Individual Disability Income Insurance

This is a generalization about the industry as a whole rather than any particular policy.

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Individual disability income (DI) policies are structured to pay benefits as a fixed dollar monthly indemnity amount, such as $10,000 per month.  Unlike group LTD insurance, individual DI does not require a calculation at the time of claim and does not reduce benefits based on other benefit sources.

 

You can select any policy size you want, but it cannot be greater than the amount you financially qualify for, which depends on:

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• earnings history

• other coverage currently in-force

• insurance company guidelines

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Other coverage in-force plays no role at the time of claim.  Other coverage in-force is merely a factor in determining how much of your earnings remains exposed at the time of application, and therefore how big of a policy you are qualified to buy.

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The maximum permitted policy size will vary from carrier to carrier.   Unlike group insurance, which consistently goes by 60% of base pay, individual DI has a large range, penciling out to something between 45% and 100% depending on how each carrier treats incentive pay, owner distributions, historical stability of earnings, and overall earnings amount.  Carrier risk appetite can vary at different points on the income scale, and they may hedge if passive income is significant. 

 

As a general rule, the higher the quality of the policy, the more complex the application forms and guidelines tend to be.  Carriers have to be especially cautious not to issue too much of the good stuff because whatever they commit to, it won't go down until the policyholder retires or voluntarily cancels.

Once issued, the size of the policy will remain constant over time, even as earnings fluctuate, except for upgrade options exercised along the way.  A fixed volume of coverage simplifies administration and budgeting since there is no need to track a moving target, and is what makes a schedule of future premiums possible.  So, it is possible to set-it-and-forget-it, so to speak. 

 

This raises the question of how to keep up with rising earnings in the future, and what happens if earnings later decline. 

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When future earnings increase, it may be possible to exercise an upgrade option that doesn't require future medical underwriting.  At periodic intervals, you'll receive a letter from the carrier to remind you of an upcoming option window.  The main constraint on the size of the upgrade is financially qualifying.  Also, each layer of coverage added over the years will carry it's own cost priced at the age that layer was acquired, which increases the total cost of the policy as options are exercised.

 

The option to upgrade in the future without going through medical underwriting again does not come standard, and must be proactively sought after by adding a rider at the time the policy is originally issued.  Some options cost extra, some don't, depending on the amount of control afforded to the policyholder. 

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When future earnings decrease, the issue amount remains fixed like a high water mark.  In other words there is no loss to the policyholder.  This is clearly a wonderful thing, and rather amazing considering the strong correlation between health and job stability.  Because of this guarantee, it is possible for an individual to receive a monthly benefit exceeding 100% of earnings if earnings decline after the policy is issued or upgraded.  So, if you're wondering if you would receive the same fixed (high) benefit if you later decide to take a less stressful job that also pays less, the answer is yes, and that would be to your advantage.

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Contractually, the guarantee against future loss of coverage manifests through the guaranteed renewable provision, which is often paired with a related guarantee called non-cancellable which prevents premium increases, except for what might be attributable to upgrades.  This pairing means that the carrier cannot unilaterally drop a person, reduce coverage, increase premiums, or otherwise change the terms until the guarantee period expires, which is usually to age 65 or so.  These guarantees bind the carrier, but not policyholders.  Policyholders are free to cancel or reduce coverage at any time.  

 

​The reason guaranteed renewable and non-cancellable is so valuable is that health problems and job instability tend to go hand-in-hand.  Without these guarantees a person is vulnerable to untimely loss of coverage just before it's needed. 

 

The nature of health risk as it relates to income protection is often an evolving process rather than a sudden event.  More than 90% of long term claims are illness-related, and most health problems reduce performance only gradually.  The run-up time from initial diagnosis to claim can be years, while employment is destabilized by reduced production, awkward adaptations, intermittent absences, disapproving observation by team members, and reduced hours.  The fear is that the employer will at some point say "it's just not working out for us", leading to a loss of group coverage (but not a loss of individual coverage) just as the reason for a likely future claim is coming into view.  

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The guarantee against future loss of coverage is the main advantage of individual disability insurance over group insurance.  Only through individual disability insurance is it possible to be flexible at work in the face of a health scare and remain fully in control of one's own destiny, knowing that coverage will be there if the health situation worsens to the point that a claim is justified.

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There is an exception to the general rule about no calculation being necessary with individual DI, which is when a person is taking advantage of a loss of income feature.  Loss of income benefits can come into play when a person is working, but for health reasons doesn't earn as much.  In order to prevent a dip in earnings just prior to claim from adversely affecting the benefit amount, this feature usually has multiple lookback period choices to base pre-disability earnings on, and usually one of those options will allow the prior year to be disregarded if that is favorable.  The ability to pivot to a loss of income claim is an extra feature made possible by a special kind of Partial Disability rider, which goes by various names, and usually carries an additional cost. 

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