We recently learned a client had been diagnosed with aggressive prostate cancer that has since spread into his bones and other organs. Immediately life was put in perspective for his family. When we met for an update at their home, this client’s primary concern was about his personal disability insurance. He wanted to make sure his family would be okay if he was unable to work for an extended period of time. The doctor has been the sole breadwinner for his family for a number of years, but they are not yet at a point where they are financially independent without insurance.
We quickly reminded the family that they had well-structured disability insurance in place (three policies working together), and that they would be just fine financially no matter the direction this cancer took. This client had set out a clear mandate years earlier when he told us, “My objective is to take care of my family whether I live too long, die too early, or get disabled along the journey.” His courageous outlook, in spite of this traumatic experience, is inspiring–but it also emphasizes the need for every doctor to make sure his or her disability insurance is well thought out.
When it comes to designing a doctor disability insurance program, three important issues work together in determining your best outcome:
- How much net income you desire.
- The strength of the insurance coverage available.
- How to best coordinate individual insurance benefits with group benefits.
Income Protection Desired–After Taxes
Determining the correct amount of net monthly income you desire is the most important factor when evaluating your disability insurance needs. We highlight net because disability benefits are either paid out income-taxable or income tax-free, depending respectively on whether 1) you or your practice took a tax deduction for the premiums paid or 2) if the premiums were not deducted.
Most physicians receive some basic coverage from the practice, group, university, or hospital with whom they are affiliated. This is often equivalent to a percentage of pay (for example 60%) up to a maximum cap–anywhere from $2,500 to $25,000+ per month, depending on the employer.
Physicians should complement their group disability coverage with individually owned disability insurance coverage. The question becomes, “How much additional coverage is appropriate?” The answer is found in the following formula:
Physician Disability Insurance
The proper amount of coverage is important–but equally important is the strength of the coverage. To simplify this issue, we divide policies into three tiers of available coverage.
Tier 1 “Any Occupation” Coverage
Tier 1 coverage is the weakest form of disability insurance. A Tier 1 plan states that if you can work in any profession, you are no longer disabled. Even though you can no longer work as a physician, if you can answer the telephone, you are no longer disabled because you could work as a receptionist at your office. Many group disability insurance policies provided by a university or hospital start as Tier 2 or Tier 3 coverage, and quickly turn into Tier 1 coverage after two years of disability. As faulty as this coverage is, it is much more prevalent than many physicians and practice managers realize.
Tier 2 “Specialty Specific–Not Working” Coverage
Tier 2 coverage is anecdotally the most common for physicians, but we usually cringe when we encounter specialty physicians who own it. Tier 2 coverage pays a benefit if you cannot work in your specialty, provided that you are also not working in any other capacity. In other words, if you cannot perform surgery, but you can still conduct office visits–and want to continue doing so to maintain your partnership status in the practice– you would no longer be considered disabled. The same would be true if you wanted to teach or move into hospital administration.
Tier 3 “Specialty Specific” Coverage
Tier 3 coverage is what the specialized physician should own whenever possible. Tier 3 coverage has a simple definition that says you are disabled if you cannot perform your specialty. Period! If you cannot perform the duties of your specialty, you are disabled, and should receive full benefits. It does not matter if you work elsewhere, teach, conduct office visits, or move into administration. If you can no longer perform your specialty, you are disabled. The good news is that a properly structured Tier 3 plan frequently has the same cost, or often less, than a Tier 2 plan. (23)
The above details lead to the conclusion that it is very important to make sure you understand which Tier your individual and group disability insurance policy falls into in order to ensure that you have not accidentally acquired Tier 2 coverage.
One of the biggest problems we encounter is that some insurance agents actually masquerade their Tier 2 coverage as Tier 3 coverage. We have an email on file that was forwarded to us from a physician. His insurance agent, from a popular mutual insurance company, was boldly misleading his client about this issue. He was “assuring” the client that his disability coverage was better than anything else on the market, when it was clearly Tier 2 coverage instead of the stronger Tier 3 coverage.
The worst part was that the agent apparently did not even understand the contract for the coverage he was selling, because he misused several terms and described things inaccurately to his client. We put the physician in direct contact with the underwriters from the insurance companies so that he could ask his specific questions. After doing so, the physician immediately opted for the stronger Tier 3 coverage instead of the weaker Tier 2 coverage. It also happened to be less expensive.
Properly Combining Coverage
One final issue, important to many higher-income specialists, is how to properly combine multiple disability insurance policies. For higher income specialties, three policies are often at play that must work hand-in-hand to be structured as efficiently as possible:
- Your “base” individually owned policy
- Your “secondary” individually owned policy
- Your group policy from your practice/employer
The finer details of how to properly combine these three policies are beyond the scope of this article. However, at a basic level, it is important to know that whenever possible, it is essential to put your individual policies (base and secondary) in place before you join your group or take on your group coverage because group coverage counts against you when determining the amount of coverage for which you are eligible. Conversely, individual coverage does not usually count against you when determining the amount of group coverage available.
The good news from a cost standpoint is that disability insurance is a temporary solution. Once your assets are sufficient and can provide for your family on their own merit, disability insurance is among the first a physician can afford to reduce or cancel. Think of it this way, when you are young, your debts are high, and your assets are low, so your need for coverage is likely to be the greatest. As you reduce debt and acquire assets, your need for coverage should continue to decrease.
(23) Martin, CFP®, Thomas S. Life’s Toughest Battles. St. Louis, MO: Larson Financial Group, LLC, 2008.
Larson Financial Group, LLC, Larson Financial Securities, LLC and their representatives do not provide tax advice or services. Please consult the appropriate professional regarding your tax planning needs.