Chances are pretty good that you know someone that is living with some type of disability. It might even be you. You see, disabilities are just part of life. That’s why having disability insurance is so important. We never know if or when we could become disabled and find ourselves unable to work. But how much disability insurance do we need? That’s the question I will seek to answer with today’s post.
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As with many of the subjects we deal with as business owners, we need to understand what disability insurance is before we can really know how much we need. Disability insurance is intended to shield you from the financial burden of losing your income in the event that you become disabled and can’t work. Essentially, it is income replacement. If you become disabled and are no longer able to earn a paycheck, disability insurance provides you with a monthly benefit to sustain you.
You might be thinking, “Well, I am always pretty careful at work,” or “I don’t work in a position where I’m likely to become disabled.” Well, that may be true. However, most disabilities are actually caused by chronic conditions, not accidents. Insurance companies know this and have excluded many of the conditions that cause people to become disabled. As a result, any chronic illnesses that you had before you got coverage—pre-existing conditions—may be excluded from coverage when you file a claim.
According to the Center for Disease Control and Prevention (CDC), one in four American adults has a disability. This includes cognitive, mobility, hearing, and vision impairments. The number increases as we age, too. Of adults aged 65 or older, 40% are living with some form of disability. That last bit of information becomes even more sobering when we consider that the U.S. Census Bureau estimates that people over the age of 65 will outnumber children by 2030. That has never happened in the history of our great nation.
There are many reasons that business owners need to have disability insurance. When we examine these basic statistics, it becomes apparent that operating without it is a lot like playing roulette with your financial security. Here are some numbers for you to chew on:
Disability benefits are based on wages. Depending on your particular policy, they can be as high as 60 or 70 percent of your paycheck. With that in mind, it’s important to note that the insurance company is going to look at your taxable income. Oftentimes, business owners run into trouble with this because there are plenty of ways that their taxable income can be reduced.
For example, let’s assume that you take home $100,000 from your company. However, you had to purchase some equipment last year and the depreciation has caused your taxable income to drop down to $20,000. Even though your gross income is $100K, the insurance company is going to base your benefit on the $20,000 taxable income. As you can see, unless you have enough assets outside of your business, the insurance isn’t likely going to be enough to support you and your family.
This is why I often say that I believe we, as business owners, should be saving no less than 20% of our gross income, investing it into income replacement assets. But here’s the thing, when disability enters the picture, we’re not likely to be able to purchase enough disability insurance to support the lifestyle that we’re used to, even with a 20% savings rate.
Many times, I encounter business owners who like to use Social Security as their argument for not purchasing disability insurance. After all, that’s why we’ve paid into it for all these years. Right? Yes, but it is often much easier to qualify for long-term disability benefits than it is to qualify for Social Security Disability Insurance (SSDI) benefits. Friends, there is a very strict set of requirements to qualify for SSDI. Basically, you can’t perform ANY kind of work duties because of a medical condition.
That’s not what I would want for my life if it happened to me. Even if I were in some freak accident that prevented me from being able to write or speak to record my podcast, I’d want to do something with my time. However, I would have to understand that whatever job task I began doing (making pizzas, perhaps?) probably isn’t going to pay enough to keep up my current lifestyle. And I don’t live extravagantly, folks. Emily and I live a humble life that suits us well.
So, if you’re relying on SSDI, you will need to be totally disabled for it to kick in. Not only that, but approval is a lengthy process that can take years to complete. However, insurance companies want to limit their out-of-pocket expenses so they will often require that you apply for SSDI benefits. For example, if you were receiving $1,500 in monthly long-term disability benefits and then got approved for $500 in SSDI benefits, the insurance company would then reduce your benefit to $1,000 per month. This is, in part, due to the fact that your insurance provider and the Social Security Administration have different definitions of disability.
Because SSDI and long-term disability insurance have different definitions of disability and, ultimately, two different functions, I believe business owners are required—by good sense, if not legal mandate—to carry long-term disability insurance. At a minimum, I believe that we should have enough coverage to replace between 60% and 65% of our taxable income. In addition, it might be a good idea to look at getting what’s known as Own-Oc or Own-Occupation insurance.
Typically, we can get this amount of coverage for about 1% – 3% of our annual income, depending on the type of career. Some careers are inherently riskier and, therefore, disability premiums will reflect that. Yet, because we are business owners, I also believe that we need to carry enough business overhead disability coverage to float our business overhead for a period of 12 – 36 months.
For this, you will need to list out your monthly expenses. You may even need to provide tax return information. This is so important because we want to ensure that our businesses are able to remain viable. Having this type of insurance gives us time to make arrangements for the sale, transfer, or liquidation of the business.
I know that it may seem expensive, but long-term disability insurance is a real lifesaver if you’re one of the millions of Americans who will become disabled one day. As a business owner, it just makes sense to have this type of long-term coverage. Friends, life is good. It can be tough, but life is good. Dealing with insurance can be frustrating. But with the proper long-term disability coverage, we can make ensuring the financial well-being of our families in the event of a disability, at least, financially simple.
Disability insurance is just one of the many ways that you can mitigate risk and increase value both in your business and personal finances. Schedule a meeting with the team at Financially Simple to find out how our business advisory and personal wealth management services can benefit you!