Graded versus Level Premiums for Disability Insurance
I had a question from a reader:
Wanted to ask you about going with a graded vs. level premium for my DI. Again, I am 33, just starting my practice, and expect to have a significant retirement account in the future. Currently no debt and approx $200k in my portfolio.
What would you do in this situation? I read on your blog how you would consider dropping the DI in your early 50s. If that is the case. makes sense to just keep the graded premium as the benefits of going with level do not arrive until around age 53.
First off, this reader is obviously doing something right- $200K portfolio and no debt at 33, not to mention he reads my blog. But I have to confess, I hadn’t even looked into this aspect of disability insurance. When I got my policy a few years ago I wasn’t offered a graded premium option (i.e. premiums are lower to start with, then get more expensive as you get older). I expect to buy some more disability in the next year or so and I’m definitely going to ask about a graded premium and compare.. If the total cost of the premiums is less for a graded premium option between the time of purchase and the most likely time of cancellation, then it’s just about a no-brainer to take it. Obviously, something could happen- your earnings go down, you get divorced, your portfolio underperforms your expectations, your spending goes up- that would delay your financial independence, but it seems a pretty good bet to make to me.
Yes it’s a bet.
Most people go level just to play it safe but it is certainly cheaper if you know you will cancel in your early to mid 50s to go graded.
Mine is not a graded policy. I just pay the same amount each year.
You had a choice although it may not have been offered. If you have been paying level for years, no good reason to change. It’s really a decision for someone fresh out of residency.
I looked at graded versus level premiums and if I were to invest the saved money each year early on I would only need a 3% real return to make more than the level policy costs. I also factored the lost savings later on. These numbers assume paying until age 67. If I stopped at age 55 or so its a no-brainer.
Don’t feel bad about paying a level premium for your Standard DI policy as a level premium was not, and still is not, available with that carrier.
Berkshire (Guardian) offers a graded premium structure and MetLife offers a “term” disability insurance premium where you start with a lower premium and specify the number of years that you want the premium to remain at that level, Principal does not offer a graded premium option nor does MassMutual. Union Central (First Ameritas) offers a “step rate” where the premiums are lower for the first 5 policy years and then increases to a (higher) level rate from policy year 6 to age 65 or 67.
You are not allowed to switch form level to graded (at least per my agent). Per him, the “net present value” was the same between the two options.
Sure, but that’s assuming you keep the policy for a long time. If you drop it early on (due to becoming financially independent) you’re better off with the graded option.
You are, however, allowed to switch from graded to level prior to age 50. The break even age is around 52 (in my case, 31, healthy, 3P). Canceling by age 49-50 will save about 6-10k cumulatively. Alternatively, one could switch to level at that age and still come out on top.
Correction: switching to Level later on entails much higher premiums. The benefit of graded would therefore only be with canceling the policy before the break even age.
That was about what I found too Chris, but incidentally, age 50-52 is about the time I anticipate cancelling my disability insurance because that’s when I’ll be financially independent.
but this stands if you don’t update your coverage, so the lower premium you pay at the beginning and the higher premium you pay at the end are based on the same number, right ? If you increase your coverage, then your premium, won’t you then pay a lower premium based on a low premium (initial premium before coverage update), and end up paying a more expensive premium based on a higher premium (once coverage increased) ?
The whole point of getting a graded premium is to not keep the policy to the end. If you keep it to the end, you might as well get the level one. I’m sure it works out about the same, or maybe even a little better. But if you’re going to drop your disability coverage at 45 or 50, or maybe even 55, this graded is going to work out a lot better. Wish I’d had that as an option.
I’m a 29M resident exploring disability insurance options. The graded pay seems like a no-brainer to me. The net difference in the pay to premium evens out (approaches $0) by age 44-45. If one can obtain financial independence by 45-50 (with two attending physician incomes), being able to pay lower premiums for the same solid disability insurance plan on a resident budget is very appealing.
I agree.
Thanks for the thought. How do you feel about increasing the start date of the benefits from the standard 90days…out to 180days or even 360 days. Paying less per month but you delay some of the benefits IN THE SHORT TERM, but still maintain the benefits IN THE LONG TERM which to me seems to be the most important thing if you’ve saved up an appropriate emergency fund (which seems more likely for those reading this blog).
Not much savings for that in my experience.