In the event that you become disabled, disability insurance benefits are based on a percentage of your income. Therefore, a key part of the underwriting process when you apply for coverage is determining how much you earn or will potentially earn.
For physicians and medical professionals, income determination can become complicated, especially if you own all or part of a practice.
Determining the correct amount of coverage you qualify for is done through the process of financial underwriting. This is done largely to assess a person’s need for coverage and to avoid overpaying a claim if he or she becomes partially or completely disabled.
How underwriters evaluate you financially
An underwriter will evaluate your earned income, unearned income, net worth and even your bankruptcy history, if applicable. You will have to provide the underwriter your individual tax returns and business tax forms, if applicable. If you are part of a business, you also have to provide financial documents such as income statements, balance sheets, and profit-and-loss statements.
Insurers typically want to see evidence of stable employment and income for at least a year, though a physician just beginning residency or practice can provide an explanation with respect to their earnings potential. The same goes for physicians who have just started a private practice.
For underwriting purposes, income is earned if it stops or would be significantly reduced because of a disability. Therefore, investment or business income that doesn’t require work on your part will not be factored into your financial underwriting. These income sources wouldn’t likely be affected by a disability, so you would not require disability insurance benefits to replace them.
How your employment income is determined
If you are an employee of a medical practice with no ownership interest, than the insurer will consider your salary, wages, regular overtime, bonus and commissions (less expenses).
Employer contributions to 401(k) or 403(b) qualified retirement plans can often be included as earned income up to the IRS maximum. However, perks such as such as parking allowance, car lease, subsidized lunches, and other benefits are typically not considered as earned income.
How business income is determined
If you’re also a full or partial owner in a medical practice or other business, the insurer’s underwriter will determine your business income based on:
- the legal structure of the business
- how much of the business you own
- its earnings
- how much you work/earn as an employee of the business
If you have ownership interest in a corporation or limited liability company (LLC), and working as a full-time or part-time employee, your earned income will include salary, wages, regular overtime, bonus and commissions (less expenses) and your proportionate share of business earnings.
For example, if you own a 50-percent share of a practice that earns $100,000 a year, your disability benefits will be based on $50,000 in the earnings of the business, plus your salary.
If you’re a business owner, policies may also provide a business owner allowance. For example, a policy may provide an increase of your earned income by up to 20 percent if you are at least a 20 percent active working owner of a medical practice or clinic.
If the business is a sole proprietorship — owned by a single individual — or a partnership, then the insurer will typically consider earned income the net profit of the business, after expenses, but before taxes. Underwriters may also stipulate that personal expenses and depreciation incurred cannot be added back to net income to produce a higher earned income.
In addition, some policies will also consider contributions made to a pension or profit-sharing plan as earned income, up to a certain percentage of their salary or other designated maximum, unless the contributions continue after you become disabled. Verification of the contribution is required.
Income fluctuations and bankruptcy filings affect your underwriting
If an insured’s income fluctuates, the insurer will determine a maximum benefit amount using a weighted average over a two to three-year period. Also, a substantial increase in income from one year to the next (i.e., 20 percent or more) will require a detailed explanation.
Financial underwriters will also take into consideration an applicant’s bankruptcy history. Past bankruptcies, especially multiple filings, Chapter 7 filings and pending bankruptcies, concern underwriters about the possibility of an insured using disability benefits to compensate for lost income caused by bad financial situations.
Insurers will often stipulate in their financial underwriting guidelines that any bankruptcy filings be fully discharged and all debts either repaid or discharged for a designated number of years before a person can qualify for disability insurance.