Disability Insurance Policy Provisions
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You will gain a complete understanding of how important a comprehensive disability income protection policy is to people that rely on the ability to earn an income.
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You will understand the key components of disability insurance and how they work together to help provide maximum protection.
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You will understand the importance of looking for discounts that might be available, along with understanding the difference between a unisex rate and a sex specific rate.
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You will understand the difference between a customizable, individual disability insurance policy and a group disability plan along with the pros and cons of each.
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You will see the importance of utilizing a disability insurance specialist in developing occupation specific disability coverage.
Overview
While some people have the opportunity to accumulate capital to cover a temporary loss of income, many other people are less likely to withstand an earnings loss for an extended period of time. For them, their earning capacity is usually their biggest asset. Even people that are in the mid or later-stage of their career risk a significant depletion of their capital should a disability keep them out of work for an extended period of time. The point at which an individual has a sufficient amount of wealth to self-insure against a long-term disability without threatening their financial security may be well into the future for many.
Consider the fact that, according to the Council of Disability Awareness, for a 35 year-old male, the chances of becoming disabled for a period of 3 months or longer is 21 percent with 38 percent of those disabilities lasting five years or longer.
Clearly, people across all occupations, with the potential to earn a large amount of income over their working life, have a lot at stake. It is for that reason that most people should consider purchasing a disability insurance policy as early in their career as possible when the need is greatest and the cost is the relatively inexpensive.
How Disability Insurance Policies are Built and What You Should look for when comparing options
Disability Insurance is intended to replace the income of an insured individual who, as a result of an accident or an illness is unable to work or is limited in their ability to work in their occupation. This insurance policy typically pays a monthly income until the insured is healthy enough to return to work full time, and the amount payable depends not only on the income of the insured and the benefit amount purchased, but also on the type of disability coverage he or she owns. There are a number of choices to make when purchasing disability insurance, so it is important to have a good understanding of the various products and their features.
Definitions of Disability
The definition of “disability” is one of the most important parts of a disability insurance contract as it is the primary basis for determining if benefits will be paid when totally disabled. For anyone that is looking for a disability insurance policy, it is important to understand that there are various definitions of disability that are commonly found in policies that are issued today.
Regular Occupation (also referred to as “True own occupation”) with medical/dental specialty wording
Under the “regular occupation” definition of disability with specialty language, an individual is considered totally disabled if they are unable to perform the essential duties of their regular occupation; that is the occupation in which they were engaged at the time of disability. The “specialty” clause states that if you have limited your occupation to the practice of a specific medical or dental (and in some cases, legal) specialty, that your specialty will be deemed to by your occupation. This wording can be phrased in many different manners, with the key being that there is reference to medical or dental specialty in the policy itself. Without this type of wording, one could potentially think that their occupation would be limited to being seen as physician or dentist rather than hand surgeon or orthodontist (as an example).
For example, if an orthopedic surgeon has an accident and loses a finger which will prevent her from performing her specific duties, she will still receive a total disability benefit even if she is able to work as a hospitalist or teach at a medical college. If an insurance company paid a claim based on being a physician, then an orthopedic surgeon and a hospitalist could be seen as the same thing. In this case, a total benefit might not be paid (although a residual disability payment would be made if the policy had this and there was enough of a loss of income to justify receiving a residual payment.)
Regular Occupation (also referred to as “True own occupation”)
This definition of total disability is the same as the prior version other than the fact that it does not have language in the policy that clarifies medical or dental specialties. This type of wording would be the best possible language for engineers, architects, business professionals, etc, etc. The definition would explain that if a sickness or injury causes the insured to not be able to perform the duties of their occupation, that they would be considered totally disabled. They would remain totally disabled until the end of the benefit period (to age 67, as an example) or until they could return to being able to perform the duties of their original occupation. The nice thing with a true own occupation definition is that the total benefit could be paid even if the disabled person was working in another job.
The definition stops short of adding the specialty clause that we see in the first definition of total disability.
