Have you ever considered how a long-term disability could impact your financial security? If you haven’t, you should. According to the Council for Disability Awareness, 2.3 million Americans filed Social Security disability claims in 2008. Furthermore, according to the Centers for Disease Control and Prevention, more than 25 million Americans currently live restrictively, due to the effects of a disability. Perhaps you’ve paid attention to such statistics, and are covered under a disability income plan at work. And maybe you’ve even supplemented that plan with an individual policy. Even if you’ve taken these important steps, chances are that, in the event of a disability, these policies might replace only about 60%-70% of your pre-disability earnings. This sum might cover your living expenses, but is unlikely to be sufficient to allow you to save for retirement or any other future need. Furthermore, most Disability Income policies end payouts at age 65 or your normal Social Security retirement age.
Nowadays, it is more important than ever to make regular contributions to a retirement plan or IRA. Sadly, the days of widespread coverage under a traditional pension plan, funded by an employer and paying a guaranteed income for life, are gone. Although some individuals are still covered under a traditional pension plan, one is more likely to participate in a defined contribution plan, such as a profit sharing or 401(k) plan. These plans typically rely heavily on employee contributions in order to build up a sizable account balance.
It is wise to consider the possibility of becoming disabled during retirement, and to plan ahead for this scenario. Failing to make retirement plan contributions can have a dramatic impact on the accumulated nest egg at retirement age. For instance, an individual who, at age 40, begins to contribute $500 each month to a retirement plan will have built a nest egg of almost $350,000 at age 65 (assuming a return of 6% and not taking taxes or inflation into account). What if that individual becomes disabled at age 55 and cannot afford to continue to make contributions for the remaining 10 years until retirement? Even if the plan balance remains untouched until age 65, their retirement nest egg will be significantly smaller: Only a little more than $260,000. The difference is even more dramatic at higher contribution levels. Even a year or two of missed contributions can reduce the nest egg, especially if they occur early in one’s career.
Some insurance carriers have developed products specifically designed to provide retirement plan contributions. Known under various product names (depending on the carrier), such retirement income protection plans are not pension plans. They are Disability policies that pay, as the benefit, an amount that approximates what the disabled insured would have contributed to a 401(k), profit-sharing, or other type of retirement plan, had he or she been able to work. The idea of such policies is to provide the insured with the retirement income that would have been expected if the disability had not occurred.
The benefit is generally based on the average contribution the insured had been making to a retirement plan, up to a maximum as set by the policy (usually based on the retirement plan contribution limits set by federal law). The benefit also may include an amount for any contribution the employer normally would make. The benefit is deposited into a trust product at a financial institution. Investment decisions typically are made by the insured. At retirement age, the accumulated assets are distributed to the insured to supplement whatever is received from their original retirement plan.
Policy specifics will vary from carrier to carrier. Riders might be available that adjust the benefit amount for inflation or for income increases that would have been expected, if not for the disability. As with any disability product, the prospective insured should pay close attention to how disability is defined, for example, whether benefits eligibility is determined by the inability to work in the insured’s regular occupation, or any occupation.
The nest egg we build for retirement comes as a result of hard work and discipline. It makes sense to protect that nest egg, just as we protect other important assets, such as our lives and homes. Retirement income protection recognizes the importance of saving for retirement, and gives insureds the security of knowing they’ll be able to continue to do so, even if faced with a disability.
