Disability Insurance: Because the Odds are Against You
An Introduction to Insurance and Risk Management – Part 3
My Personal Story
When I was 25 years old, a couple of months into marriage, I went to see my doctor for a routine physical exam. One thing led to another until I was referred to a nephrologist in Vancouver. I underwent a kidney biopsy and a week’s worth of medical tests at Vancouver General Hospital.
Several weeks later, I was told that I had membranoproliferative glomerulonephritis Type 1 and that I had a 50 to 75% chance of complete kidney failure in 10 to 15 years. Ever the optimist, I had blithely assumed over the intervening weeks since the biopsy that there would be a cure and I would go about my life just fine. Instead, the gravity of the situation hit me like someone had dropped the proverbial ton of bricks on my chest.
As it turned out, my kidneys lasted a lot longer than the doctors had anticipated, but eventually the disease had its way with my kidneys, and I began dialysis in 2014. Two years later I underwent a kidney transplant from a living donor* and finally returned to work in January of 2017.
I tell you this story because, when I began dialysis, I was fortunate enough to be working for a company that offered group disability insurance. Because I was part of a group plan, I did not have to qualify medically for the coverage and so, when I was hired in 2005, I chose the most expensive but best long-term disability option available to me. Dialysis was burdensome enough that I was considered disabled and ceased working. My wife said, if you have to go on a disability leave you have to be on long enough to recoup the premiums you paid! Frankly, I don’t know whether I met that precise criterion, but I was very happy to get disability insurance and have the resulting income for the 2 ½ year period I was off work.
Disability: What are the odds?
Disability insurance is a strategy intended to offset the risk that you may be unable to earn an income due to injury or illness. If you are a single person without dependants, it is reasonable to make the case that you do not need life insurance. However, that single person would almost certainly want to have disability insurance to cover an inability to work because they would have no other sources of income.
You can reasonably argue that your ability to earn an income is your greatest asset. Savings and other assets are largely derived from that ability to earn. Consider what is probably the biggest single material asset in an average household’s net worth. It’s probably your home, especially if you have been living in one of the cities where real estate prices have been flying high in recent years. I suspect that few homeowners decline to pay for home insurance and if you have a mortgage on your property the terms most likely require you to maintain adequate home insurance. However, it is about 10 times more likely that you will experience a disability compared to a house fire. Unfortunately, according to a 2018 survey conducted by Ipsos on behalf of RBC Insurance, fewer than 50 percent of employed Canadians have disability coverage included among their benefits. That means you may have to search out disability coverage on your own. The same goes for self-employed persons.
Alternatives to Disability Insurance:
Imagine that you were a disciplined saver for your retirement. Over the last 10 years you averaged $60,000 per year in gross income and managed to save 10 percent of your income over that time, investing it to get an average return of 5 percent. You would have about $75,000 saved up at the end of those 10 years. That’s not a bad start. Now imagine that you were permanently disabled due to an accident. How long would that $75,000 last? And what happens to your retirement?
How sustainable is this? Eventually you have to pay back a loan and if you don’t have income that is simply not going to happen.
Spouse Returns to Work
First, this only applies to those who have spouses. Although not universally true, often both spouses are already working. Furthermore, the able-bodied spouse may already be busy taking care of other household responsibilities or even providing care to the disabled spouse.
Selling Your Home
If your home still has a significant mortgage remaining, the net amount to you may not be adequate. You still need someplace to live. A reverse mortgage may be helpful if you qualify but none of these options seems particularly feasible.
Disability Insurance Options
There are three main components to disability insurance. Under a group plan you have less flexibility, but disability insurance purchased privately from a life insurance company may allow for a wider variety of options.
The benefit amount is the amount of monthly income you would be entitled to receive. Factors in deciding that figure include the earned income you are currently receiving and income from other sources. Concerning the latter, you may qualify for Employment Insurance benefits or the Canada Pension Plan Disability Benefit. With respect to earned income, since most disability payments are not taxable you are not likely to receive full income replacement.
This is the time that the insured person must wait before becoming eligible for benefits. The longer you can afford to wait, the lower the premium you will have to pay.
You may be able to elect to receive benefits for a specific time, such as 5 years or 10 years, or until you have reached age 65. As one might expect, the longer the benefit period, the greater the premium you must pay.
Definition of Disability
From the point of view of an ability to work, disability can be assessed based on the insured person’s ability to return to any occupation or to one’s own occupation.
Different insurance companies may use different terms, but in a typical case, “any occupation” is the less desirable option for the insured person. This is a situation when, after two years of receiving disability benefits, if you can perform any occupation for which you are qualified, the insurance company can stop payments.
This is probably the desired definition for most disability insurance policyholders. This means that your disability continues as long as you cannot perform the major duties of your particular occupation. So, even if you are qualified to work in another occupation, you are not required to, and your benefit payments will continue.
This example from Investopedia.com illustrates the situation quite well:
Consider Mark, a surgeon who loves to do home improvement projects when he’s not at the operating room. One weekend, Mark’s hand slips on a saw, and his finger has to be amputated. Mark won’t be able to do surgery anymore but may be able to work in another medical specialty or even a profession outside the medical profession.
Under the own-occupation insurance definition, Mark cannot perform the substantial duties of his occupation as a surgeon. If Jim had an own-occupation disability insurance policy, he would receive full benefits, regardless of whether he chooses to work in another medical specialty or another profession altogether.
How Much Disability Insurance Do I Need?
Generally, you want payments to at least cover your monthly expenses. For example: mortgage/rent, transportation, food, clothing, utilities, insurance, etc. If you are taking up a new job which offers you disability coverage through a group policy, you may be able to choose your coverage from a selection of set tiers. Whether you have the option of group coverage through employment or private coverage directly with an insurance company, going through the process of determining your monthly expenses is a good exercise in helping you to prepare to make a suitable choice.
In upcoming posts, I will be addressing Critical Illness and Long-Term Care Insurance.
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*If you are interested in the subject of organ donation and my journey with kidney disease, you can read more here: Kidney for Russ.
Disclaimer: This blog post is intended for general information and discussion purposes only. It should not be relied upon for investment, insurance, accounting or legal decisions.