Disability Insurance

How Disability Income Insurance Policies Define Disability

To be considered disabled under most policies, you must be unable to earn income. However, many policies narrow this definition quite a bit. They may specify that you must try working in another occupation if you can’t do your own job, or they may pay benefits if you can do some but not all of the duties of your own occupation. Other policies aren’t concerned with occupation at all; they consider you to be disabled when, because of illness or injury, you earn less than you did before.

Own occupation coverage

Although the terminology used to define disability varies from policy to policy, an own occupation policy generally defines disability as the inability to perform the material and substantial duties of one’s own occupation. This definition of disability is liberal, because even if you can work in another occupation, you still receive disability benefits. Own occupation coverage is often more expensive and may be available only to individuals who have a clean medical history and work in a relatively risk-free occupation.

Any occupation coverage

The any occupation policy defines disability as the inability to perform the duties of any occupation. This definition of disability is strict. To receive benefits according to this definition, you have to be unable to work in any occupation, not just your own. Generally, however, the wording is modified to take into consideration your earning level, education, training, and experience.

Split definition coverage

Many disability policies incorporate both an own occupation definition of disability and any occupation definition. You purchase a policy that provides own occupation coverage for a limited period of time. After this period ends, you must meet the any occupation definition of disability to continue receiving benefits. This is sometimes known as short-term own occupation coverage.

Presumptive total disability coverage

No matter how your insurance company defines total disability, most companies automatically consider certain catastrophic ailments to be totally disabling. If you are disabled by one of these ailments, you don’t have to meet the conditions normally required in order to be considered totally disabled. Not only do you receive immediate benefits, but you also continue to receive benefits even if you are able to return to work. These ailments (which may be caused by injury or illness) are the loss of sight in both eyes, hearing in both ears, speech, the use of both hands, the use of both feet, and the use of one hand and one foot.

Residual disability coverage

Disability policies can pay benefits in the event that you cannot work at all (total disability), can work some time but not all the time (residual disability), or both. Residual disability or income replacement policies pay benefits according to the amount of income you have lost due to disability. These policies pay benefits even if you are not totally disabled and can work part-time. Your benefit will be based on the percentage of income you earn working part-time in relation to what you used to earn working full-time. In some policies, to qualify for residual disability coverage, you must first qualify for a period of total disability. This is the least desirable method.

You can purchase a total disability policy with residual coverage as a rider, or an income replacement policy (as residual coverage is known when that is the only way benefits are paid) as a stand-alone policy. The income replacement policy will generally cost less than the total disability policy with the residual rider.

Partial disability coverage

Partial disability coverage is usually offered as a rider to a total disability policy, although it may be included in base coverage. It is similar to, but not the same as, residual disability coverage. Both types of coverage pay benefits if you can perform some but not all of the duties of your occupation. However, unlike residual disability, a partial disability definition does not consider loss of income. Rather, you are paid an amount equal to 50 percent (occasionally less) of the benefit that you would earn if you were totally disabled. In addition, the benefit period is much shorter than that for residual disability (a few months or a year at most).

Does your policy cover illness, injuries, or both?

Most policies offer coverage for both injuries and illnesses. Some policies, however, offer accident-only protection and don’t cover illnesses. Also, because work-related disabilities are covered by workers’ compensation, most policies will reduce their benefits by any amount of benefits paid by workers’ compensation, as well as any benefits received from Social Security and other government programs.

Sickness is usually defined in disability policies as illness or disease that manifests itself while the policy is in force. This definition covers mental as well as physical illness, but most policies limit payments for mental illness and drug- or alcohol-related disabilities to two years of benefits. Some policies have exclusions for disabilities caused by pregnancy, war, and self-inflicted injuries as well as other exclusions. All of the exclusions will be detailed in the policy.

