As we discussed in our previous post on insurance, the main purpose of insurance is to protect against specific risks. While there are many risks that you can protect against, death and disability are two of the largest, both in terms of their financial impact and their emotional impact on your loved ones. Although few people enjoy talking about these topics, it’s important to understand the vital role that life and disability insurance play in protecting you and your family. In this post, we’ll explain the purpose of each type of insurance and how to go about choosing the right coverage.
Side note: We find that people like our insurance advice even better after they realize we don’t sell insurance.
Life Insurance: Protect Your Dependents
If you have people who depend on your income, life insurance is something you must have. The product pays a one-off sum of money in the event of an untimely death, and therefore ensures that people who rely on your income aren’t left stranded if that income disappears. The right amount of coverage depends on several factors, including the amount of debt you carry (mortgage, student loans, credit cards), your family’s lifestyle, and your financial goals, but a common rule of thumb is coverage in the range of 7-10x your gross income.
Once you know the amount of coverage you need, the next step is figuring out the right type of life insurance to purchase. We believe the purpose of life insurance is to protect against an unforeseen circumstance, NOT to serve as an investment, which is why we recommend term life insurance for most people. Term life insurance provides protection for a fixed amount of time (often 10-30 years) and is the cheapest, most efficient coverage. Your life insurance needs will vary over time (less is required as assets accumulate and the kids leave the house), so as your life situation changes, you can reduce coverage and save money on premiums. Term life insurance provides that flexibility.
A cautionary note on whole life insurance: This product, which is a combination of permanent life insurance coverage and an investment product, is commonly pitched to physicians. Typically, it is presented as providing a guaranteed minimum return, tax saving potential, and additional life insurance coverage. While that might sound compelling on the surface, when something sounds too good to be true, it’s worth being skeptical. In reality, whole life insurance tends to provide expensive insurance coverage and poor investment returns. It also carries surrender charges, so it takes many years (often 10 or more) just to break even on your investment. The product pays a nice commission to the person who sells it, but tends to be a poor use of money for most physicians.
Disability Insurance: Protect Your Income
As a physician, your most valuable financial asset is your income and future earning potential. Disability insurance protects against the risk that something happens to you which jeopardizes your ability to earn that income. In contrast to life insurance, disability insurance is something you should carry regardless of whether you have dependents.
Unfortunately, disability insurance tends to be expensive, so it can be tough to stomach the cost of monthly premiums. However, coverage should be obtained as early as possible. For both life and disability insurance, your age and health impact the size of the premiums you pay, and you’ll never be younger, and probably never be healthier, than you are right now. Like life insurance, you can reduce the amount of coverage as you get older, assets accumulate, and the number of people who depend on your income decline (assuming you have dependents).
When thinking about how much coverage to purchase, consider both your living expenses and the amount you must save each year for financial goals, like retirement. Keep in mind that disability insurance coverage is calculated as a percentage of your income and insurance companies place limits on how much you can have. Therefore, during residency or fellowship, you may not be able to purchase enough coverage and will likely need to increase coverage once you leave training and your income increases.
It’s also important to understand that physicians often require a unique type of disability insurance, known as own occupation, specialty-specific coverage. This type of coverage has a narrower definition of disability and pays a benefit when you are unable to execute key elements of your specific job and specialty, regardless of whether you can still perform related functions in your general field. Keep in mind that most employer-provided group disability insurance is not own occupation, specialty-specific.
After you find the right type of insurance, you’ll want to understand the available “riders,” or additional features you can add to your policy. A residual/partial disability benefit rider is worth considering since it pays a benefit if you become disabled, but are still deemed able to perform your own occupation in a reduced capacity. As a younger physician, having a cost-of-living-adjustment (COLA) rider or future purchase option is beneficial since it protects against the impact that inflation can have on living expenses or the cost of disability insurance, over longer periods of time. A good, independent agent will be able to explain the various riders and help you find the best policy for your situation.
In an ideal world, you will never need to access the benefits that life and disability insurance provide. However, in those rare situations where you do, you or loved ones will be grateful that you have coverage. When managing your finances, you can do everything right in all other areas, but if disability or premature death strike, it can be devastating to your overall financial picture. Think of life and disability insurance as providing an extra layer of security for your overall financial plan and remember to protect your dependents and your income.
About MD Wealth Management: We are an Ann Arbor financial planner that specializes in providing financial planning for physicians and retirees. We are CERTIFIED FINANCIAL PLANNER™ professionals and fiduciary financial advisors who operate on a fee-only basis, which means we do not sell financial products or collect commissions. As an Ann Arbor financial advisor, we enjoy working with clients both locally and remotely.