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Financial Planning > Tax Planning > Tax Loss Harvesting

Broker, Beware The Definition Of Disability Trap

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Sometimes the spreadsheet doesn’t tell the whole story. That is especially true when you are comparing group disability insurance contracts.

Understanding the intricacies of a disability contract is difficult for even the most seasoned disability expert. However, learning to understand the key elements of a disability contract is critical. Nothing is worse than selling a disability contract that fails to pay a benefit that the employer, the employee and even you think the insurer should be paying. You can find yourself unable to explain what happened, consequently losing credibility with your client.

One of the key elements in a disability contract is the definition of disability.

Because decisions about who will qualify for disability benefits and who will not will depend on the definition of disability, it is imperative that you understand the differences in definition wording and how these subtle differences in wording may impact the claims outcomes.

Let’s look at the wording and effect of one standard disability definition.

A typical definition of disability has 2 parts–an occupation test and an earnings test. In most situations the claimant must meet each of these tests in order to be considered disabled and entitled to benefits.

The occupation test requires that the employee suffer a “loss of duties,” meaning that the employee must be unable to perform some occupational duties. Some contracts may require a loss of all material duties; some only require a loss of one material duty. How many material duties and the degree of the material duties that a claimant must be unable to perform are important. Not being able to perform one material duty vs. not being able to perform all material duties, all other things being equal, provides a lower threshold for establishing disability.

Another important aspect of the occupation test that should be communicated to your client is the definition of the term “occupation.” Occupation is not the same as “job.” A job is what you do for a specific employer; the term “occupation” refers to the duties as they are performed in the national economy.

For instance, an administrative assistant in Minnesota may be required to shovel snow as part of an administrative assistant job for a specific employer, but the occupation of administrative assistant as regularly performed does not require shoveling snow. Therefore, the administrative assistant in Minnesota who can perform all other administrative duties except shoveling snow would not meet the occupation test, but that administrative assistant would meet the job test.

Use of “own job” or “own specialty” provides a richer definition of disability, because it creates a less stringent test than a definition based on “own occupation.”

The other test in the definition of disability is the earnings test, sometimes referred to as the “loss of income” test. Essentially, an earnings test provision requires that the claimant must not be able to earn a specified level of income due to his or her disabling condition.

Most disability contracts require a 20% loss of earnings to meet the definition of disability. Important factors that will influence this test are: “What is the definition of earnings?” and “Does the 20% ever increase over the life of a claim?” For instance, if the required loss of income increases to 40% after some period of time, a claimant is less likely to qualify as disabled. As you can see, how these questions are answered will make a difference as to whether a claimant will qualify for benefits.

Once you have reviewed the 2 tests, it is also important to understand which of the 2 tests the claimant must satisfy to be considered disabled. Many disability plans require that the claimant meet both tests in order to qualify as disabled, but some contracts only require that the claimant meet one of the tests.

Why is that important? Think about Joe, a claimant who works as a banker for a small bank in Anytown, USA. Joe suffers a heart attack and can no longer work as a banker. The small, family owned bank makes the decision to continue to pay Joe’s salary until further notice, even though Joe has not been able to return to work.

Joe meets the occupation test but not the earnings test. Therefore, if the contract requires that he meet both tests in order to be considered disabled, his claim would be denied. If the contract only requires that he meet one of the tests because he cannot perform his occupation as a banker, his claim would be accepted.

If you were the broker who sold the employer the disability contract, chances are you would get a call from the president of the bank asking why the company denied Joe’s claim. He would be upset because you told them the policy would cover anyone who became disabled.

This scenario happens all too often. The best way to avoid this type of situation is to understand the definition of disability and the details that make a difference. That way, you will be better able to educate your clients and set expectations.

John Roberts is president of Disability RMS, Westbrook, Maine, and senior vice president at Assurant Employee Benefits, Kansas City, Mo., a unit of Assurant Inc., New York. He can be reached at [email protected].


Some points to consider when analyzing disability definitions:

==Does the “occupation test” refer to an insured’s lack of ability to perform the insured’s “own occupation” or the insured’s “own job”?

==What is the definition of “earnings” used in interpreting the income test?

==Does any minimum disability-related loss of income-generating capacity increase over the life of the claim?

==Can claimants covered by a policy continue to collect disability benefits even if generous employers start out continuing to send them paychecks?


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