Do you know that there is a limit to how much you can receive under disability policies?
As a rule, one cannot expect to receive more after-tax income in disability than you would in active employment, as this would disincentivise one from returning to work.
You could be over-insured for disability by having several policies with the same insurer or several policies via different insurers. Since 2015, legislation was amended such that all monthly disability income benefits are paid out tax-free, which has further exacerbated the possibility of being over-insured.
However, a much-overlooked source of over-insurance arises unwittingly from an employer group disability policy, especially if the group policy is introduced after you join the company and you already have a personal policy in place.
If you have multiple disability policies, including a group policy via your employer, it is advisable to seek professional guidance to assist you in determining if you are over-insured and what steps you should take to remove or minimise the over-insurance.
An insurance industry body called The Association of Saving and Investments in SA (ASISA) provides guidelines about what types disability policies are grouped together in calculating over-insurance, the method used to quantify the over-insurance and what steps could be taken by each insurer to limit the claim payment, so that the total claim amount from all sources does not exceed one’s after-tax income.
This is commonly known as the aggregation principle.
Suppose your after-tax income is R60 000 per month. You have disability cover through your company policy of R50 000 per month. You also have a personal policy for disability for R40 000 per month. The cover is provided by different insurers A and B respectively.
Firstly, due to the aggregation principle, you will not receive a total benefit of R90 000 per month as you might expect.
Each insurer, depending on their agreement and rules, will reduce their benefits so that in total the benefit does not exceed your after-tax income of R60 000 per month.
For example, the insurers could agree to a proportional reduction, in which case:
Insurer A will pay a maximum of (R50 000/R90 000) times R60 000 = R33 333.33 pm and
Insurer B will pay a maximum of (R40 000/R90 000) times R60 000 = R26 666.67 pm
In total you will receive R60 000 per month.
Disability policies are not all the same
Disability policies differ in many respects. Broadly, one can have lump sum benefits, income benefits or a combination. Further differentiation could exist in terms of the waiting period before disability payment commences, the definition of disability, the definition of income/salary, rules about escalation, for how long a payment is made, whether your group policy makes provision to continue the policy in your personal capacity etc.
All these factors must be considered when assessing your overall disability cover and not just the value.
What if I have multiple policies?
Your financial adviser should assess your various policies and then guide you on how your policies could be modified to ensure that you are not unduly over-insured.
Often, it is not possible to alter the disability cover via the company policy due to the compulsory requirement in the rules of group policies. The alternative is to cancel or modify one’s personal policy/ies. This decision must be taken with caution. The reason is that when you leave the company, you might not be in good health for an insurer to accept you for disability cover in your personal capacity.
It is also worthwhile checking if your company policy provides for an option to continue the cover in your personal capacity, when you leave the company. Such an option will allow you to take the cover in your personal capacity without underwriting.
However, even if the continuation option is provided, the option usually expires five years before retirement (for disability cover) and might not be available to you when you leave the company. So, it might make sense to retain some personal cover.
This article is a general information sheet and should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your financial adviser for specific and detailed advice. Errors and omissions excepted. (E&OE)