What are strategies to replace income in the event of disability?
For most of us, our greatest asset is our ability to earn money. We protect our other assets (our home, our car, our life), and yet many of us never consider the importance of providing adequate income in the event of disability. It is estimated that almost one of every seven people will be disabled for at least five years before the standard retirement age of 65. It is also estimated that more people lose their homes each year because of the wage earner’s disability than because of his or her death. Fortunately, there are ways of protecting your income if you become disabled. You can earmark certain assets to be used as a substitute for a paycheck; this is often called “self-insurance.” Or you can transfer your risk to an insurance company by purchasing disability income insurance.
Earmark existing assets
In some cases, you may be unable to purchase a disability insurance income policy, or for some other reason it may make more sense not to do so. Instead, if you have adequate resources, you may be in a position to adopt a strategy of self-insurance.
Self-insurance typically involves setting aside (or “earmarking”) a portion of your existing assets to be used as a substitute for your paycheck if you ever become disabled. The amount that you earmark will vary depending on numerous factors, including your risk, your income and expenses, and the other benefits you would receive in the event of disability. You might choose certain assets to be used for this purpose, set aside a lump sum, or set up an accumulation plan.
Transfer risk to insurance company
The reason we buy insurance of any type is so that we can transfer our risk to an insurance company. Although you can never completely eliminate risk, purchasing a disability income insurance policy shifts the risk of loss of income to the insurance company. Because it is a large institution, the insurance company is in a much better position to shoulder this risk than you are as an individual. This is because the insurance company pools the risks of many individuals, the majority of whom will probably never become disabled.
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