When it comes to disability insurance how do you know whether it’s better to go with a group plan or to purchase an individual policy? What are the major differences between the two? What do you need to know to make the best decision for yourself and your family?
If you’re confused about which type of long-term disability policy is the better option, I want to help you make the best choice. Here’s the hard truth you need to know: Every group long-term disability (LTD) policy is designed to benefit your employer, not you. In most cases, your employer wants to provide a benefit at the lowest cost possible. This means the policy they are providing may not have the best definitions built into it.
How insurers define disability
In insurance, the specific meaning of every term is important.
An insurance company can use several different definitions for disability within their documentation, with certain benefits limited to a specific scope. For example, many insurers limit their policy coverage by setting parameters around the kind of work an individual can no longer do as a consequence of illness or injury.
- A policy that refers to “specialty own occupation” may cover circumstances in which you can no longer do the specific tasks associated with your specific job.
- A policy that refers to “own occupation” may be designed to leave open a bit more room for the insurer to deny benefits, because although you may no longer be able to work the way you used to, you can still do your job by adapting to your new limitations.
- Policies that use “any occupation” to define disability may exclude you from eligibility if you can perform even the most basic tasks that would allow you to do some form of work, such as answering a phone or holding a conversation.
Several employer LTD policies use a hybrid of “own occupation” coverage for 24 months, and reduce to an “any occupation” following those initial two years of claim. This arrangement can significantly reduce the income replacement benefits someone would receive if they were diagnosed with a serious illness or injury. Simply put, the wrong definition of disability can prevent you from receiving full coverage benefits at a time when you need them most.
Employer-provided insurance benefits may be taxable
Another problem with group policies is that your employer may use the policy as a tax-deductible expense, which makes the disability benefit you receive taxable for you. So, on a plan where you’re expecting to receive 60% of your income per month, the actual benefit you receive after taxes tends to work out closer to 40% of your gross income—a significantly lower amount than you were expecting.
Changing jobs means changing or losing insurance coverage
Another important thing to keep in mind about employer-provided group plans is that the average young professional in today’s world is expected to have anywhere from 7 to 12 different employers by the time they reach retirement age. So, whenever you leave one employer to go work somewhere else, you have zero coverage unless that new employer also offers a group disability plan, and that new employee policy could have radically different terms and conditions.
If your new employer does not offer a disability insurance policy, then the only way you can protect your income is to purchase an individual policy. At this point, if you have a preexisting condition or common risk factors, like age, you may discover that the costs of the individual policy are prohibitively expensive.
Beware of benefits caps in employer-provided plans
The last and perhaps the most important thing for high income professionals to consider is that an employee-sponsored group plan has a monthly cap or maximum payout. The most popular terms offer 60% of your earnings up to $10k per month of income. This means if you earn over $200k per year, you no longer have 60% income replacement due to the cap because your policy is maxed out.
For example, if you earn $400k per year, you may believe you have full income protection. But in reality, if you go on claim you’d receive 60% of up to $10k per month, and that cap would only provide 30% of your normal pre-disability income. Not only this, but if your employer-provided group policy was a taxable benefit, it would further reduce that monthly benefit to something closer to 20% of your income replacement.
Offsetting benefits from government programs
One final thing to keep in mind is the relationship between government disability benefits programs and private insurance. Most group LTD policies provide for an offsetting adjustment to an individual’s benefits to account for any federal or state disability benefits. In other words, the government program also benefits the insurer, which pays less to you.
What are the upsides of an individual disability policy?
The great thing about an individual disability policy is that you get to tailor everything to meet your specific needs and expectations. All of the downsides listed above in the group policy scenarios would be reversed in your favor. This means the policy you purchase is yours forever and no one can take it away, no matter who your employer is. Even if your health situation changes, the insurance company cannot cancel your policy and it won’t go away as long as you continue paying your premiums.
For most individual policies, the price will never change and the benefits are often tax-free. You will also have the option to increase the benefits as your income increases throughout your professional career.
You also get to negotiate your own definitions in the individual policy so there are no surprises and you remain in control because you’ve designed your own safety net that prioritizes your best outcomes, not your employer’s or those of the insurance company.
To get the right coverage, consider a mix
In our previous articles, we’ve talked about the importance of taking advantage of an employer-provided group disability plan—it is the most cost-effective option—but most professionals will want to utilize both an individual plan and a group policy to guarantee complete protection in the event of an illness or injury in the future. So, it’s not necessarily a question of “either/or” but a “both/and” option where you can supplement your company’s group plan with an individual policy to maximize your benefits.
Let’s talk about your long-term insurance needs
Does your long-term disability insurance coverage provide the protection you need? If you need more information, please speak to your financial advisor or employer’s HR department, or contact me at [email protected]. I’m always happy to answer your questions.