Chapter One

Getting Acquainted

Racing through History

Since any chronicle of disability income (DI) insurance quite naturally intersects with the history of all insurance, the intent of this introduction is to meld disability income insurance into the long record of insuring principles. As a result, the next several paragraphs race through the history of disability income insurance, rather than taking the lengthy tour that probably characterized your early study of insurance.

Early Approaches to DI Coverage

Students of insurance will detect in its origins an approach to the risks and hazards of daily living that is both compassionate and practical. Early communities of independent artisans, mariners and others gave willingly to funds that would support them and their families when injury or sickness left them unable to work. They were motivated not only by compassion for the devastated lives of their neighbors, but also by the practical matter of safeguarding their own vulnerability to fate's caprice. Protection against the capricious "loss of work" or "loss of income" is, of course, the basis for disability income insurance.

From the informality of small community groups grew the commercial ventures of independent under-writers who came to be known as Lloyd's of London and the earliest insurance companies. Each of these steps moved the concept of transferring risk from the individual to the many out of the circle of small communities and into the larger domain of commerce.

The Industrial Revolution and DI

The business of providing disability income protection surged when the Industrial Revolution produced an environment of increased production and increased risk to workers from the hazards of machinery in contact with human flesh. Taking into consideration the likelihood of disability arising from the factory environment, early DI policies were restrictive, covering only disability that resulted from accidental injury, not from sickness. Most policies could be canceled and premiums could be raised at the insurer's will. Better than no insurance, these policies were, nevertheless, often unavailable to those who needed them most urgently-people employed in hazardous occupations.

As state workers compensation laws, which included disability benefits, appeared in response to work place hazards, commercial disability insurance became more liberal and insurers introduced group DI plans for employed workers. The earliest liberalization’s added disability coverage for sickness and disease, following the lead of workers compensation laws. Other

improvements included coverages for accidental death and dismemberment, better renewal options, and longer benefit periods. Unfortunately, these vastly improved benefits led too many workers to remain "disabled" for long periods, causing profitability problems for insurance companies. Insurers began to drop out of the DI insurance market and coverage became more difficult to obtain.

Social Security, WW II and DI

Shortly before World War II, the Social Security Act provided another avenue to obtain disability benefits, although eligibility was (and is today) extremely restrictive. The Social Security approach demanded a strict inability to perform any type of work, without regard to an individual's aptitude or training for a particular occupation. This narrow definition of total disability is the earliest form of what is today known as the "any occupation" definition, which is discussed at length in the next chapter. Few people could qualify for Social Security disability benefits under this restrictive definition.

After World War II, insurers began to show a renewed interest in offering a DI product, tempered by the narrow definition of total disability, short benefit periods and aggregate limits on the number of days for which insureds could receive DI benefits. As was true with earlier policies, liberalizations were gradually introduced. Including the first versions of the "own occupation" definition of total disability. This definition took into account the individual's actual occupation and the inability to perform it, rather than requiring the inability to do any type of work.

Other improvements included the elimination of aggregate benefit days, with the introduction of longer benefit periods extending to age 65 or later as long as the individual was employed, and greater availability of policies that were guaranteed to be renewable. During this time period, most DI policies covered disabilities resulting from accidents only, rather than from both accidents and sickness. In an attempt to avoid some of the malingering problems that resulted from earlier liberalization’s, insurers began including a provision that required potential DI benefit payments to bear a greater relationship to the insureds actual earnings. You will review this "relation of earnings to insurance" provision in a later chapter.

The entry of reinsurers into the DI insurance field allowed insurers to offer higher monthly DI benefits, generating significant growth in the sale of DI insurance policies. This growth was soon stunted, however, by the proliferation of generous government sponsored disability benefits. The lower income markets for commercial DI insurance gradually eroded as the potential for over insurance became a reality and contributed to a renewed disincentive to return to work. Insurers began to introduce so-called social insurance offset riders that allowed commercial DI policies to coordinate with government programs in order to avoid paying DI benefits greater than the worker's former income. The current versions of these riders are discussed later. Riders that adjusted benefits to increased costs of living made their appearance at about the same time.

