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A primer on disability insurance

Disability insurance is insurance that replaces a portion of your income if you cannot do your job due to disability. Loss of income is a major risk, especially while you are depending on your income to continue for many years to accomplish your financial goals.

Each policy can be written differently. It is important to understand your own policy. We offer some general guidelines to help you get started.

How much do I need?

This is a very personal amount. Factors that play into the “right” amount are:

  • Willingness and ability to adjust your family spending: do you have room in your family budget to cut spending?
  • Length of time to retirement/financial independence: the closer you are to retirement, the less dependency you have on your income.
  • Potential earnings of your spouse/partner: could he/she increase hours or transfer to a role with increased pay (along with likely more time demands and responsibility)?

Keep in mind that your family costs could increase if you are unable to work due to a disability for expenses like home health care or adapting your home to facilitate your needs.

What are the odds of you not being able to earn an income due to a disability? Here is a handy website to give you a better idea: http://www.whatsmypdq.org/

Keep in mind that a disability more often happens as a result from illness than from an injury.

I have a group policy at work, do I need more?

Maybe not. If your company offers disability insurance, most group policies will protect between 40% and 60% your income with a disability insurance policy. Often, the definition of disability may be more difficult to reach in a group policy at work than an individual policy you purchase on your own. For example, the group policy may say that you are not disabled unless you cannot work in any job (“any occupation” definition) while an individual policy may say you are disabled if you cannot perform the duties of your own job but perhaps could do another job (“own occupation” definition). Any occupation in a group policy is more common. Highly specialized professions usually have a period of own occupation first in their group policies.

In addition to other offsets – which means your benefit will be reduced by the amount you are receiving from another benefit – like worker’s compensation, benefits of a group policy could be offset by Social Security disability income. Note, worker’s compensation only is in effect for an injury while on the job. Long-term disability insurance, whether group or individual, covers an incident regardless if you were at work or not. Social Security disability has strict definitions of when you are eligible to receive benefits. Not to say your individual policy is immune to offsets, they are more common in group policies.

I have both a group policy and an individual policy, who pays if I’m disabled?

Probably both. It is not common for a group policy to be offset by individual disability insurance benefits. However, when you apply for individual disability insurance, you will need to declare how much insurance (group or individual) you already have. The insurance company will cap the amount of total insurance offered, usually to 60% of your income. Your total disability benefit could depend on the order of which policy is in place first. For example:

  1. If you are working for an employer who does not offer group disability insurance;
  2. purchase an individual policy on your own;
  3. change jobs to an employer who does provide group disability insurance;
  4. then both policies would likely pay you while you are unable to work on disability irrespective of one another.

In other words, when you buy individual disability insurance, existing insurance could limit the benefit offered. Group policies do not consider insurance you may already have.

Are disability insurance benefits taxed like my wage income?

It depends how your premiums were paid. If your employer paid them for you which is essentially a form of income that you are not getting taxed on (yet), then those benefits would be taxed when you receive them. If you paid for your insurance premiums with post-tax money – as you would with an individual disability insurance policy – then benefits you receive from that policy would not be taxed when paid out to you. You either pay tax on benefits you receive, or you use money that has already been taxed to pay the insurance premiums, not both.

Long-term vs short-term

Most employers offer both short-term and long-term disability insurance. Short-term disability insurance covers a portion of your lost income due to a disability before long-term disability; usually for 9 weeks to a year. Often, you must first use up your vacation time and sick time before short-term disability insurance benefits begin. Pregnancy/giving birth is considered a short-term disability.

If you are still unable to work after the short-term disability benefits end, long-term disability insurance then could go into effect.

An individual short-term disability insurance policy is rare to buy on your own because most people will use their liquid savings, aka emergency fund, to cover loss of income first.

What affects the price of insurance?

Most notably, these three things:

  • Length of benefit: The length of time an insurance company pays a monthly benefit after a claim has been filed (typically to age 65, but different benefit periods are available).
  • Elimination period: The amount of time an insured must be disabled before benefits begin. The longer the elimination period, the lower the premium.
  • Disability definition: Dependent upon occupation and determines how benefits are paid. Insurance companies will define by own occupation, transitional occupation, your occupation, and any occupation, specific to each policy.


This article is not intended to provide tax, legal, accounting, financial, or professional advice. Readers should seek advice from qualified professionals who can review their specific circumstances. Old Peak Finance endeavors to provide information that is accurate and current. However, we cannot guarantee that this information has not been outdated or otherwise rendered incorrect by new research, legislation, or other changes. Old Peak Finance has no liability or responsibility to any individual or entity with respect to losses or damages caused or alleged to be caused, directly or indirectly, by the information contained on this website.

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