When you think about the future, what are the first images that come to mind? Perhaps it’s your child’s college graduation ceremony, retirement years filled with travel and adventure, or that fill-in-the-blank goal or experience you’ve always dreamed about. These are the life events and milestones that we enjoy planning — but unfortunately, most of us rarely devote the same amount of time and thought to preparing for the unexpected, the events we can’t always imagine or predict.
For high-income earners, the unforeseen can often come with complex financial consequences and issues, which can be mitigated through certain types of insurance coverage. Here are a few tips to help you plan proactively and secure the right insurance protection for the people and assets that matter most to you.
In the context of protecting future income, perhaps the first type of insurance you might think of is life insurance. For a high-income earner who passes away prematurely, his or her surviving family not only has to cope with the emotional loss of a loved one, but also the loss of their high income. Term insurance is often the best option to address this need, with its low cost structure and flexibility to match the length of coverage to the anticipated length of your working career. When researching options and evaluating your needs, you may want to seek out a qualified insurance consultant, who can help you consider things like the stability of carriers and how to best navigate the underwriting process for larger policies.
Factors like living expenses, future college expenses and mortgage and other debt payments are all common considerations when determining how much coverage you should purchase. Last fall, Cassandra Latsios, CFP®, a financial advisor in our Media, PA-based office, wrote an in-depth article exploring important questions and needs to consider when deciding how much life insurance coverage purchase. You can read her full take here.
The most valuable asset the majority of high-income earners possess — especially if they have years to go before retirement — is their capacity to earn money. Often, people think about their home, business or 401(k) balance when it comes to important assets — but consider how dramatically different your future would be if a disability rendered you unable to continue your high-income job, or any work at all.
Many employers offer short- and long-term disability insurance options as employee benefits. Sometimes, the coverage those policies provide can be adequate, but it often doesn’t go far enough for high-income earners. Group policies at work may have a benefit cap that doesn’t replace enough of your income. Depending on how the plan is set up, taxes may also eat up a large chunk of your expected benefit.
A common rule of thumb is to have disability coverage that provides 60 to 70 percent of your gross income.
A common rule of thumb is to have coverage that provides 60 to 70 percent of your gross income. It’s also important to know how the premium is being paid. If you are paying the premium on a pre-tax basis — for example, through a payroll deduction that reduces your income, or an employee benefit that is not added to your W-2 — then any disability benefits received subsequently will be taxable income to you. Conversely, if you pay the premium with after-tax money, the benefits will not be subject to income taxes. This can make a big difference so consider paying premiums with after-tax dollars if you have the option.
Other important considerations involve the specifications of the policy: will the benefits be level or increase for inflation? Will the benefits last for a certain term or to a stated age? How long is the waiting period before benefits kick in? How does the policy define disability, and how specific is the occupation that is covered? Again, involving an experienced insurance consultant can help you optimize benefits and find a carrier best suited to your scenario.
Umbrella insurance is an extra layer of protection to safeguard your assets in case you end up facing certain large liability claims. For example, imagine if you or someone covered under your auto insurance was found at fault in a serious car accident. If another person involved was badly injured, medical bills could pile up quickly beyond the common $300,000- or $500,000-coverage amounts in your auto policy. An umbrella insurance policy could kick in once those amounts are surpassed. Umbrella coverage is often sold in $1-million increments and is relatively inexpensive; a helpful tip is to maintain coverage that is commensurate with your net worth.
Health insurance certainly isn’t specific to high-income earners, but some of the ways in which you utilize your coverage options can be more specific or tailored to your needs. Often, people can choose between using a high-deductible health plan (HDHP) or an alternative option. Obviously, the coverage that best suits your needs should be a top priority in choosing whether you should have an HDHP. However, if it’s a close decision or either option could feasibly suit your situation, then you should consider opting for the HDHP so you can also fund a health savings account (HSA).
One perk of an HSA is the ability to contribute to the account on a pre-tax basis, which means you can receive an income-tax deduction for your contributions. If possible, you should contribute to the HSA via payroll contributions so you can also avoid Federal Insurance Contributions Act (FICA) taxes.
You’re able to take tax-free withdrawals from your HSA if you need them to cover qualified medical expenses. And though you cannot report HSA-funded medical expenses as itemized deductions on Schedule A of your individual tax return, you will still receive a tax deduction on those dollars when you contribute them to the HSA. High-income earners usually have a large adjusted gross income (AGI) limitation on itemized medical deductions that otherwise prevent those expenses from actually being deductible, so using an HSA can help. However, it’s typically recommended that high-income earners fund their HSAs to the maximum each year instead, letting the account grow while they pay medical bills out of pocket.
In addition to tax-deductible contributions, HSAs also grow tax-deferred, and many custodians will allow you to invest your account balance in mutual funds. It’s almost like a deductible traditional IRA, which many high-income earners can’t utilize due to AGI limitations. In the future, those HSA balances can be withdrawn tax-free if they’re used for qualified medical expenses (e.g., insurance premiums for those who retire before being on Medicare) or as taxable income (but without any penalty if withdrawn after age 65) for non-medical spending. This means you can potentially reap the best of all options — tax-deductible contributions, tax-deferred growth and tax-free distributions — if you use HSA balances for qualified medical expenses, and otherwise benefit from a quasi-pre-tax retirement account if you withdraw the balances after age 65.
The Bottom Line?
You’ve invested years of hard work, time and effort into building the life and career you have today. Putting the appropriate coverage in place now will help you rest easy knowing that your loved ones and hard-earned assets are protected against the unexpected. As your needs become more specialized and as your financial situation evolves, it will become even more important for you to involve a professional or team of professionals, who can help you address the available options and make sure your coverage continues to protect you and your family.