The 1970s Recession to New Markets of the '905

During the recession in the 1970s, insurers began to experience significant losses on DI policies, and policy provisions were once again tightened. More restrictive policies and fewer insurers in the game were the result of what had become an ongoing cycle in the DI insurance market-liberalization’s followed by increased sales, followed by large losses, followed by restrictions and insurer withdrawals, followed by liberal innovations and through the cycle again. One attempt to thwart the cycle was the introduction of a smaller, "residual" monthly benefit to be paid when a disabled person returned to work, where formerly all benefits stopped at this point. This incentive to return to work sparked availability and attendant liberalization’s, but instead of stemming the cycle, provoked it to occur once again.

During the 1980s, professional white-collar workers were wooed, while lower income workers who were increasingly well served by the government were abandoned. Substantial growth occurred in tandem with more liberal policies and underwriting. This led inevitably to adjustments to control the now-familiar cycles of the disability insurance field as the end of the decade saw heavy losses.

The 1990s have so far brought a resurgence of interest in DI products from both buyers and insurers. The insurers' latest approach is to woo the higher-income markets, especially self-employed professionals such as doctors and lawyers, and to develop products for the unique needs of two-income families, single parents and other family lifestyles that have become commonplace. Insurers have attempted to become more attuned to factors such as other sources of disability income, controls to prevent over insurance problems, and cautious underwriting both in the field and at the home office level.

The DI Playing Field Today

Today the need for disability income insurance is as pressing as it has been throughout history. While the glut of social insurance programs providing disability benefits has eroded the DI insurance market for certain income segments, the need is greater than ever for higher income groups. This is especially true for self-employed whose personal services and ability to remain actively at work are the very foundation of their incomes. The self-employed business person or professional is often the sole generator of the income that funds both business and personal activities. The absence of such a person from the work place can result in the business faltering, which in turn causes loss of the source of income. People who are employed by others at relatively high wages do not face the loss of earned income.

Income Replacement, the Ongoing Need

Disability income insurance is the unique solution to loss of income that can be generated in no other way than by working. Replacement of that income, at least in part, is crucial to

most people if they are to avoid financial disaster while unable to work. Consider a typical example-Richard, a self-employed small businessman who operates an accounting firm and employs two other people, both clerical employees. He pays himself an annual salary of $85,000 from earnings that pay all other business expenses as well. You can see that the accounting services Richard personally performs are the key to his business.

If Richard is disabled, everything that produces income stops. It's true that a smart businessman like Richard probably has some money available to see him through a short disability-but is it enough 10 keep his business going? If no business is being generated, where will the money come from to pay the clerical staff, to pay rent, utilities and other ongoing expenses at his business office? Will Richard want to hire a temporary replacement for himself to retain the accounts he currently serves? Is his nest egg large enough to pay another professional accountant, maintain his business, pay the ongoing bills for his mortgage, for his family's needs, even for the mundane but certain costs of electricity, water. trash collection, the daily newspaper, fuel for his cars? And what of the condition that caused Richard to be unable to work? Are his medical expenses fully paid by insurance? Probably not. The addition of unreimbursed medical costs to a financial load already burdened by loss of income can literally force into bankruptcy people who have never before experienced severe financial problems. The culprit is the absence of ongoing income.

What's the Risk of Disability?

Few healthy people are able to envision themselves in this unfortunate position-the ability to generate income being taken for granted, almost like breathing. We may take in grisly news accounts of people injured in spectacular accidents, severely damaged, but alive. What does not usually make the headlines is what happens later-the staggering accumulated bills, medical and otherwise. The struggle to survive not just from the bodily injuries, but also from the financial injuries. For most people, a life without income producing work is unthinkable, but unthinkable or not, it is more likely to occur than most of us guess.

What are the chances of the average person suffering some type of disability? In a word, high. Consider these statistics from The Society of Actuaries:

Between the ages of 25 and 65, one in three working people will be disabled for three to six months, a relatively short time, but long enough to seriously erode or even wipe out accumulated emergency funds.

Even at the age of 25-at the peak of youth-any one person has a 15% chance of being disabled for at least five years.

As many as one in 10 workers will be permanently disabled before reaching age 65. If a three- to six-month disability can cause problems, consider the financial consequences of never recovering completely!

Disability or Death?

