Disability insurance and the self-employed gap

Before 65, a working person is more likely to experience a disability lasting several months than to die. Households insure the second event routinely and the first one patchily, and the financial consequences of the first are arguably worse.

Why it is worse than it sounds

A death removes income and also removes a person’s expenses. A disability removes income and adds expenses — treatment, equipment, home modification, sometimes paid help. The household continues at close to full cost with a fraction of the earnings.

It also stops retirement saving at exactly the moment the plan needed it most, and often starts drawing down savings a decade or more early. The compounding effect on a retirement plan is far larger than the income lost during the disability itself.

The other terms worth reading

• The elimination period — how long before benefits start. A longer wait cuts the premium and requires savings to bridge the gap.
• The benefit period — how long payments continue. To 65 is the meaningful standard; two years is a very different product sold at a similar-sounding price.
• Whether benefits are indexed. A fixed nominal benefit across a twenty-year disability loses much of its value, for the reasons episode 38 covers.
• Whether the policy is non-cancellable — the insurer cannot change the premium or terms — or merely guaranteed renewable.

One tax detail that changes the amount needed: if you pay the premiums personally with after-tax dollars, benefits are received tax-free. If an employer pays them, benefits are taxable. The same headline coverage is worth materially different amounts depending on which applies.

Sam has no group plan behind them

Sam — 41, British Columbia, self-employed through a corporation. No employer pension, no home yet, and a company that pays them both salary and dividends.

Sam is 41, self-employed through a corporation, taking $85,000 in salary and $105,000 in total compensation. There is no employer group plan, no sick leave, and no colleague covering the work. If Sam cannot work, the business income that funds everything stops.

Their plan projects $3,560,368 by the end, built on that income continuing to 60. Nineteen more years of it is the assumption the whole projection rests on, and it is the assumption a disability removes.

An employee in the same position usually has some group long-term disability coverage, often replacing a percentage of salary to 65, taxable, with an "any occupation" definition after two years. Imperfect, and enormously better than nothing. The self-employed have to buy the equivalent deliberately or go without.

How it shows up in a projection

A disability is, in plan terms, an early and involuntary end to earning. Modelling it means stopping the income sources at a given age while leaving spending in place — the same mechanic as an unplanned early retirement, which is its own episode later in this series. Running that scenario is the clearest way to see what coverage is actually protecting.

Next: your home — an asset, and not a retirement plan.

GlidePathEngine is an educational planning tool — not financial, investment, tax, or legal advice.