What is Disability Insurance?
Disability insurance is a type of insurance that pays you a monthly benefit if you become disabled. You could think of it as an income replacement that can help you avoid the financial burden of losing your income if you are unable to work due to an accident, injury, or illness.
Why You Need Disability Insurance?
The disability insurance benefit can help you avoid depleting your emergency fund or retirement savings in the event of a disability. A disability could be more financially damning than a premature death, because although both events cause income to stop, a disability often brings prolonged increased expenses. Moreover, becoming disabled is more common than you might think. For example, the Social Security Administration (SSA) says that about 25% of people who are 20 years old today will be disabled for 90 days or more before reaching age 67. Hence, becoming disabled is not only possible but is highly probable.
Types of Disability Insurance
There are two main types of disability insurance: short term and long term, and most people need both. The difference is the length of the benefit period and when the coverage begins. Long-term disability typically has an elimination period (time before benefits begin) of six months and can last for many years or until retirement. While short-term disability, as the name implies, has a shorter elimination period (waiting period) before benefits begin and generally lasts up to 6 months.
What Disability Benefits Do Federal Employees Have?
As a Federal employee, you have long-term disability protection via the Federal Disability Retirement (more on this later) but are not offered any short-term disability insurance, except for sick leave, annual leave, and the leave bank.
How Much Disability Insurance Do You Need?
The amount of disability benefit is called coverage, and the amount of coverage you need depends on a variety of factors, such as your occupation and financial obligations. The amount of your coverage should be enough to cover all your non-discretionary expenses. You should create a monthly budget and extrapolate from there. Additionally, because your disability may have resulted in higher medical bills, you may want coverage that exceeds your current expenses. For example, since your short-term disability coverage is limited, you may want to have an emergency fund totaling six months of non-discretionary expenses to supplement your leave.
The Federal Disability Retirement
The Federal Government uses two retirement systems: The Federal Employees Retirement System (FERS) and the Civil Service Retirement System (CSRS). FERS became effective January 1, 1987, replacing CSRS; all Federal civilian employees hired after this date are covered under FERS. Because most current employees are covered under the FERS system, we will limit our discussion to that system.
To be eligible for Disability Retirement, you must have at least 18 months of service and must have become disabled while covered by FERS. Additionally, your disability must be expected to last at least one year. The agency must also certify that it is unable to accommodate your disability in your current position or any vacant position you are qualified for at the same grade and within the same commuting area.
Note: Since FERS employees pay Social Security taxes, they are also eligible for Social Security benefits.
Under the Disability Retirement, you will receive 60% of your high-3 salary minus 100% of your Social security benefit for the first year. After the first year, you will receive 40% of your high-3 salary minus 60% of your Social Security benefit. However, you are entitled to your earned pension benefit in both instances if it is larger. When you reach age 62, your pension will be recalculated as if you had retired that year.
Should You Purchase More Insurance?
Generally, long-term disability insurance is the only type worth buying since short-term disability is often expensive and can be covered with leave, worker’s compensation, and an adequately funded emergency fund. However, you should ensure that your emergency fund can cover any potential gaps that are not covered by your leave. As mentioned before, you may want to have an emergency fund totaling six months of non-discretionary expenses.
Your Federal Disability Retirement isn’t meant to cover 100 percent of your lost income, and depending on your Social Security benefits, your coverage will likely not cover more than 60% of your lost income.
Purchasing an Individual Disability Policy
An individual long-term disability insurance policy can supplement your Federal benefits. The premiums for private disability insurance are higher than a group policy. Typically, you can buy an individual policy for 1 to 3 percent of what you earn. As with life insurance, the earlier and healthier you are when you purchase disability insurance, the cheaper it will be. But the exact cost of the policy will depend on a variety of factors, such as:
Occupation: The riskier your job, the more expensive the premium.
Elimination period (Waiting Period): A shorter waiting period is cheaper, but longer waiting periods could place a financial burden on you if you need the cash sooner. Typically, a 90-day waiting period is recommended.
Coverage Amount: If you want to receive more income in the event of disability, the premium will rise. It’s a good rule to get at least enough coverage to protect 60–70% of your income, but coverage can usually be purchased for up to 75-85 percent of your income.
Benefit Period: The longer the plan, the more it will cost. Policies typically cover terms of 2, 5, or 10 years or until retirement. The shorter the benefit period, the cheaper the premiums, but you may want to protect yourself until age 62.
Disability Definition: Disability insurance usually offers two definition options “any occupation” or “own occupation.” This definition determines the severity of disability needed to qualify for benefits.
Own Occupation: Pays full benefits if you’re unable to perform your job, even if you can do another job. Typically, this definition is more expensive, but it is easier to qualify for benefits. Any Occupation: Usually cheaper, but benefits are only paid if you cannot reasonably do any job. Meaning you could have to work at a different location, or perhaps in a lower-wage position.
People sometimes dismiss the need for disability insurance and focus on life insurance. Yet, the odds that you will suffer a disability because of illness, or an accident are much greater than the odds of dying while you are still working. If you’re injured or disabled for years, or if you need to rely on disability insurance until you retire, having a source of income that comes close to what you earned can be the difference between getting by and living securely. This guide highlighted the major areas of your Federal disability benefits. Although it is not meant to be a comprehensive guide, the information can help you determine whether you have adequate disability coverage. If you are unsure if you have enough disability coverage, or do not feel confident in your ability to develop your financial plan, please consult a qualified financial planner.