For advisors working with physicians, key income protection strategies should take inflation into account
While inflation is a central factor in financial planning, it’s still too easily overlooked in some cases. And for advisors working with physicians, disability insurance can be a perfect case in point.
“It's a key point that we often forget with respect to disability insurance,” says Gurtej Varn (pictured above, left), wealth advisor and founder of White Coat Financial.
According to Varn, many advisors who include disability insurance in their planning for physicians or dentists will make sure to add the cost-of-living adjustment (COLA) rider. As the name suggests, that rider is designed to help the policyholder’s monthly benefit adjust to keep pace with inflation.
Joseph Bakish, portfolio manager and investment advisor at Bakish Wealth with Richardson Wealth, says the COLA’s role is to protect the purchasing power of the benefit against the risk of long-term disability.
“Physicians should typically increase their coverage as their income grows, but having the COLA rider allows for the benefit to be indexed in the event of claim,” Bakish (pictured above, right) says. “If the claim is short, the COLA rider has less value, but the longer a claim is payable the more valuable the rider becomes.”
Generally, COLA riders update the insurance policy’s monthly benefit on an annual basis. The adjustments can be done on a fixed percentage or tied to the consumer price index, and can be applied on a simple or compound basis. Those riders also come with a maximum allowable adjustment, which can differ from one insurer to the next.
“There was a certain point where CPI was higher than the maximums on those riders [among my clients]. That's another thing to be mindful of,” Varn says. “Maybe applying for more coverage for disability upfront rather than relying on the COLA riders would make sense, because there are situations where CPI will outpace how much COLA you are eligible for.”
At his practice, Varn says he recently had conversations with numerous young students applying for disability insurance. They were looking to take advantage of a limited-time medical students offer, and they had to make a final decision on the package they should apply for.
“Because they were already adding on for a COLA rider, some of these clients were thinking about applying for less coverage right now,” he says. “I advised them to get more coverage, because the younger you are, the cheaper your premiums, and long term, it will lead to the most cost savings.”
Having higher coverage, Varn adds, translates into a greater benefit when the COLA rider compounds each year.
For his part, Bakish believes it’s still worth relying on COLA riders to cover for inflationary effects as inflation riders can protect up to 10% compounded per year.
“Given the purpose of the coverage is to mitigate the risk of long-term disability (an emergency fund should cover short-term income loss), a COLA rider seems natural to add to a base policy,” he says.