When making benefit elections, the rule of thumb is have as many things taken out pre-tax as possible. Health insurance, 401(k), flex spending accounts, etc.
But when it comes to disability insurance, you may want to pay this after tax.
Why? Pre tax saves money!
If you’re in the 25% tax bracket, that $10 per month cost for disability insurance only costs you $7.50 ($2.50 in tax savings).
But let’s see what happens if you do get disabled…
- Assume that you make $10,000 gross income per month.
- Further assume that your disability policy pays 70% of your monthly income.
- Therefore, your monthly income while disabled is $7,000/mo (assuming no benefit cap on the disability policy).
But wait… Because the premiums were paid on a pre-tax basis, the monthly benefit of 70% is taxable!
- Assuming a tax rate of 25%, taxes on the $7,000 per month would be $1,750.
- Net benefit to you after tax is $5,250. Or just over half what you were used to earning.
Here, 70% really meant 52.5%.
Saving that $2.50 a month in taxes on the disability premium only cost you $1,750 a month – or 700 times more!
And this example is if you have disability insurance. What would happen if you didn’t?
So what does this all mean?
Well, check to see if your employer offers disability insurance. If so, know what the terms are if you become disabled. You might need to get some more.
If your employer doesn’t offer disability insurance as a benefit, make sure you get covered!
What are your chances of being disabled? Check your PDQ – Personal Disability Quotient - here: http://www.whatsmypdq.org/
This site also has links to other useful information and calculators.
Answer to the last trivia question: D – Medical expenses. And in the Harvard study, most people who filed for bankruptcy had medical insurance! Remember, the insurance may not cover everything plus if you or a family member is sick, taking time out of work reduces your income. So it’s a double whammy!
No new trivia question this week. Instead, thank you to those who serve our country – past and present. Happy Memorial Day!
