Disability Insurance: Why Almost Everyone Needs It

Disability insurance why almost everyone needs it

Photo courtesy of Kenny Louie

I talk a lot on here about the importance of building a secure financial base for my family. Sure I want to work towards financial freedom, and doing so takes some risk, but first and foremost I want to do everything I can to make sure my family always has the financial resources it needs.

Building that secure base means wading into some topics that maybe aren’t the most enjoyable to think about, but are incredibly important.

Disability insurance is right at the top of that list.

What is disability insurance?

In return for your regular premium, disability insurance will replace some of your income if you’re ever in a position where you cannot work due to disability. In other words, it protects your ability to earn an income even if your health prevents you from doing so.

The definition of “disability” can vary greatly from policy to policy. I’ll get into this a little more in next week’s follow-up post on what to consider when purchasing a policy, but it’s important to understand that the definition is very important. As an example, Social Security defines disability as:

  • You cannot do work that you did before;
  • We decide that you cannot adjust to other work because of your medical condition(s); and
  • Your disability has lasted or is expected to last for at least one year or to result in death.

In other words, it only pays out if you cannot do ANY kind of work AND the disability is either expected to last for one year or result in death. This only covers rare situations, and many private policies will have a much more inclusive, and therefore useful, definition.

It’s also important to distinguish between short-term and long-term disability insurance. The difference is exactly what is sounds like. Short-term disability insurance will only cover you for short periods of time. In my opinion, this is something that’s better handled by an emergency fund rather than insurance.

Long-term disability is where the real value is. It will pay you monthly income in the event that you’re unable to work for long periods of time, from several months up to several decades. This is where your real risk lies. For the rest of this article and in follow-up articles, I’ll be discussing long-term disability insurance only.

Why is disability insurance important?

Unless you’re already fully financially independent, you rely on your income to provide for both your day-to-day financial needs and your long-term financial security. Without an income, most of us would have trouble paying our bills once our emergency fund was exhausted, and the idea of building up a retirement fund would be lost.

And particularly for younger workers, who haven’t yet built up a large amount of savings, your income-earning ability is your single greatest financial asset. It’s the foundation of everything you want to do financially for the rest of your life.

All of this means that protecting our ability to earn that income is critically important.

One last point to consider is that if you were to become disabled, not only might you lose your ability to earn money (or each as much money as you did before), but you might actually start incurring additional expenses in order to manage your new health condition. All the more reason to make sure you have a certain amount of money you KNOW would be coming in.

Who needs disability insurance?

If you already have enough money to live on for the rest of your life, you probably don’t need disability insurance.

If you still have a need for income, then you have a need for disability insurance.

Unlike with life insurance, this isn’t something that you only need once you have dependents. Whether you’re single, married or have kids is pretty much irrelevant. As long as someone relies on your income, including you, then there’s a need to protect your ability to earn that income.

Furthermore, disability is more common than most people think. According to WebMD, your odds of becoming disabled for some period of time before you retire are about 1 in 3. And while most people think of disability as the result of something like a car accident, the same WebMD article lists the most common reasons for disability as:

  • Arthritis
  • Back pain
  • Heart disease
  • Cancer
  • Depression
  • Diabetes

These are chronic conditions that have nothing to do with the kind of sudden injury that most people imagine when they think of disability. If one of these conditions prevented you from working, or forced you into a lower-paying job, or fewer hours, how would you cope financially?

There are certainly several different ways to answer that question, but the regular income provided by a good long-term disability policy would make the financial side of things a lot easier.

Next week: things to consider when purchasing a disability insurance policy

This kind of topic certainly isn’t the most enjoyable to write or read about, but I talk about it because it’s important. We all certainly hope we go through our lives without ever having to deal with something like a prolonged disability, but the reality is that it happens.

If we’re sincere about our desire to build a secure financial base for ourselves and our family, then disability insurance is a critical part of that base.

To learn more, check out my follow-up post on what to look for when purchasing a disability insurance policy.

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33 Comments... Read them below or add one of your own
  • DC @ Young Adult Money November 21, 2013

    Yeah, this definitely is not a “fun” topic to read/think about, but it’s so important to protect yourself from loss of income due to a disability. At minimum it can offer you peace of mind knowing that you wills till have income coming in if you become disabled, which no one imagines happening and seems like it can come out of nowhere.

    • Matt @ momanddadmoney November 21, 2013

      The peace of mind is nice but more than that I think it’s a real protection that people need. You’re spot on when you say that it can come out of nowhere, and without insurance most of us would be pretty poorly equipped to handle it.

  • Done by Forty November 21, 2013

    Well, you’ve successfully made me worried on my vacation. So, thanks for that. 😉

    I know we’ve chatted about this before, but I currently have my long-term disability coverage through work, which would provide 60% of my salary. It’s not an optional insurance (we all get it, “free of charge”) and the only decision is whether to pay taxes on the premiums the company pays (and therefore the benefits would not be taxed) or vice versa. I’m choosing the latter and would be taxed on benefits.