Of all the uncertain but insurable events humans must contend with, disability is the single most overlooked possibility. People insure their cars, their homes and their lives in much greater numbers than they insure their incomes, even though income is the engine that drives everything else. Unfortunately, it is not only consumers who fail to attend to the need for disability income insurance, but also insurance agents, people just like you. If you sell life insurance, you know that, while no sale is easy, at least you do not have to sell the philosophy-everyone knows death will come, sooner or later. But disability income insurance is definitely not the same since, as we've pointed out, few healthy people are able to perceive their own inability to earn income.

Yet disability is far more likely to occur during the working years than death is. In recent years, awesome scientific and technological discoveries have reduced by 32% the chances of dying from the four major causes of death in the U.S., but at the same time, the chance of disability has increased by 55%. Saving lives is one matter; preserving lifestyles is another matter entirely

Insurers use mortality tables to predict death rates and morbidity tables to predict disability rates. The numbers from these tables tell the story, as illustrated In Figure 1-1 (on page 6).

While the ratios of disability to death draw closer as people age, at all ages during the working years, the chance of experiencing a disability for longer than three months is significantly greater than the chance of death. A disability income insurance policy is the only way to guarantee income replacement-a source of funds to pay expenses that does not stop when income stops. Are you convinced?

Who Needs DI Insurance?

It's clear that everyone who works for a living and has no other source of significant income needs some type of disability protection, but all of those people are not prospects for a disability income insurance policy. The growth of government-sponsored disability programs has essentially eliminated the need for individual personal DI coverage for people whose annual incomes are about $25,000 and less. Social Security, workers compensation, veterans' and other benefits replace a significant portion of income for people who are eligible for these programs. We'll say more about these programs later; at this point, you'll just want to know that the lower income spectrum is not a profitable place for you to prospect for DI insurance business.

The largest group of potential prospects for disability income insurance is the tried-and-true middle and upper middle class-people earning, roughly, between $30,000 and $100,000 annually. You'll find the greatest number of potential qualified prospects in this group. However, another group is even more promising-people earning above $100,000 annually,

usually professionals, highly-paid executive employees, or other high-income business people, often self-employed. While this market has been much sought-after in recent years, certainly it is not saturated and new prospects are constantly earning their way into these higher income levels. A later chapter addresses special issues that affect extremely high incomes coupled with significant net worth, a situation that can diminish eligibility for DI insurance. However, those who are not affected by such issues comprise enough individuals to make this a potentially lucrative source of disability income insurance sales.

What's the Game? Who's Playing?

The Game

The game is health insurance. Disability income insurance is a member of the health insurance family because it addresses needs that arise when an individual's health is damaged. "Health insurance often brings to mind medical expense coverages such as insurance to pay for hospitalization, physician bills, prescription drugs, emergency services

and similar items. DI insurance, of course, provides protection for lost income, rather than for medical expenses.

DI and Life Insurance-Contrasts

People sometimes make a mental connection between DI insurance and life insurance since DI coverage may be added as a rider to a life insurance policy. Life and disability insurance, however, are vastly different, not just in terms of their ultimate purposes, but also in their inherent characteristics. First, a life insurance policy pays when someone dies, while a DI policy pays benefits when someone lives in a disabled condition. Another major difference is that with a life insurance policy there is only one claim and there is normally no question about whether death occurred (fraud being the possible exception). A DI policy, on the other hand, can pay claims more than once since an insured person might have several short-term disabilities covered by the policy.

The Greater Risks in DI Insurance

Under a life insurance policy, the insurer knows as soon as the contract is executed that if the insured does not terminate the policy, a claim will certainly be paid one day-probably in the distant future. The insurer also knows essentially how many dollars are involved in the death claim. While there is risk to the life insurer-payment of just one premium obligates parent of the death benefit if the insured dies right away-the DI insurer undertakes enormously greater risk, first of all because the chances of disability versus death are much higher.

And what is being insured? With life insurance-the life of the insured period. With DI insurance- income, but… what kind of income and how much can be insured? Under a DI policy, only income earned from actively working in an occupation is insurable. Unearned income from rental properties or investments, for example, may not be insured. Insurers will not agree to replace all earned income because there's little reason for the insured to recover and return to work in this case, and there Is a great deal of appeal to taking a permanent vacation. So the insurer must decide how much insurance to make available-60%, 70%, or more or less? It's no easy matter to determine the best percentage to fulfill two goals: (1) Provide adequate assistance to the insured and (2) encourage the insured to return to work as soon as it is safely possible.

