Working for yourself has many perks, but access to group disability insurance is not one of them. But that does not mean self-employed workers need disability insurance any less than traditional employees.
Ask yourself: How would you support your family if a disability prevents you from working for several months? If you are severely injured or seriously ill, disability insurance for self employed workers may prove a lifesaver.
It can step in to help you cover your expenses and keep your business afloat while you recover.
What Self-Employed Workers Need to Know About Long-Term Disability Insurance
Disability insurance policies are either short-term or long-term. Short-term disability insurance covers temporary loss of income due to illness or injury. Most of these policies issue benefits for up to six months. Long-term disability insurance, in contrast, provides a steady income stream for longer periods of time, for example, two, five or ten years, or until retirement.
Long-term disability insurance offers more robust income protection compared to short-term disability insurance because the replacement income lasts longer and costs might be similar. That is why it should be a part of every working professional’s financial plan.
Long-term disability plans replace a part of your income before the disability — typically anywhere from 60% to 80% of your gross income. Since the insurer deposits the money directly into your bank account, you are free to use the funds however you like.
Long-term disability insurance covers all medical conditions that prevent you from working for longer periods of time. The specific details of what qualifies as total disability will vary depending on your insurance provider.
Some people think long-term disability makes sense only for people with risky jobs, but nothing can be farther from the truth. Research shows 9 out of 10 disabilities are due to illness rather than accidents.
Here are some of the common medical conditions that qualify for long-term disability benefits:
- Multiple Sclerosis
- Chronic Fatigue Syndrome
- Bipolar Disorder
- Crohn’s Disease
- Degenerative Disc Disease
Can I get Disability Insurance if I am self-employed?
Of course you can. Being self-employed does not necessarily make qualifying for disability insurance more difficult. Also, the process for purchasing an individual disability insurance plan for self-employed workers is the same as for employees.
The insurer will base coverage decisions on these things:
- your age, gender, and health
- your annual income
- the industry in which you work.
If you are a business owner, the insurance carrier will also take into account your company’s annual income and total number of employees.
How do insurance providers assess your income?
The coverage amount and the cost of insurance depend in part on your yearly income. The insurer uses a process called financial underwriting to determine the maximum amount of coverage it can offer you. This is largely done to ensure your disability benefits are appropriate for your current living standard.
An underwriter will look at your net worth, gross annual income, and unearned income when you apply. The underwriter will determine your income on the basis of the individual tax returns that you submit with the insurance application. If you have ever filed for bankruptcy, that will also be considered.
How do insurers determine business income?
If you partially or fully own a business, the insurer will calculate your annual income based on the following:
- your company’s legal structure
- the percentage of the business owned by you
- how much your business makes in a year
- your annual salary
- your annual bonus and commission.
Disability insurance for contract workers and freelancers
In most cases, independent contractors and freelancers neither own a business nor are a legal employee of a company. These include freelance journalists, freelance writers, personal trainers, artists, freelance website developers, and rideshare drivers. Disability insurance, however, is just as important for them as for a salaried employee or a business owner. In the event of disability, the benefits can help them cover expenses and live comfortably.
Freelance and contract workers can qualify for disability insurance as long as they can submit proof of two to three years of freelance income. The process of financial underwriting for these workers is similar to the one for business owners. Insurance companies will review your last two or three years’ income tax returns to calculate your average annual income. Based on your average annual income, they will decide how much coverage to offer you.
How does it work?
Disability insurance for self-employed workers works pretty much the same way for salaried professionals. If you become ill or are injured and meet your policy’s definition of total disability, you will receive monthly payments for a pre-defined period.
Before you sign up for a disability plan, take some time to read how it defines total disability and other terms to ensure your coverage is exactly what you need.
The Definition of Disability
Disability insurance policies define total disability as own-occupation or any-occupation. If your policy follows the own-occupation definition, your benefits will be paid if a disability prevents you from performing the main tasks of your chosen profession, even though you are able to work in another profession. For example, a serious hand injury will prevent a surgeon from performing surgeries, but he or she could still work as a lecturer or a medical administrator.
