This type of disability insurance can make sure you're still contributing to your retirement account even if you're too disabled to earn an income.
If you become disabled and lose your ability to work, your disability insurance policy will pay you monthly benefits until you recover or your benefit period ends. But disability insurance only protects your income. If you need to protect your ability to make contributions to a retirement account, you may want to look into a special type of disability insurance for those contributions.
When you become disabled, retirement contributions disability insurance begins making benefit payments to a trust fund in the same way you’d contribute to an individual retirement account or 401(k) while earning an income. These benefits are invested and gain interest over time. At the end of the benefit period, which is at or around retirement age, you receive the money.
While retirement protection policies can help you prepare for retirement, they’re not for everyone. You most likely won’t benefit from such a policy if you haven’t purchased maximum coverage from your traditional disability insurance. And because most people don’t earn enough money to need the maximum benefit amount, they won’t be at the point when they need additional protection for their retirement contributions, either.
Each insurer has its own name for a disability insurance product that protects your retirement account contributions, including disability insurance retirement security and retirement savings protection, although they largely mean the same thing.
If your insurer offers such coverage, it may as a separate policy or as a rider to the disability insurance policy you already have. Some insurers also offer both options.
Retirement contributions protection disability insurance works the same way as income protection disability insurance. When you become disabled, the insurer makes payments on your behalf. With income protection disability insurance, the payments go directly to you, and you can spend them as you see fit.
But with disability insurance for retirement account contributions, the money goes into a trust account that you can’t access until you retire.
The benefits paid to the trust are invested, and they can be used as an annuity or a mutual fund. You can choose how the money is invested based on your own preference for risk, just like how you contribute to an individual retirement account.
The benefit period for disability insurance retirement protection lasts until either age 65 or 67, depending on the insurer, meaning that the insurer will pay benefits from time you become eligible until you hit either of those ages. Unlike traditional disability insurance, you don’t have a wide range of options for choosing a benefit period.
Payments to the trust will also end if you recover from your disability and can continue making contributions to your retirement account as normal.
If you receive retirement account contributions protection through a rider attached to your disability insurance policy, its benefit period will occasionally be different from that associated with the main disability insurance coverage.
As with traditional disability insurance, disability insurance for retirement contributions also has an elimination period, which is the time you have to wait after becoming disabled before benefit payments begin. Typical elimination periods are either six months or one year.
The amount of coverage you purchase is roughly equivalent to the IRS’s maximum contribution limits for individual retirement accounts. (As of 2019, you’ll be able make a maximum contribution of $6,000 to an IRA.) Some insurers charge a flat fee of around $50 for administering the trust, which will reduce the benefit amount.
Income protection disability insurance benefits are not taxed if you paid the premiums with your after-tax dollars. The same is true for benefits made to a trust through your disability insurance retirement protection. However, you will pay taxes on benefits if you paid your premiums with pretax income (or if your employer paid the premiums), and you’ll also pay taxes on your investment earnings.
Like income protection disability insurance, retirement contributions disability insurance policies can be enhanced with riders that offer discounts or additional benefits. Although each insurer offers different riders for different policies, some common riders you can purchase include:
The cost-of-living-adjustment rider, which increases your benefit amount to account for changes in the cost of living.
The limitation for mental/nervous and substance abuse disorder rider, which may give you a discount on your premiums if you agree to a shorter benefit period for disabilities caused by mental illness.
The future increase option rider, which can increase your benefit amount when you’re earning more income.
You need to be between the ages of 18 and 60 in order to purchase retirement contributions disability insurance, although premiums will be much lower if you purchase when you’re young and healthy. Insurers may also require you to be earning above a certain income level before you’re eligible.
Although insurers set a maximum benefit amount for income protection disability insurance, that maximum is usually around $20,000 per month. Because your disability insurance should replace 60% of your pretax income, you would have to be earning an income of $32,500 per month, or $390,000 per year, for you to qualify for the maximum benefit amount.
But if you’re able to purchase more disability insurance coverage, rather than additional disability insurance coverage, then you may not benefit from retirement contributions protection. This can happen if you’re not a high earner, or if you purchased less coverage than you needed.
If you have maximized your income protection disability insurance, then you will benefit from purchasing retirement account contributions protection. A licensed representative at Policygenius can help you navigate the world of disability insurance until you find a policy that fits your income and insurance needs.
Zack Sigel is a SEO managing editor at Policygenius. He covers personal finance, comprising mortgages, investing, deposit accounts, and more. His previous work included writing about film and music.