurance work?

In exchange for your premium payments, an insurance company agrees to pay you contracted benefits if you suffer a disability that affects your ability to work. The benefits replace some or all of your lost income.

If an injury or illness limits the ability to work, the policyholder receives disability benefits. The policy is designed to replace some of the income lost due to the policyholder’s inability to earn a paycheck. Having disability insurance means being able to buy food, pay bills, and cover house-hold expenses while you’re unable to work.

A disability insurance policy will spell out:

  • How much you will pay in premium.
  • How the policy defines disability. Some policies will pay out a monthly benefit if an injury prevents you from working at your normal job, but allows you to do other types of work that will nonetheless reduce your income. Other policies will not pay benefits if you are able to work in another type of profession, even if you earn less money.
  • The amount of your benefit. In most cases your benefit amount will be a percentage of your income. Policies typically pay 60 to 80 percent of what you earned before your disability.
  • How long your benefits will last. The benefit period may be a certain number of months or years, or up to a certain age.

Employer-sponsored vs. individual disability insurance coverage

You can get disability insurance from a number of sources. Many people get it as a benefit through their employers. Others buy their own individual policy. You can do this through an insurance agent or directly from an insurance company.

You can get disability insurance from a number of sources. Many people get it as a benefit through their employers. Others buy their own individual policy. You can do this through an insurance agent or directly from an insurance company.

Many employers offer group disability insurance as an employee benefit. They may pay some or all of the premium cost.

Group disability plans are guaranteed issue. This means if you apply for coverage, you are automatically enrolled. There is no underwriting.

The biggest downside of an employer-sponsored policy is that it’s possible to lose coverage. This can happen in two ways.

  1. First, you will lose your disability insurance if you no longer work for the employer sponsoring the group plan. This type of coverage is contingent on your employment.
  2. Second, companies conduct annual renewals of their benefits, including group disability insurance. Upon these reviews, there is no guarantee the plan will be renewed. Employers can simply decide not to continue offering disability insurance.

When you buy an individual policy, you own it for as long as you pay the premium. Plus, the amount you pay is generally locked in. It will not change unless you opt for more coverage.

Individual plans are also portable. You don’t lose coverage by changing jobs or losing your employment.

How insurance companies look at risk of disability

Individual disability insurance requires underwriting. Whereas group plans help insurers spread their risk among a large group of policyholders, with individual policies they have to assess the risk of a single applicant.

Insurers that issue individual policies assess the following factors:

Age. Older people are more likely to become disabled. Therefore, disability insurance is more expensive for older people.

Gender. All other factors being equal, women can pay up to 40 percent higher premiums for disability insurance. That’s because they file more claims than men and for longer time periods.

Health. Your health status can foreshadow your risk of disability. Insurers will take into consideration:

  • Past or current tobacco use
  • Chronic conditions
  • Family medical history
  • Your current height and weight
  • Results from blood and urine tests

Job. Insurers consider your job when assessing your disability risk. This is done for two reasons.

First, some jobs are more susceptible to injury or illness. Police officers, firefighters, construction workers, and manufacturing workers are more likely to get injured on the job than, say, your typical office worker.

Insurers also assess how specialized a job is. The more difficult it is to do a job with certain injuries or illnesses, the more the insurance company might have to pay in benefits. For example, an office worker who becomes confined to a wheelchair may return to their regular job at some point. The same can’t be said for a mechanic or plumber.

Insurance companies classify jobs based on the hazards of the work and the difficulty in returning to work. Occupation classes are based upon a job's duties, not on the job title. If an individual has multiple or part-time occupations, the occupation classification will be determined by the occupation with the greatest risk.

Income. Disability insurance benefits are based on a percentage of your income. The more you earn, the more you will collect in benefits. Higher income earners, therefore, present higher risk to the insurance company.

Location. Where you live can impact your risk. Insurers consider the regulations, claims history, and living costs in your state of residence.

Different types of disability insurance

There are four main types of disability insurance:

  • Long term disability insurance
  • Short term disability insurance
  • Social Security disability insurance
  • Workers compensation

Long term disability insurance

Long term disability insurance protects people who are affected for an extended period. It covers serious injuries and illnesses that limit or prevent a person from working for several months or years, even permanently.

Benefits end once you’ve recovered from a disability up to a maximum benefit period. This period can be a set number of years, such as 10 years. You can also purchase policies that will pay up to age 65.

You can purchase long term disability insurance through a group plan or by getting your own individual policy. It is more expensive than short term disability. But it offers greater protection.

Long term disability policies typically replace between 60 to 80 percent of your income. Many policies even replace income lost in the event you have to take a lower-paying job due to an injury or illness.

Learn more about long term disability insurance here.

Short term disability insurance

Short term disability insurance is for temporary ailments.

It is typically provided through a group plan. You can, however, purchase an individual policy through some insurance companies. However, many financial experts suggest not buying an individual short term policy. That’s because the cost of the premiums may not justify the amount you would receive in benefits. If you can’t get short term coverage for free from your employer, you should establish an emergency savings fund.

Short term disability insurance will typically replace between 60 percent to 80 percent of your pre-disability income.

Benefits generally last three to six months. Some policies may pay as long as two years. Benefits typically begin 14 days from when disability occurs.

Learn more about short term disability insurance here.

Social Security disability insurance

The Social Security disability insurance (SSDI) program is administered by the Social Security Administration. It pays benefits in the event a disability prevents you from working.

SSDI benefits are the most difficult to qualify for. Qualifications include:

  • You must have worked in jobs covered by Social Security.
  • You must have worked long enough and recently enough under Social Security.
  • You must have a medical condition that meets Social Security’s definition of disability.
  • In general, you must be unable to work for a year or more because of a disability.
  • You must have a condition that significantly limits your ability to do basic activities, such as lifting, standing, walking, sitting, and remembering.

You generally will not be considered disabled if you work and earn more than $1,220 in month. If you are not working, Social Security will consider whether you can work. If you can, even if it’s not the type of job you did before your injury or illness, you will not qualify for SSDI benefits. Social Security will base this decision on your:

  • Medical conditions.
  • Age.
  • Education.
  • Past work experience.
  • Transferable skills.

According to the Social Security Administration, from 2006 to 2015, only 34 percent of SSDI claimants had their applications approved.

Even if you qualify for SSDI, benefits will likely replace only a small fraction of your income. The average monthly disability benefit in 2017 was $1,172.

Learn more about Social Security Disability Insurance here.

Workers compensation insurance

Workers compensation is accident insurance paid by employers. If you are injured or sickened on the job, you may receive benefits to cover medical bills or rehabilitation costs. Workers compensation also covers partial lost wages if you miss work. Some policies also provide death benefits if you’re killed on the job.

Workers compensation insurance only applies if you are injured or sickened while performing the duties of your job. According to Bureau of Labor Statistics, only 1 percent of American workers missed work due to an occupational injury or illness. Therefore you can’t rely on it solely for disability protection. If you can’t work because of a non-job related accident or illness, you will not qualify for workers compensation.

As you consider your options, ask yourself what you would do if you couldn’t work for an extended period. Could you live on government benefits? Does your group plan provide enough coverage to maintain your current lifestyle? And are you certain that you won’t be one of the 25 percent of workers who endure a temporary or permanent disability at some point in your working life?