Life and disability insurance are two of the most important types of policies that high income and high net worth individuals can purchase, but many struggle to understand how much insurance they need, and what their primary considerations should be when reviewing policy options.
As a result, high net worth families are frequently under-or over-insured. How do you determine how much insurance to purchase and when? If you have policies offered through an employer, is that sufficient to cover your needs? In this article we will provide some insights and guidance for reviewing life and disability insurance policies, and determining your coverage needs.
Many individuals are offered life insurance through an employer, however, these policies are generally capped at a relatively low amount, and are not typically portable when you terminate employment. For many high income and high net worth individuals, supplemental policies are often necessary to fully protect your family and assets.
The most important question to ask when considering individual life insurance policies is, “What is the objective of the policy?” Life insurance can serve multiple functions in the event of your death, and even during your lifetime. Examples of some of the most common uses for life insurance are:
- Providing income replacement for your family in the event of premature death
- Paying off debts in the event of premature death
- Bequests to heirs
- Removing assets from your estate
Your goal in purchasing life insurance will help determine the type of policy you need, as well as the face amount. For example, if you have a high income, a non-working spouse and small children, your main concern may be income replacement until your children are grown. In that case, you may find a term policy covering the time period until your children are grown to be most beneficial. If you have a high net worth and want to earmark funds to pay any potential estate fees and taxes, or earmark funds for your children’s inheritance, you may find a permanent policy to be the best option. A permanent policy owned by a third party may be the best option if the goal is to remove assets from your estate.
Contrary to life insurance, which can have multiple uses, disability insurance is intended to provide income replacement in the event of temporary or permanent disability. Many individuals are offered some type of group disability insurance through their employers, however, since most group disability policies cover no more than 60% of your income during a time of disability, this may not be sufficient to cover your needs, and the policy is not typically portable if you terminate employment. To determine the level of income replacement you would need if you were to become disabled, begin by reviewing your expenses and savings, along with any income sources outside of your own, such as a spouse’s income. With that information, you can formulate a plan to reduce expenses where possible during a period of disability, and decide how much of your savings you are able and willing to use, if any. The gap between your expense needs and lost income will give you an idea of how much you would need to receive from disability benefits in order to maintain your lifestyle. It is also important to take into account the cost of any care that may be needed during the period of disability.
When researching disability insurance policies, there are multiple factors to consider, including:
Definition of Disability—Many policies use the “any occupation” definition, meaning that in order to meet the definition of total disability, you would need to be unable to perform the functions of any job for which you are considered to be reasonably qualified. Some policies provide for an “own occupation” definition, meaning that you would be considered to be totally disabled if you are unable to perform the functions of your current occupation.
Benefit Amount—The amount you would receive in monthly benefits for total disability.
Elimination Period—This is the amount of time in between becoming disabled and beginning to receive benefits. This is essentially a waiting period, and typically is 90 days, but may be less or more depending on the policy.
Benefit Period—The amount of time benefits will be paid.
Partial Disability Benefits—Some policies may pay you 50% (or less) of your total benefit amount if you are still able to perform some functions of your occupation. The benefit period in this case is usually substantially shorter than it would be for total disability, typically 6 – 12 months.
Residual Disability Benefits—Some policies will pay a residual benefit if you are able to work part-time. The amount of the benefit is dependent upon the percentage of lost income, but generally the loss must be 20% or more before residual benefits will begin to pay. This differs from partial disability benefits as it takes into account loss of income, whereas partial disability coverage does not. Depending on the policy, a period of total disability may be a prerequisite to receiving residual benefits.
Recurrent Disability Provisions—This provision allows for a waiver of the elimination period if you experience disability from the same or a related cause within six months of returning to work following a period of total disability.
Cost of Living Adjustment Rider—Policies may offer a rider in which your benefit amount will increase with inflation during the claim period. Increases are generally done on an annual basis, beginning after you have been disabled for 12 months.
Future Purchase Option Rider—This rider provides you with the option to purchase additional coverage as your income increases, without further medical underwriting. Policy premiums will increase as coverage amounts increase. This rider is particularly important for those occupations where salaries are expected to increase significantly over time.
Choosing a Policy
Determining your needs and choosing the right life or disability insurance policy can be a time consuming and confusing process. Working with a professional to make these determinations is imperative.
Your Freestone Client Advisor can conduct a review of your current policies, and assist you in determining the appropriate amount of coverage based on your personal situation, while also coordinating with your employer benefits.
As investment professionals, we are in a unique position to look at insurance needs objectively, as part of reviewing your full financial profile. By running a financial planning analysis, your Freestone Client Advisor can help you determine the lump sum value that would be needed to cover your liabilities and replace the income you would have earned over a specified time period. We can also run estate planning analyses and other complex scenarios to ensure you are adequately insured based on your goals and needs, without being over-insured. By working with a variety of providers, we can compare quotes, make recommendations, and monitor your personal financial plan to ensure your insurance coverage remains appropriate for your needs.
Important Disclosures: Nothing in this document is intended to provide, and you should not rely upon it for, accounting, legal, tax, healthcare or investment advice or recommendations. We are not making any specific recommendations regarding any investment or insurance policies, and you should not make any investment or purchase of insurance policy decisions based on the information in this document. The intention of this document is educational and it is intended only to discuss limited aspects of insurance policies in general terms. This document is not a comprehensive or complete summary of considerations regarding insurance policies. Each individual is in a different situation and has different items to address, and the options in this document are not appropriate for everyone. Please consult your Freestone client advisor regarding options specific to your needs.