The any-occupation definition, in contrast, is more restrictive. You are eligible for the replacement income only if your disability is so severe as to prevent you from engaging in any occupation for which you are reasonably qualified, based on your education, work experience, and expertise. Whether you take up another job after being disabled is not the deciding factor for receiving benefits. If the insurer judges you fit enough to work in another capacity, it will not issue the monthly payments. Continuing with the above example, a hand injury will not qualify the surgeon for benefits if his or her policy defines total disability as any-occupation.
Long-term disability insurance plans include a waiting or elimination period. The waiting period is the amount of time you must wait before benefits commence when you become disabled. Most policies have a waiting period of 90 to 120 days, although it can be anywhere between 30 days to two years.
Because disability benefits are not issued immediately, it is important to have a sizeable emergency fund. This money can help you maintain financial stability until you start receiving the replacement income.
This refers to the amount of money the insurer will pay you each month if you become disabled. Disability benefits are proportional to your gross salary and typically replace 60% to 80% of it. For example, if you make $400,000 a year, the maximum yearly cash benefit you may be approved for is $320,000, which roughly comes to $26,666 a month.
The benefit period or the payout period is the length of time you will receive the replacement income. The benefit period varies among insurers and can be as short as two years or as long as until the retirement age.
Some disability insurance policies come with a promise that the insurer will neither cancel coverage nor increase the premium rate. These policies, called non-cancellable and guaranteed renewable, offer the maximum peace of mind.
But if you do not have a consistent income, you may not qualify for such a policy. In that case you can opt for the second-best option: guaranteed renewable. The insurance carriers guarantee it will not cancel your policy, although your premium rate can go up if the insurer receives more-than-expected number of claims in your category.
Riders are optional provisions that provide added flexibility or benefits, usually for a small fee.
Some of the most common add-ons available with disability insurance include:
Future increase option
The future increase option allows you to purchase additional disability insurance at future dates without having to go through any underwriting. If you have this rider, you can easily ensure your coverage keeps pace with your growing income.
Partial disability benefit riders
Partial disability benefit riders can come in handy if you are able to perform some, but not all, of the duties of your job due to disability. There are two main types of partial disability benefit riders: basic partial disability rider and enhanced partial disability rider. Both work in pretty much the same way, but the enhanced rider has a lower threshold for loss of income.
The basic partial disability rider pays benefits if you suffer at least a 20% loss of income in your occupation due to disability. By contrast, an enhanced partial disability rider allows you to collect disability benefits with a 15% loss of income.
Cost of living adjustment (COLA) rider
The COLA rider increases the monthly benefit by a fixed percentage—usually anywhere between 3% and 6% — to match annual inflation. Keep in mind that the replacement income increases only after you start collecting benefits.
Return of premium rider
If you add the return of premium rider to your policy, you will receive part of the paid premiums when you cancel coverage, provided no claim was ever filed.
How much does Disability Insurance cost?
Your disability insurance premium rate depends on many factors. These include:
What you do for living strongly affects your premium rate. The risk of injury is higher in some jobs than others, so a construction worker will receive higher premiums than a copywriter.
When you apply for a disability insurance policy, the insurer assigns you one of the five occupation classes — 4A, 3A, 2A, A, B. The risk of disability — and consequently, the premiums — increases from 4A to B.
The best occupation class (4A) is typically reserved for professionals, senior executives, medical specialists, etc. In contrast, the B class rating usually goes to workers with extremely physically-demanding jobs, such as construction laborers.
When assigning you an appropriate occupation class, the insurer considers your job duties, employment history, and occupation claim history rather than just the job title. Some jobs are easy to classify. For instance, assigning a suitable occupation class to doctors, lawyers, copywriters, and stonemasons is straightforward. But in some situations, things are not easily distinguishable. Assigning the right class to a small-business owner who often wears various hats — payroll, production, manual tasks, and more — may require more effort on the part of the underwriter.
