Disability: The Risk Many Forget to Insure

What would happen if you were unable to work for six months? A year? Five years? While tapping an emergency fund can help some people get by for a short period, few can go without income for an extended period of time. That's why it's so important to have disability insurance, says the California Society of CPAs (www.calcpa.org).

Disability insurance pays you a monthly income if, due to illness, injury, or accident, you are unable to work for an extended period of time. You insure for a specified dollar amount, such as $2,000 or $3,000 a month.

Here are some key issues to consider before choosing the most cost-effective policy for your needs.

The Definition of Disability

How your selected policy defines disability determines the benefits you'll receive. Some policies pay only when you're unable to engage in any occupation for which you are reasonably suited based on your training or experience, while the best policies cover you if you are unable to perform the duties of your own occupation.

"Own occupation" coverage is especially useful for highly paid professionals. With "own occupation" coverage, you can work in a related field and still receive benefits. For example, a surgeon with "own occupation" coverage who is unable to practice surgery as a result of a hand injury could collect disability payments while working full time conducting research or serving as the medical director of an HMO.

The Waiting Period

Disability plans typically have a waiting or elimination period. This is the length of time between the onset of a qualifying disability and when you start receiving benefits. Three to six months is common, although some policies have an elimination period as short as 60 days or as long as a year. The longer the waiting period, the lower the premium.

The Benefit Period

In most disability plans, you can elect the maximum time your benefits will be paid. Most typical are coverage periods that pay you for two years, five years, or to age 65. It's more expensive, but safer, to get a policy that provides benefits to age 65, when you are eligible to receive Social Security benefits and, perhaps, a pension.

Noncancelable vs. Guaranteed Renewable

Most policies are sold on a noncancelable or guaranteed renewable basis. Noncancelable means that after you take a medical exam and the insurer issues the policy, the insurer cannot cancel the coverage or raise your premium. A noncancelable policy is renewable on exactly the same terms every year.

If you buy a policy on a guaranteed renewable basis, your policy cannot be canceled as long as you pay the premium. The insurer can, however, raise premiums as long as it does so for a whole class of policyholders, such as all those living in your state, and doesn't single you out. Noncancelable insurance is better, but more expensive, than guaranteed renewable insurance.

Benefit Amount

Of course, the right amount of insurance depends on your family's needs and resources, but CPAs generally recommend that your disability benefit is 60 percent to 80 percent of your pretax income. Insurers won't sell you a policy that replaces all of your income because it leaves little incentive to work.

In determining the amount of disability coverage you might need, ask yourself how much monthly income would cover your living expenses. Keep in mind that while you may have fewer work-related expenses, your medical expenses may increase.

Coordinate With Your Corporate Plan

You may already have some disability insurance through your employer. Employer-provided plans typically pay a maximum of 60 percent of base salary. If you need more and you can buy additional coverage through your employer, by all means do so. The premiums will be lower than buying on your own and you will be able to take the policy with you if you leave your job.

If you receive disability insurance proceeds resulting from premiums paid by your employer, you will be taxed on the proceeds. Disability insurance proceeds resulting from premiums paid by you are not taxable, however.

Shop Around

If you have to work for a living and have no disability insurance, your financial future is at risk. CPAs recommend that you weigh the options carefully and shop around for the best policy.