Transitional Your Occupation
Under a Transitional Your Occupation (TYO) definition, the insured would receive a total benefit if they are unable to work in their occupation. The full benefit payment is made until the combination of the monthly disability benefit and any income that is earned in another occupation is equal or greater than the monthly income that they were earning prior to becoming disabled.
As an example, let’s look at an Anesthesiologist that is earning $300,000 per year, or $25,000 per month. While healthy, working as an anesthesiologist, they increase their disability insurance policy such that they would receive a maximum of $12,500 from their policy if they were to become totally disabled as an anesthesiologist. A back injury from a car crash prevents them from working as an anesthesiologist. After satisfying the 90 day elimination period under the terms of whichever policy they own, the doctor begins to receive $12,500. After a year, the doctor decided that he could do something, even though it is not going to be working as an anesthesiologist. He is a driven person…so, he goes to law school. 4 years later, he got a new job as an attorney earning $180,000 per year ($15,000 per month). Great work doc/attorney!
To determine how the transitional your occupation (TYO) disability insurance policy pays, we add the $15,000 of monthly earned income at the law firm to the monthly disability benefit of $12,500. The total is $27,500. Since this is more than the $25,000 monthly income that he was earning as an anesthesiologist, the insured sees the monthly disability benefit reduced to $10,000 per month. After getting promoted to Jr. Partner in the law practice, he is now earning $240,000 per year ($20,000 per month). At this point, the monthly disability benefit is reduced from $10,000 to $5,000. Under this definition (TYO), the income earned in the new job plus the disability benefit cannot exceed the pre-disability monthly income. Income was $25,000 per month. In order to keep the numbers in line with where they need to be now that the attorney is earning $20,000 per month, the insurance company reduces the monthly benefit. When income reaches $300,000 in the law firm, the disability benefit is reduced to $0. The “transition” to a new occupation has been completed and TYO benefits stop. If he had a “true own occupation” policy, he would be able to earn the $300,000 at the law firm and would receive the $12,500 continuously. The total benefit would be paid until reaching the end of the benefit period or when the attorney could return to being an anesthesiologist.
Modified Own Occupation
A modified own occupation definition will require that the insured is unable to do the duties of their occupation in addition to not working in any job. Under many disability policies, the insured would not be considered totally disabled if working in any occupation. Others policies may allow individuals to work, as long as they are not earning greater than percentage of their prior income. A key with this definition is that it would typically cost less than an “own occupation” definition of total disability. Also, some companies make this the best definition that is available for certain occupations. Inquire with us to see what type of definitions are available for your specific occupation.
Any Occupation
This definition can be found in some group plans. It requires that an individual is unable to work in their occupation, in addition to not being able to work in any occupation, based on education, experience, and work history. Some group plans have definitions of total disability that change after benefits have been paid for a certain length of time. You get hurt and cannot work at all. The first 24 months of that claim could be “True own occ”….once you cross the 24 month threshold on that claim, you could need to satisfy the more restrictive “any occ” clause. A surgeon with a hand tremor that was approved for total disability would likely see their monthly benefit changed
The Elimination Period
The “elimination period” is the period of time between the onset of a disability and the time you become eligible to receive benefits (no benefits are paid during the elimination period). The elimination period can vary, with choices ranging from 30 to 365 days. With a longer elimination period, the premium cost of the policy is reduced. Commonly, people tell us that they would like to consider longer benefit periods (180 days, as an example). We generally recommend that policies go in place with a 90 day elimination period if the individual does not have adequate savings. We could further enhance the disability program with a short term disability insurance policy. It is important to note that the first disability check is received at the end of the first accrued month. This means that the first eligible monthly benefit should be payable on the 120th day of disability on policies with 90-day elimination periods, provided the insurance company has all of the information necessary to make a claims determination. Insurance companies allow the policy holder to modify the plan in a way that reduces risk to the insurance company without requiring any further medical underwriting. With that being the case, someone could purchase a policy that has a 90 day elimination period with the intent to modify to a 180 day elimination period when there is enough savings to justify this change.