    I’m a little concerned about buying a separate policy on the open market, mainly because I don’t want both companies arguing about who is primary. Also, I’m kind of leaning towards just buying a separate policy in the event of a job loss/transition, at that point. I know I’ve asked this question before…but is that a bad plan?

    • Matt @ momanddadmoney November 21, 2013

      No worrying on vacation!

      In all seriousness, I can’t give you a recommendation without really knowing more about your situation. But one thing I would at least consider is taking the option to be taxed on the premiums now if you think you would need that full 60% of your salary in the event of disability. The taxes are likely to be small now but the extra benefit would probably be relatively significant.

      As for the other part of your plan, your options might be limited anyways given that you already have an employer plan. I would just make sure that you really understand what your employer plan covers and what it doesn’t, and decide whether your comfortable with that. If so, then you’re probably fine. If not then it probably makes sense to at least look into other options.

  • Holly Johnson November 21, 2013

    Disability insurance is one area where we’re seriously lacking! I think about it all the time but haven’t taken action. Every time I have looked into it I have found that it is so expensive. Greg had a disability policy at his old job but not at his new one.

    • Matt @ momanddadmoney November 21, 2013

      It’s definitely expensive. I have a policy that costs about 1400 per year and would pay out 4000 per month until age 65 with an “own occupation” definition. So the way I look at it, three years of premiums would be basically equaled out by a single month’s worth of benefits. And the real risk isn’t that I need only one month of benefits, but that I need several years’ worth of benefits. So yes it’s expensive but the benefit is proportionately valuable, especially when you consider the implications of needing it and not having it.

  • John S @ Frugal Rules November 21, 2013

    Good post Matt! Like Holly, this is an area where we’re sorely lacking. We’ve discussed it numerous times and know that we need to have something but just have not taken action on it. We’ve got our short term covered just fine, but if it was anything over a year, then we’d be in trouble. Thanks for writing on something so important, yet overlooked by many.

    • Matt @ momanddadmoney November 21, 2013

      Sure thing John! It’s an easy one to overlook because it’s not incredibly common and it’s definitely not fun to think about. It’s also a lot more abstract than something like life insurance. But it’s an important piece of good financial management for sure.

  • Andrew November 21, 2013

    I’m with Holly and John. I know it is something that I should probably have but have put it off. I’m not sure how much the premiums are, but I should probably check. Nobody wants to think that they’ll need insurance for disability or death but it is invaluable to have as sometimes you never know.

    • Matt @ momanddadmoney November 21, 2013

      It’s expensive insurance, but you can see my response to Holly for why I think it’s worth it. It would be much more expensive to need it and not have it.

  • Kevin November 21, 2013

    Great post! Never thought about it. Thanks for bringing this in our attention.

  • Alexa Mason November 21, 2013

    I need to get disability and life insurance. It’s one of those things I always say I will get around too but never do. Right now though I am a bit more concerned with life insurance. I just want enough to cover the cost of my kids education.

    • Matt @ momanddadmoney November 21, 2013

      Both are really important. Life insurance is great for your kids but disability insurance is really for you too. Don’t forget to take care of yourself!

  • Alicia November 21, 2013

    It’s on my to do list. I am covered if I die, because I have life insurance. But disability insurance hasn’t entered into my financial planning quite yet. I need to push that up.

    • Matt @ momanddadmoney November 21, 2013

      It’s definitely a piece that a lot of people ignore. I think it’s absolutely worth looking into though. Good luck!

  • Mrs PoP @ PlantingOurPennies November 21, 2013

    The thing about disability is it’s so expensive and often covers much less than people think. (Not 100% income replacement, for example.). I get it subsidized through work, but if I didn’t I don’t know if I would pay for it or just keep it in mind when deciding how much to have around for emergencies.

    • Matt @ momanddadmoney November 21, 2013

      No it won’t cover 100% of income, but if you have an individual plan or you pay taxes on the premiums your employer pays, you can get 60-70% of your income tax-free. That will be closer to 100% of net pay than a lot of people think.

      I’m surprised you say that you wouldn’t pay for it yourself. First, it’s much easier to get an individual policy that actually covers everything. Group plans often have more holes in them. And second, I guess you’re thinking that you already have enough assets to carry you through a period of extended disability? I could see that, and wouldn’t necessarily argue. But if you read my response to Holly I think the potential benefits can more than make up for the premium cost.

  • Shannon Ryan November 21, 2013

    Agreed, Matt. Disability insurance is something too few people have. Again, much like life insurance, some people just don’t want to imagine the possibility of ever needing it. But as the statistics show, the chances of experiencing at least a short-term disability are high. People tend to think worst case, such as a debilitating disease. But the reality is it can be a hair stylist with a broke collarbone who can’t work for 6 months.

  • Emily @ evolvingPF November 21, 2013

    I’ve never heard anyone phrase it the way you did – that if anyone, including you, depends on your income you need LT disability insurance. I’ve only recently considered buying disability insurance. I always thought I would buy it when I got my first real job and gamble that I won’t become disabled before that point.