There is not a single disability insurance policy that covers all bases for all workers. Rather, the various options available, such as the term of coverage and the percentage of your salary that you choose to replace if disabled make it possible to tailor your coverage to fit your particular needs. There are certain rules and limits of coverage that you should understand but in general, the advantages of disability insurance including the peace of mind that comes with it are worth far more than cost.

Many disability insurance policies carry provisions that are particularly appealing to small business owners. National Underwriter Life and Health noted several specific aspects that can be of significant benefit:

•Rehabilitation—Many policies provide for retraining of employees (or business owners) who prove unable to resume their previous job duties.

•Waiving of Premium Payments—In some instances, policyholders who remain disabled past the time specified in their policy may be able to have their premiums paid for the duration of their disability.

•Tax Deductions—Premiums often qualify as a deductible business expense.

•Return of Premium—Some policies provide for policyholders to receive all or part of their accumulated premium payments at age 65, provided that have never fallen victim to disability.

•Hospital Indemnity Waiver—Under this arrangement, policyholders who are hospitalized for a certain period of time will have their benefits paid.

Finding the Right Disability Policy

Factors to consider in weighing the advantages and disadvantages of a long-term-disability policy include:

•Length and Amount of Coverage—Writing in National Underwriter Life and Health, Steve Demarais noted that some business owners have difficulty purchasing the amount of coverage that they desire: “In terms of underwriting and determining the amount of coverage a person is eligible for, the owner’s last year net (not gross) income is a key factor. And, because business owners have many expenses, their net income may be lower and not reflect the amount of DI they feel they truly need.”

•Cost of Policy—While other considerations should be weighed, small businesses obviously have to determine affordability before taking the step of purchasing disability insurance. Most group long-term-disability policies have a 180-day waiting period for a disability, but individual policies often have a shorter waiting period. The premiums for these policies decline as the longevity of the waiting period increases. Duration of coverage varies from policy to policy as well. Individual policies can be shaped so that beneficiaries will receive compensation until they reach age 65, but insurance companies often limit the duration of group policies to three to five years.

•Insurer Options—Can the insurer increase the premium or cancel the policy? Group policies generally provide less protection to the policyholder than individual policies in this area.

•”Key Person” Policy Option—Some insurers offer “key person” disability insurance wherein a company would receive compensation, either through a lump sum or a schedule of regular payments, in the event that an essential member of the business (often an owner or co-owner) becomes disabled.

•Riders—Individual long-term-disability policies can be adjusted in many ways via riders such as the cost-of-living rider, which increases the size of disability benefits to cover inflation once payment on a claim has begun.

• The percentage of the insured’s salary to be paid.

•Policy’s Definition of “Disability”—Two broad definitions of disability exist. Under ‘Own-occupation’ coverage, benefits are paid if the individual is unable to perform the duties of his/her prior occupation. This is the most protective coverage available, and is thus the most expensive. ‘Any-occupation’ coverage, on the other hand, pays benefits only if you can’t work in an occupation that is consistent with your education, training, or experience. In addition, policies typically include various restrictive “exclusions.” Policy restrictions have tightened considerably in many disability insurance schemes in recent years (for example, under many DI policies, loss of a professional or occupational license or certificate does not, in itself, constitute disability), so business owners should study these gaps in coverage closely before committing.

Both insurance agents and business consultants can be most helpful in sorting through the many variables of disability insurance plans that must be studied before settling on a final plan.

Disability Insurance and “buy-Sell” Agreements

Disability insurance also can be wielded for purposes other than simple disability compensation. Indeed, business partners can shape disability insurance plans to finance “buy-sell” agreements: “This arrangement guarantees that the disabled partner’s interest in the business will be sold to the remaining partner(s) at a price that has been agreed on in advance. The insurance policy provides the cash at the time of the buyout, eliminating the need for the business to deplete its assets or to incur long-term debt to make the purchase. The disabled partner gets a fair price for his equity in the business—and receives monies at a time when he has lost his earning power and is likely grappling with increased health care costs.”