The premiums on policies with a 30 day or 60 day elimination period are the highest so the cost savings realized by choosing a 90 day elimination period can be significant. With elimination periods longer that 90 days, the cost savings are fairly negligible. It is simple to review the specific costs and options. Simply refer to a quote.
The best way to approach the elimination period is to calculate the cost saving of a longer elimination period, and then evaluate the ability to divert those cost savings into building a side fund that can be used self-insure for short-term disability.
The Benefit Period
The benefit period is the longest period a disability insurance contract will pay a monthly benefit. Off-the-shelf disability policies typically have an option of a 2 year benefit period, a 5 year benefit period, a 10 year benefit period, or benefits paid until age 65 or 67. With people increasingly working after age 65 or 67, newer disability policies might have the option to purchase a “To age 70” benefit period. Some policies include options that allow the insured to receive a “lump sum disability insurance benefit” when they reach the end of the regular benefit period.
The Occupational Classification
The occupational classification is one of primary determinants of the price of a disability policy. Insurance companies classify all occupations into one of 3-6, etc. groups. A general cardiologist that does a lot of consults with patients that are complaining of chest pain is seen as a lower risk than some of the very particular surgical specialties, as an example. If that surgeon loses a finger, they may be totally disabled. The cardiologist is of course going to have issues with practicing, but they might not be totally disabled. They could continue to do patient consults.
With there being hundreds of medical and dental specialties, and with the typical insurance company only using 3 or 4 different rate classes, we commonly find situations where it is more advantageous to use one carrier over another carrier. This example is seen when working with cardiologists, ophthalmologists, family medicine physicians, radiologists, psychiatrists, OB/GYNs, and Pediatricians, amongst others. The same could be seen with Realtors, Engineers, Police Officers, Insurance Agents, etc, etc. Today, an insurance company could issue a policy for an occupation that is more expensive than it is for the next occupation….Due to actuarial experience, we could see the “riskier” occupation bumped up to be the same occupational class than what was assumed to be “lower risk” in the prior year.
Insurance companies have differing experiences with the various medical specialties and other occupations, so premium prices can vary considerably. Some insurance companies may look at a surgeon who performs invasive surgery as a higher risk, whereas another insurance company may consider the same specialty under a different set of criteria. One insurance company could look at a business owner that performs some manual duties different than the next. Insurers will also consider hobbies and leisure sports in their underwriting.
Partial Disability
If you do not qualify for total disability benefits but because of sickness or injury you can only work in a reduced capacity (less hours or limited duties) resulting in less income, you may be considered to be residually disabled. Disability policies that include a residual benefit will pay a partial monthly benefit proportionate to your lost income or based on a specific clause in the contract. Policies without a residual benefit would require that you be totally disabled and unable to perform the material and substantial duties of your occupation in order to receive disability benefits. Without residual, you must be totally disabled in order to receive claims payments under the terms of a disability insurance policy.
Statistically, you are more likely to become partially disabled than totally disabled. Keep in mind that many illnesses that lead to someone being totally disabled could take years to progress to the point of total disability. If a disability policy did not include the right clauses for residual, someone could be required to go through a period where their income is collapsing, while also still needing to make premium payments as they receive zero payments from the insurance company. It is very important for a policy to include residual so take a moment to review your existing policy (if you have one). The good news is that the top insurers offer a residual or partial disability benefit.
Not all Residual clauses are created equal
Like total disability, there are numerous versions of residual disability that are offered in today’s marketplace.
The key to all clauses is that there is a percentage loss of income that is required to receive residual benefits. You find policies that require a loss of income of at least 15%. Other residual definitions require a minimum of a 20% loss of income.
To understand how and when a residual disability payment is made, we use the following example:
A general dentist runs a busy practice. She sees an average of 20 patients per day and has done so for 10 years. One day when out running errands, she slips and falls. After going through physical therapy, she is diagnosed with a bulging disc in her back, which causes some restrictions and limitations but does not render her completely unable to work as a general dentist. Her income was $350,000. Now, due to the fact that she can only see 12-14 patients per day as a result of the pain she feels as she works through a day. Her income has dropped from $350,000 to $230,000. This is a reduction of approximately 34%. Under a residual clause that only requires a loss of income, she could receive a residual benefit. The specific dollar amount that is received during the initial period under residual is usually greater than the amount that will be receiving over the remainder of a residual claim. After the initial phase, which is typically 6 months or 12 months, most policies would pay a proportion of the total disability benefit. If she owned a policy that had a $10,000 monthly benefit, she could in theory receive $3400 of monthly benefit (34% of $10,000).
