7 Reasons Your Group Disability Benefit Might Be Less Valuable Than It Seems
Disability insurance is a critical component of a comprehensive financial safety net, providing income protection in the event of an illness or injury that prevents one from working. Group disability insurance policies are a common benefit offered by employers, particularly larger employers.
However, these policies often contain limitations and shortfalls that may not fully meet the needs of higher earners or those in upper management. Here, we explore key issues such as benefit caps, tax implications, occupation-specific coverage limitations, income covered, and portability concerns.
1) Benefit Caps
Group disability insurance is typically structured as percent of income with the most often seen benefits at 50% or 60% of income.
For example, your group disability insurance policy might say your benefit is 60% of your salary. If your salary is $100,000, the group disability insurance would pay $60,000 per year or $5,000 per month assuming you meet the definitions of disability. In this case, the policy is replacing 60% of your gross salary.
What clients often miss when discussing their benefit is if there is a benefit cap, or a limit to how much the policy will pay. Most benefit caps will be in the $5,000 per month to $10,000 per month range.
For example, assume the same example as above but the group disability policy also has a benefit cap of $6,000 per month. At a $100,000 salary, the $5,000 per month benefit would not be impacted by the cap. But if you receive a promotion and now make $150,000 per year, your coverage begins to fall as a portion of your income.
$150,000 x 60% equals $90,000 or $7,500 per month. But the policy limits the benefits to $6,000 per month so you will receive $6,000 rather than $7,500. In this case, the group policy only replaces 48% of your income ($6,000 x 12 = $72,000 / $150,000 = 48%).
$200,000 = 36% Replacement
$250,000 = 29% Replacement
$300,000 = 24% Replacement
2) Disability Insurance Tax Implications
How the premiums are taxed when they are paid can have an impact on the ultimate value of a benefit as well.
When the premiums for the group disability insurance policy are paid for with pre-tax dollars, meaning that the premium amount itself was never taxed to you as the employee, any disability payments made are considered taxable income.
In contrast, when the premiums are paid for with after-tax dollars, meaning the premium amount was taxable income to you, all disability payments received are tax-free income.
The true impact of this difference depends on your total tax picture but here is a quick example:
| Premium Paid Pre-Tax | Premium Paid After-Tax | ||
| Salary | Effective Tax Rate | After-Tax Benefit / Replacement Ratio | After-Tax Benefit / Replacement Ratio |
| $100,000 | 8% | $55,200 / 55% | $60,000 / 60% |
| $150,000 | 12% | $63,360 / 42% | $72,000 / 48% |
| $200,000 | 15% | $61,200 / 31% | $72,000 / 36% |
| $250,000 | 18% | $59,040 / 24% | $72,000 / 29% |
| $300,000 | 20% | $57,600 / 19% | $72,000 / 24% |
3) Income Covered
Group disability insurance may be written to exclude certain types of income. I have never seen a policy that excludes salary, but I have seen policies that exclude bonuses, commissions, executive benefits, and more.
It is important to read, and know what income is included in the policy to know your true benefit especially if you receive a large portion of your income not from salary.
If you typically earn $100,000 but $50,000 is salary and $50,000 is commission but commissions are excluded from income in the disability policy, a 60% disability insurance benefit would only be worth $2,500 per month rather than the $5,000 per month you are expecting. Big difference there!
4) Inflation Adjustments
Generally, group disability insurance policies do not contain inflation adjustments. If you begin collecting $6,000 per month in disability, it will remain at that amount until the benefit ends whether that’s 5 years from now or 25 years from now.
After 5 years of 3% inflation, that benefit is only worth $4,313.
After 25 years of 3% inflation, that benefit is only worth $2,388.
5) Policy Portability
Group Disability Insurance is tied to your employer. Unless you are ultimately responsible for hiring and firing, this means you could lose your disability benefits if you lose your job or resign.
However, the likelihood of a disability is not 100% dependent on your employment status; and depending on your financial situation, the need for disability coverage does not necessarily go away if you are no longer employed.
6) Occupation Provisions
Disability insurance policies contain different definitions of disability based on what work you can or cannot do. Here are the most common:
“True” Own Occupation: The most granular definition of disability, “True” Own Occupation pays a benefit if you cannot do the exact job that you are doing when you become disabled. The important characteristic of this definition is that you still may be able to work in other positions and earn significant income doing that but this policy will still pay benefits if you are able to meet that definition.
Own Occupation: Own occupation will pay benefits cannot perform your job, and you are unable to work any position. It essentially adds in the work component to the benefit requirement from “True” Own Occupation.
Any Occupation: Any occupation will pay a benefit only if you cannot work or perform duties of an occupation that you are trained, educated, or suited taking into consideration what you made prior to disability.
Social Security Disability: Social Security defines disability as a disability that is expected to last one year and prevents someone from performing Substantial Gainful Activity irrespective of previous income. In 2023, substantial gainful activity is the ability to earn income falling at least between $1,470 per month and $2,460 per month (if blind).
7) Other Income Offsets
Group disability insurance policies often contain “Other Income” provisions which can offset the paid benefit by other benefits you may receive as a result of your disability. Common examples are:
- Social Security Disability
- Workers’ Compensation
- Other Group Insurance Plans (if you work for multiple employers)
- Sick Leave or Salary Continuance Plans
- Employer-Provided Retirement Benefits like a Pension
- Government Retirement Plans like Social Security or Railroad Retirement
For example, if you have a group policy paying $6,000 per month and you begin receiving $2,000 per month from Social Security Disability, you will still be receiving $6,000 per month in total ($4,000 per month from the group disability policy and $2,000 per month from Social Security Disability) and not $8,000 per month.
What to Do about It?
It is important to know and understand your benefits as it can influence what choices you make in your coverage. The presence of any one of these provisions could leave you under-insured and have a substantial impact on your financial future.
Any decision around disability coverage should be made with the full facts at hand. What is your disability policy actually worth now and in the future? What other financial and social resources are available to you if you become disabled?
If you find you do require additional coverage, reviewing individual disability insurance policies to supplement, or replace, your group coverage is an important topic to review.