    When you talk about buying a policy, can you be sure to cover buying policies independent of employers? I don’t have that benefit at work and I would also want to be covered during transitions between jobs. Also, how do you decide what amount of income you want to receive if you end up using the insurance? If I were to become disabled, I definitely don’t want only have 70% of what I make now but rather try to replace my post-PhD potential income. How long do policies last and how easy are they to update if you want a higher amount of coverage?

    • Matt @ momanddadmoney November 22, 2013

      Wow, lots of good questions Emily! I’ll start by saying that I am not a disability insurance expert, so it definitely makes sense to talk to an independent professional when looking into your specific situation. But I’ll do my best to address some it here. And some I’ll talk about more in depth next week as well.

      Your situation is actually interesting. I’m not sure if you even could get a policy right now, since they measure your benefit by earned income and I’m not sure if what you’re doing counts. So you might have no choice but to wait, but again I don’t actually know that for sure. I’d love to hear the actual answer if you end up looking into it.

      My post next week will mostly be about purchasing an independent policy, since you don’t often have a lot of choice with what you’re offered through an employer. I also think that in most cases it’s better to have an individual policy, which will be the topic of a post in 2 weeks.

      You won’t be able to insure more than 70% of your pay, simply because the insurance company wants to make sure people have an incentive to get back to work. But what you can do is make sure your premiums are paid with after-tax dollars, which would make any benefits you received tax-free. Otherwise that 70% might actually look more like 50%. With an independent policy you can also get what’s called a future purchase option, which basically guarantees you the ability to purchase more coverage later without another medical exam. So it locks in your current health, though not your current age which IS a factor in the premium.

      Different policies will last different lengths of time. The one I have will pay benefits until age 65. Others will last a little longer and others will only cover a set number of years. It just depends on the policy, but something lasting till 65 or so should be enough because hopefully you’ll be retired by then anyways (or at least not so dependent on income).

      I you have any more questions please feel free to ask them here, or you can email me at matt (at) momanddadmoney (dot) com.

  • E.M. November 21, 2013

    Looking forward to the next post. Like others, my knowledge on disability insurance is lacking. I know that my boyfriend at least has a policy through his job, but I don’t. I think that many people think of disabilities as injuries, but as you listed, it can be in the form of disease as well, which anyone can fall victim to. Coping with managing an illness is tough enough without having to worry about if/when you’ll return to working and how you’re going to cover expenses.

  • Clarisse @ Make Money Your Way November 21, 2013

    For me disability insurance is very important, you will never know what will going to happen. It’s better to be prepared always or else regret at the end.

  • MoneySmartGuides November 22, 2013

    I urge people to get disability insurance. The odds of getting disabled are much higher than those of passing at a young age, yet so many have life insurance and so few have disability insurance. The premiums are low as well, so there really is no excuse to not have it.

  • Tonya November 22, 2013

    This is still something I need to do. I have nothing to fall back on if I can’t work for one reason or another. Thanks for the reminder!

  • Kim@Eyesonthedollar November 23, 2013

    I’m lucky that the American Optometric Association has really cheap disability policies for members. Membership is expensive, but you get lots of benefits, like the disability and malpractice insurance at a discount. I also have an office overhead policy, so if I couldn’t work by seeing patients, it would pay my employees for a period of time. When we pay off our house, I’m not sure I’ll need it, but it’s one of those things you don’t want to wish you’d kept it if something happens.

    • Matt @ momanddadmoney November 24, 2013

      Just out of curiosity, how good is the coverage from the American Optometric Association? I’m mostly interested in how useful the definition of disability is.

      • Kim@Eyesonthedollar November 24, 2013

        I should probably study it more but from my understanding it would cover me if I were unable to be an optometrist because of illness or injury. It kicks in after 90 days and lasts until social security if I remember correctly. Now I’m going to look it up tomorrow!

  • 2-copper-coins.com November 23, 2013

    Matt this is a really important post. I’m journeying with a friend who just had a stroke, and they do not have disability insurance. It is heart wrenching seeing how much difficulty could have been avoided if they had taken out a disability insurance policy. Yes it is buying insurance for something you hope never happens, but it is incredibly necessary.

    • Matt @ momanddadmoney November 24, 2013

      Wow, I’m so sorry to hear about your friend. As heart-wrenching as that is, it is a good example of why we need to protect ourselves from these things. There’s often just no way to see it coming and it’s so hard to cope financially without that protection. I wish you all the best of luck.

  • Kimberly Wagner May 5, 2016

    Hi Matt,

    Curious to know about how much it would cost me to get an own occupation disability insurance policy for myself. I am a 50 year old salon owner and stylist in good health and make approximately $50k a year.
    I’m a little concerned as I am getting older and am a widow.

    thanks.

    • Matt Becker May 5, 2016

      It’s a great question Kimberly and I wish I had an answer for you but I honestly don’t know. There are so many variables that go into the premium and every insurer does it differently. I would suggest looking for an honest, independent disability insurance agent who can guide you through the process and help you find the right insurer for your needs.

      I will say that my guess is that at 50 the premium will likely be pretty expensive. I don’t know that for sure, but it may end up being cost-prohibitive. Of course if you own a salon, there may also be group coverage options available to you, though that would likely also be fairly costly since it would cover employees as well.

I’d love to hear from you, please leave a comment