Some policies require an additional clause to be met, in addition to the 15% or 20% loss of income.
The requirement is that there is either a “loss of time” or some type of “loss of duties”.
You used to perform a specific procedure and now you cannot, but you are able to do the remainder of the job.
The loss of time requirement is seen most typically as one of three different clauses:
1 ) you are able to perform all of the material and substantial duties of your
occupation but not for the length of time they normally require.
2 ) Able to perform all the duties of your regular occupation but not able to perform them for more than 80% of the time
3 ) you are unable to work full time in your occupation
Thankfully, there are many great options for finding a policy that provides a strong definition of residual. This does not mean that all options are great. Keep an eye out for residual clauses that require an INITIAL period of total disability PRIOR TO receiving a residual claim. In this case, many illnesses and injuries that cause people to work part time would not qualify for a residual claim.
Guaranteed Future Insurability
Someone’s income can increase dramatically over time, at which point an initial disability insurance policy may not provide the coverage needed to replace the increased earnings that they will be earning later in their career. Disability policies with a Future Insurability Option (FIO) provide the opportunity to increase your monthly benefit without any evidence of insurability. Without the FIO, you would be forced to purchase additional disability insurance policies with the risk that a medical condition might disqualify you from obtaining the coverage or doing so at a very high cost.
Future increase options can be obtained in a policy where there is an annual option to exercise benefit or where there is a 3 year period that will pass between each option to increase coverage. The plans that give the right to increase in 3 year increments, there is also a requirement that a minimum of an allowable increase be purchased if the insured intends to have the right to increase without proof of medical insurability at the next 3 year interval. Since a medical or dental resident or fellow, or a junior association in a law practice, etc. could be forced to go 2+ years without being able to increase their monthly benefit to keep pace with the growing income after graduating, look for a clause that allows an exception to increase the monthly benefit prematurely, as long as income has increased by 50% or more.
Future increase options typically expire if not used prior to the age of 55. The rate at which the future options can be exercised have age restrictions. As an example, from age 45 to age 55, only 1/3rd of the available pool can be exercised in any policy year. Each company has different rules but the premise is the same: Protect a growing income without having to go through medical underwriting. If a medical event pops up after the policy is purchased, the insurance company cannot add a medical exclusion or decline the increase.
Inflation Protection
Most disability insurance policies offer a Cost-of-Living-Adjustment (COLA) as an option which adjusts the monthly benefit based on an inflation index, a fixed percentage, or a fixed dollar amount. Of course, a COLA would be essential to preserving your purchasing power throughout an extended disability. Whether the insured is able to keep the cost of living increase for future claims (when coming off of the claim that the COLA increased from), and whether or not the added benefit will have cost or if it will be added at no cost, depends on the specific contract that you own.
Policy Renewal
Most individual disability insurance polices are non-cancellable and guaranteed renewable, which means they must be renewed automatically by the insurer without any changes regardless of your health as long as premiums are paid on time. That includes your premium rate which cannot be increased as long as your policy remains in force or until the end of the regular benefit period (to 65, to 67, etc).
If an individual would like to keep their policy in place beyond age 65 or 67, they can do so. A letter will be sent to the insured annually where they must validate that they are working 30 hours or more and that they are not currently disabled. Premiums will increase at these ages and the maximum benefit period ranges from 12 months – 24 months for disabilities occurring after the end of the regular benefit period.
