Disability Insurance and Tax Deductible Possibilities
– Disability Insurance –
Disability Insurance: Your biggest financial asset throughout your lifetime is not your home or your personal belongings; it’s the ability or the possibility to earn an income over the several years of your life. Without income, it is impossible to create the life you want over time.
However, many people overlook their earning ability as an asset. Because of this oversight, fail to recognize that it can be protected with the help of insurance. The main benefit of having a disability policy is to replace part of your income if you become disabled.
What is Disability Insurance?
In the simplest terms; this is insurance that pays a portion of your income if you are unable to work due to sickness or injury.
It is offered either as an employee benefit from a company or as a private, individual insurance policy. This type of insurance plan might be particularly important to you. For example, if you’re self-employed or a small business owner.
This coverage is beneficial in that it protects your paycheck amount, up to certain limits. It also allows you to continue to pay your monthly expenses even if you are unable to work.
Most individuals have some form of disability insurance coverage in place during their working years. The high prevalence of disability combined with a lack of savings means this insurance is often worth the cost.
Are Disability Insurance Benefits Taxable?
The income you receive from disability income insurance may or may not be taxable. The taxability of disability income insurance benefits depends on what type of benefits you receive. Whether the premiums were paid with pretax or after-tax dollars, and who paid the premiums (you or your employer).
If you pay the policy’s premiums with after-tax dollars — meaning you don’t receive a tax break for those premiums — then any benefits you claim from the policy will be tax-free income.
If you become disabled, you will not owe income taxes on the benefits you receive from your disability policy. This is true whether you’re buying a group plan through an association or your own individual policy.
However, if you pay part of the premium with pretax dollars, you’ll owe income tax on any disability benefit you receive. You often pay premiums on disability insurance with pre-tax dollars when it’s through a cafeteria or medical reimbursement plan.
Why Disability Income Insurance?
A sudden injury or illness could prevent you or your spouse from working. It could result in loss of income as well as additional expenses associated with the disability.
Employer-sponsored group disability insurance policies, Social Security disability benefits, and personal savings may fall short of providing all of the income you depend upon.
An individual disability income policy can:
- Replace a higher amount of your earned income
- Cover bonus income
- Provide benefits tax-free
What Part of Disability Insurance is Subject to Taxation?
Unlike health insurance premiums, which may be considered a medical expense deduction, this type of insurance is not tax-deductible.
This means that the money you earn that is subsequently used to pay premiums on a disability insurance policy is taxed as ordinary income.
Health insurance premiums that are paid through payroll deductions are often taken out pre-tax, helping to reduce taxable income year to year. However, the insurance premiums are paid with after-tax dollars.
What Part of Disability Insurance is Not Subject to Taxation?
While premiums paid for disability insurance policies are not tax-deductible, you do have some benefits as it pertains to your taxable income when you start receiving its benefits.
Once you are disabled and qualify for your benefits to be paid out, the money received is not taxed as income, according to the IRS.
Disability income insurance payouts range from 50 percent to 80 percent of your income, depending on the insurance provider you select and the amount of coverage you put in place.
Because this is a smaller amount than you are used to living off of, not having an additional tax burden on top of a reduced income is helpful.
The hope is that monthly obligations can still be covered while you are on disability, helping you and your loved ones avoid financial hardship.
- This type of insurance is an essential component of a sound financial plan for many individuals and families.
- Having the right coverage in place means that you worry less about disability due to sickness or injury in the future. Therefore, that would keep you from earning a steady paycheck.
- Before selecting the insurance coverage that’s the best fit for you and your family. First, consider the benefits received compared to the cost of the policy.
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