In addition, the disability income insurer takes the risk of insuring someone apparently healthy who might at any time become disabled from an accident or from a previously undiagnosed disease. The underwriting of a disability income policy is more stringent than underwriting life insurance because there are so many more variables. Prior health problems or recent medical conditions complicate predicting the likelihood of disability claims, as do various other factors outside the control of both the insured and the insurer, such as economic, environmental and social factors. Insurers must also be wary of the availability

of other disability benefits and the resulting potential for over insurance that can cause reluctance to return to work.

All of these factors, which make the DI insurer extremely vulnerable to adverse risk, result in a much higher rate of rejected or modified disability income insurance applications than is typical for life insurance. Such rejections and ratings tend to discourage agents from working the DI market. Later in this text we'll talk about some things you as an agent can do before submitting a DI insurance application in order to reduce the chances of gaining a sale only to lose it in the underwriting department.

The Players

The players are the insurers that write DI insurance, agents like you who want to sell it, and the broad range of prospects who need it, whether they know it or not. Making sure they know it is your mission if you choose to accept it.

Commercial DI insurance is available from life insurers, life and health insurers and multiline companies. Some insurers specialize in disability income insurance: others avoid the product entirely. While companies that specialize are likely to provide the most astutely developed policies and policies that have consumer-responsive, cutting-edge benefits, don't overlook the smaller players. As an agent you are probably targeted for extensive advertising that will make you familiar with the insurers offering DI products. Once you know whom to contact, you'll want to research each policy extensively in order to pinpoint characteristics of the plans you can offer to individual clients.

Policy Types

Disability insurance policies are available in a variety of forms. An individual personal DI policy covering a single individual is marketed much like an individual life insurance policy. The insured pays for the policy from personal income and the policy protects that individual's income in the event of disability. The concepts, policy provisions and other topics covered in this text apply to individual DI policies unless otherwise stated.

Individual DI policies might also be provided on a group basis. That is, while the policy insures a particular individual's income, the policy's unique terms, including the lower cost as compared to non-group policies, are based on group insurance principles. The coverage is available only to individuals who are members of a given group and the insurance expires when a person leaves the group. Chapter Six of this text discusses the distinguishing features of group DI coverage.

The term "professional DI policies" is used to distinguish DI insurance written for that higher-income group mentioned earlier, usually professional people earning over $100.000 annually. Professional policies offer high benefits, often as much as $20,000 or $30,000 per month, and may include very liberal policy provisions. Otherwise, they function essentially

like any other individual disability income policy.

While group DI is generally associated with businesses, there is another completely different group of disability policies uniquely designed for business uses. These do not provide income benefits in the same way as other disability policies, but take into account the unique needs of a business threatened by the disability of an owner or some other person whose services are vital to the business. Such policies can reimburse a disabled business owner for ongoing business expenses or for temporarily replacing him or herself or a key non-owner/employee. Other policies can fund the buyout of a disabled person's interest in the business and allow a business owner to continuing paying an employee's salary while the employee is disabled. A separate chapter is devoted to these products.

This has been a short summary of the basic types of disability-related insurance available today. As you proceed through the course you'll become thoroughly familiar with the common and unique features of disability products that offer you opportunities in the '90s.

Chapter 1 Review Questions

1. Early Disability Income policies were restrictive covering only disability that resulted from:

a. Accidental injury

b. Sickness

c. Both of the above

d. Neither of the above

2. Insurers use ________tables to predict disability rates.

a. Mortality

b. Morbidity

c. Consumer price index

d. All of the above

3. Disability Income Insurance is appropriate for which of the following groups?

a. Middle and upper middle class

b. Professionals

c. Highly-paid executives

d. All of the above

4. Disability Income Insurance is what type of insurance

a. Life insurance

b. Health insurance

c. Property insurance

d. Casualty insurance

5. All of the following are types of Disability Income Insurance EXCEPT

a. Individual Disability Income policies

b. Group Disability Income policies

c. Professional Disability Income policies

d. Unprofessional Disability Income policies

Answers

a accidental injury
b morbidity
d all of the above
b health insurance
d unprofessional Disability Income Policies