Insurance Company Financial Strength Ratings
A disability could strike at any time – now, or 20 years from now – so it is important that your disability insurer have the financial strength and stability to weather the worst of economic storms. At its core, a disability insurance policy is a promise to pay benefits at the time they are needed. That promise is backed by the financial strength of the insurance company from which you purchase the policy. The financial strength and stability of insurance companies is monitored and measured by third party rating agencies such as AM Best, Standard & Poor’s and Moody’s which produce a letter rating as a way of scoring and comparing of all insurers. The top rating by AM Best is A++ and the top score from Moody’s and Standard & Poor’s is AAA.
Discounts and Favorable Pricing
There are discounts that are commonly available. The best way to ensure that you have the best possible price is to work with someone that can explain all of the possible discounts.
Some discounts are offered through brokers that have worked to put a discount in place with a specific employer, hospital, association, or school. Discounts are either applied on a male/female (sex specific) basis or on a Unisex basis. Since women pay more for disability insurance than men do, a unisex discount can add up to be a larger percentage discount than it is for men. On the other hand, a sex specific discount can be more beneficial for men as it is applied to the male rate (rather than a unisex rate).
Inquire about discounts. They could save you a lot of money over the life of the plan.
Group Disability Insurance
Although most large employers and associations do offer group plans, those who opt in are in danger of being lulled into a false sense of security. Commonly, the wording in these plans is not as strong as what is found in a non-cancelable, guaranteed renewable plan. Also, these plans are not permanent. They can be altered or cancelled with only a few months notice. The problem with a plan that changes is that someone may have felt that they secured the policy that they could have for the remainder of their working life. When they go to find a replacement, it could be unavailable or limited due to medical events that occurred AFTER securing the association plan (but while still working and not on disability). Once they leave training, young physicians and dentists must either find employment where a group plan is offered or buy individual disability insurance. By not purchasing individual coverage at a younger age, most people will end up paying a higher premium for the life of the policy.
But, the larger concern is if, during the time people are covered under a group plan, they develop and illness or are injured, it could make it difficult to obtain individual coverage after leaving residency. Buying individual disability coverage at the earliest possible age will save a substantial amount of money over time, and, more importantly, it will lock in insurability for as long as disability coverage is needed.
Advantages of Group Plans
- Group plans offer less expensive coverage than individual plans.
- Group insurance is guaranteed issue which means you can’t be denied coverage for a pre-existing condition.
- Some plans offer an ability to convert to an individually owned policy when leaving the employer.
- Group plans are not guaranteed renewable or non-cancellable and can be changed at any time.
- Group coverage tends not to provide the level of protection and benefits found in individual plans.
- Group plan coverage does not extend beyond leaving the employer. If there is a right to convert, it is generally not as comprehensive of a plan as might be available in a medically underwritten individual policy.
Disadvantages of Group Plans
Working with a Disability Insurance Specialist
Disability insurance has become somewhat of a specialty over the years. Fewer insurance companies offer the coverage, and even fewer offer high quality occupation specific disability insurance. Because it is a more complicated product than life insurance, and it protects such a vital part of your financial life, it is recommended that you seek the guidance of an insurance professional who specializes in disability insurance and who is experienced in working with the unique needs of today’s consumer.
Key Takeaways
- Because income can increase over the span of a career, often disability income protection often does not keep up with a growing income. Options for Disability insurance should be reviewed frequently to ensure their protection keeps up with their income need.
- The definition of “disability” is one of the most important parts of a disability insurance contract as it is the primary basis for determining if benefits will be paid. As important as the definition of total disability is, you do not want to forget about the residual definition. Someone could become partially disabled without ever becoming totally disabled.
- Physicians should consider a “true” own occupation disability policy which defines “total disability” as the inability to perform the material and substantial duties of their specific specialty.
- The Future Increase Option is critical for anyone who expect their incomes to increase over time.
- Group disability plans are fine for a temporary solution or to augment the coverage of an individual disability policy, but can be more restrictive definition of total disability may not provide the maximum protection that people need.
- Occupation specific disability insurance is a complex product with a lot of moving parts that all need to be tailored to your unique needs. Only a disability insurance specialist with access to the top specialty disability insurance carriers, along with access to discounts, has the resources, knowledge and experience to match your specific needs to the right disability insurance policy.