Keep in mind that your original occupation class may qualify for an upgrade later, if certain conditions are met. For instance, if you initially received a 2A occupation class rating, the insurer may upgrade you to 3A after a few years, provided you meet the income threshold for this class. The upgraded class will reduce your premiums, so do follow up with the insurer if your initial rating is low.
Disability insurance usually replaces 60% to 80% of your pre-disability income. That means someone earning a six-figure salary will be approved for a bigger payout — and as such will pay a higher monthly premium — than someone on a lower salary.
The risk of disability increases with age. Therefore, younger applicants receive better rates than older ones.
Certain illnesses may increase your risk of disability. If you have a serious underlying condition, the insurer may ask you to pay more for coverage or approve you with a pre-existing exclusion clause. That means the insurance carrier will not cover any disability caused by the pre-existing condition.
Did you know that women have a higher risk of disability than men? For this reason, women pay anywhere between 25% and 75% more for disability coverage. This is the opposite of life insurance, where men receive higher rates.
Waiting and Benefit Periods
The longer the waiting period, the lower the monthly premiums. With the benefit period, it is just the opposite. Policies with longer benefit periods cost more, other things being equal.
Riders help you tailor the disability coverage according to your needs. But each rider you add also increases the cost by a little.
Policies that define total disability as own-occupation are more expensive than comparable any-occupation plans.
Business overhead expense insurance
If you own a business or run a professional practice, it might be worthwhile to consider business overhead expense insurance in addition to an individual disability insurance plan.
Business overhead expenses will not stop if you lose the ability to work. For this reason, self-employed workers should also consider business overhead expense insurance. It covers expenses such as:
- employee salaries
- property taxes
- property taxes
- interest on a business loan, if you have taken one.
The waiting period for these policies is usually smaller than for individual disability insurance plans. They also tend to have shorter payout periods, usually not more than 24 months.
Business overhead expense insurance may be a good option for professionals who run a practice whose revenues depend solely on their ability to work. These include physicians, dentists, accountants, engineers, and lawyers.
Is Disability Insurance worth it for self-employed workers?
Disability insurance is recommended for anyone who earns a paycheck. For those who are self-employed, it is absolutely necessary.
Being your own boss has many advantages, but you miss out on essential benefits, including group disability coverage, available to many traditional employees. An individual disability insurance plan and a business overhead expense insurance policy can help you protect your business and maintain financial independence throughout your life.
Disability insurance for self-employed workers can help you protect your family and keep your business afloat in the event of disability. It replaces part of your pre-disability income to help you offset the negative financial impact of a serious injury or illness. Get in touch with a Dundas Life expert to understand your disability coverage needs and find out the right policy at an affordable price.
Frequently Asked Questions
What are the costs of disability insurance for self-employed workers?
How much disability insurance will cost you depends on many factors, such as your income, waiting period, benefits period, and the definition of disability. Disability insurance premiums also vary based on the applicant’s age, health, gender, and smoking status.
Disability insurance plans typically define total disability as own-occupation or any-occupation. Because the own-occupation defines disability more broadly, these policies cost more. You will also pay a higher premium rate if you opt for a shorter waiting period, for example 30 days instead of 120 days, or a longer payment period, for example 10 years instead of two years.
What is the difference between short-term and long-term disability insurance?
Short-term disability insurance covers you for a short period — a few weeks or months — following an injury or illness that keeps you out of work. These policies have either no waiting period or a short waiting period, up to 1 or 2 weeks. Long-term disability insurance, on the other hand, provides income replacement if a disability prevents you from working for an extended period of time. These policies have a longer waiting period, usually 30 to 120 days, but it can be as long as two years. The benefit period is also much longer, with some policies paying benefits up to age 65.
Why self-employed workers should consider long-term disability insurance
For self-employed workers disability insurance is a must-have. It protects your income and your business if you are unable to work. Without it, the financial impact of an unexpected illness or injury can sink your business.