Retirement Meditation #24: How does disability insurance work into my retirement planning?

Insights | Retirement Meditation #24: How does disability insurance work into my retirement planning?

Author: Paul A. Carl, CHSA, CPFA Vice President, Retirement Plan Consulting, Registered Representative

The most often shared example of inadequate disability insurance comes from my friend and colleague, Greg Hoernschemeyer. Greg met with a surgeon to review the adequacy of the doctor’s life insurance. The conversation included the surgeon’s annual earnings and expected years to retirement. Greg reviewed the surgeon’s long-term disability insurance policy, a straight-forward group policy through the physician's practice that paid a generous percent of income up to $10,000 per month. Greg asked the surgeon if he and his family could live on $120,000 per year income. The surgeon about fell out of his chair, “No way could we live off that!”

Many employers include short-term disability, which deals with temporary employment interruptions, at no cost as part of their benefits package for employees. Employers also often include long-term disability (“LTD”) with its total benefits solutions package. Sometimes the LTD is automatically included (and paid for) by the employer; sometimes the costs are shared; and sometimes the employee must elect the coverage and pay all the associated premium costs. 

Many employer-sponsored group LTD plans cover 60% of compensation. Is 60% of what you ordinarily earn sufficient to meet your basic living expenses? For anyone earning $50,000 per year, the LTD would pay $30,000 in annual benefits; at $100,000, the LTD would pay $60,000. Whatever your income, does that reduced amount cover your mortgage or rent, car payment, utilities, and groceries? What about credit card and student loan debt and all the other miscellaneous expenses?

Without adequate LTD coverage, a long-term disability could affect your accumulated savings and investments. Inadequate LTD coverage can even put your retirement savings at risk through early, unplanned, or accelerated withdrawals. 

There are several questions employees should ask when evaluating employer-sponsored LTD coverage:

  • Is my current LTD coverage adequate to cover my basic living needs?
  • Is my current LTD coverage adequate to maintain my lifestyle? If not, am I willing to sacrifice?
  • Is my current LTD coverage calculated using my total compensation or base compensation? Some policies may exclude commissions or bonuses.
  • Is my current LTD coverage capped, like in the surgeon’s situation?
  • Will my LTD benefits be taxed effectively further reducing the benefit?
  • How do potential social security disability payments factor into my LTD policy?
  • Does a supplemental LTD policy make sense? If it does, should I choose one that includes provisions that would make retirement plan contributions on my behalf?

Could you maintain your lifestyle if you became permanently disabled?

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