Previously, Part I of Financial Considerations When Facing a Disability explored various tools to consider when protecting yourself from the possibility of disability, such as disability insurance. Having disability protection is crucial, and resources such as disability insurance and Social Security disability can be invaluable. However, even with insurance in place, facing a disability can still be financially overwhelming. Part II will explore additional financial items to consider, as well as unique resources available to individuals in the event of disability.
1. Understand the Definition of Disability
When facing a disability, it is important to know that different entities define disability in different ways. For example, Social Security defines disability strictly as the “inability to engage in any substantial gainful activity by reason of any medically determinable physical or mental impairment which can be expected to result in death or which has lasted or can be expected to last for a continuous period of not less than 12 months.” On the contrary, an individual’s group or private disability policy may define disability differently and because of this, it is important to understand that qualifying for group or private long-term disability benefits does not automatically qualify you for Social Security disability benefits. Varying definitions of disability apply not only to disability policies, thus it’s important to understand the eligibility requirements for all financial resources being considered.
2. Distribute Monies from Savings & Investments, Optimally
Having a disability can significantly impact an individual’s or family’s cash flow. As a result, one may look at savings and investments as a way to supplement reduced income levels. This makes sense; however, care should be taken as identifying the appropriate accounts to withdraw monies from is critical. Different types of accounts are taxed in different ways. Brokerage accounts are taxable at capital gains rates, which are lower than ordinary income tax rates for positions held greater than one year. Traditional 401(k) and IRAs are tax-deferred and ordinary income taxes are due when the monies are withdrawn. On the contrary, qualified distributions and principal from Roth accounts are tax-free. Additionally, annuities and life insurance cash values can be resources, the taxability depending on the type of product, account, and method of distribution. Determining the optimal way to withdraw funds from various accounts can be overwhelming, and the dilemma is further compounded by significant health changes associated with disability. Ultimately, the optimal strategy is unique to each individual financial situation and should be discussed with a qualified professional.
Additionally, it is important to know that taking monies from retirement accounts before age 59.5 may come with a significant 10% penalty, in addition to any taxes owed. Thankfully, the IRS provides an exemption to the 10% penalty for cases of total and permanent disability.
3. Reevaluate your Investment Allocation
Taking distributions from your savings and investments earlier than anticipated, because of a disability, may also bring to question whether or not your existing investment allocation is still appropriate for your current situation. For example, an aggressive mix of volatile stocks may have been an appropriate choice for a targeted retirement decades down the road. However, when faced with a disability and an immediate need for funds, an aggressive allocation becomes questionable and should be reviewed further. Additionally, it may be appropriate to hold an acceptable amount in cash to support any recurring cash needs, and to avoid having to sell investments during periods of market volatility.
4. Life Insurance Death Benefit as a Resource
What if a disability is anticipated to result in death? It is a question that most of us would prefer to avoid. However, setting expectations could potentially open the door to additional resources such as different settlement options for life insurance. It is not uncommon to see a life insurance policy offer an accelerated death benefit as a settlement option. However it is an option that may not be advertised. What is an accelerated death benefit? An accelerated death benefit works much like it sounds, it accelerates the timing of the death benefit to be paid while the individual is living, assuming a terminal diagnosis. Often, the policy will pay only a portion of the death benefit and leave a residual benefit to be paid to the named beneficiary at death. The accelerated lump sum benefit could be a financial lifeline if cash needs are great. Additionally, there are other life insurance death benefit settlement options available such as life settlements or even viatical settlements. These settlement options vary and should be discussed with a knowledgeable advisor.
5. Student Loans? Check Eligibility for Total & Permanent Disability Discharge
If disabled and faced with federal student loans, you may be eligible to qualify for a total and permanent disability discharge (TPD). If eligible, the discharge can relieve you from having to repay the student loans. This resource became even more attractive with the recent federal tax law changes. Any TPD discharge of loans during the period of January 1, 2018 until December 31, 2025 will not be considered income for federal tax purposes. Note: TPD discharges may still be considered income for state tax purposes, so proper state tax guidance with a tax professional is recommended.
In closing, access to potentially unknown financial resources can provide flexibility, control, and peace of mind during a catastrophic health crisis. The above items are some of the resources available to individuals facing a disability, over-and-above disability insurance and/or Social Security disability insurance. Often these resources go missed or unused, largely due to the lack of knowledge of their availability. Every individual’s situation is unique and it’s important to consider individual goals and situations when considering appropriate disability resources. Careful review of strategies should be undertaken with a trusted financial advisor, tax professional, and attorney.
All information herein has been prepared solely for informational purposes only and opinions are subject to change. Past performance is not indicative of future results and all investments involve the risk of loss of principle. For information on how these general principles apply to your situation, consult an investment professional.