standard Income Protection Insurance Guide

My Complete Guide to Income Protection Insurance

damianyouell
Income Protection Insurance and the various different types of policies seem to confuse clients. I often get enquiries for people looking for income protection insurance but what they really want is accident, sickness and unemployment insurance (ASU). In addition when it comes to companies paying the premiums there is a lot of confusion surrounding the treatment of premiums for tax reasons. This guide will aim to address these areas and highlight various benefits and uses of this often over looked protection policy.

Policies that help protect you income tend to fall into one of the 4 categories. These are:

  • Income Protection Insurance or Permanent Health Insurance
  • Accident Sickness and Unemployment Cover (ASU)
  • Key Person Income Protection Insurance
  • Group Income Protection Insurance

This post will hope to explore some of the main uses of the above protection types. It will attempt to demonstrate the benefits by using examples and scenarios to help you understand the possible uses for your own situation.


Income Protection Insurance Terminology

Income Protection Insurance Definition
Various terms are used when describing income protection policies. For those that are looking to buy income protection these terms can become confusing. In some cases this could result in the applicant applying for and getting the wrong income protection plan for their needs. This section hopes to uncover the jargon and explain things in a clear and informative manner. Click on the plus sign on the Toggle boxed below to expand the particular section of interest.

Guaranteed Insurability
This gives the insured person the ability to increase the benefit offered by the policy by a limited amount without further underwriting. The amount allowed varies from insurance company to company. Some providers will only allow this in specific circumstances such as Mortgage Increase, Pay Increase, Child Birth / Adoption or Marriage.
Termination Age
Most plans available have the cover period extending to a Terminating Age that is the birthday of the life assured. The typical ages available range from 50 to 65 in 5 year intervals, although many Product Providers offer quotations for intermediate birthdays. The service allows any Terminating Age from 50 to 65, subject to a minimum period of 5 years between this age and the current age next birthday of the life assured.
Deferment Periods
This is the period of time you have to be sick or injured before any benefit will start accumulating and any claim payment will be made. The longer the Deferment Period selected the cheaper the premium as the less likely you are to claim. Typical deferment period are 1 month 2 month, 3 month 6 month or 12 month.
Benefit Level
This is the amount you set to be your annual income insured or the amount of monthly income you decide to set.
Index Linking
This option refers to the amount of increase you decide to put on the Benefit Level. Typical amounts are 5%, sum insurers will allow you to set the index linking amount to match the RPI (retail price index).
Guaranteed and Reviewable Rates
Income Protection Insurance is Broadly speaking offered in a choice of two rates. These are guaranteed and reviewable. A guaranteed premium is exactly that once the policy is started the monthly premiums will remain the same for the life of the policy. These guaranteed premiums will start off higher than the reviewable however the applicant will have peace of mind knowing that in the future the premium will not increase. [break]On the other hand the reviewable premiums are reviewed by the insurance company at regular intervals. This varies from provider to provider however a standard review period may be every five years. The premium is amended depending on the claim experience of the insurance company and not the policy holders age or medical history.
Limited Payment Term
Plans with a limited payment period may be suitable when the benefit is only required to be paid for a maximum term or where cost is a major factor. Plans of this nature may be offered by a few providers but not all.
Own Occupation
A client will be able to make a claim if their incapacity is sufficient to prevent them from working in their current occupation.
Suited Occupation
A client will not be able to claim unless their incapacity prevent them from carrying out their own occupation, or any other occupation to which they may be suited.
Functional Abilities Tests (FATs)
Functional Abilities Tests (FATs) are tests designed to measure a person’s physical ability to carry out a number of specified activities or tasks, perhaps after an accident or an illness. Insurers use various types of Functional Assessment Tests depending on the policy. The two main types are Activities of Daily Living (ADLs) and Activities of Daily Working (ADWs). Functional Assessment Tests have stricter criteria for claiming than for occupationally based definitions, but might be issued to policy holders to provide a less expensive form of protection than is available under one of the occupationally based definitions of incapacity or to those for whom such cover would be unavailable.
Any Occupation
A client will not be able to claim unless their incapacity means the are unable to carry out any job whatsoever.
Activities of Daily Living
A client will only be able to claim if they are unable to undertake everyday tasks, such as washing and dressing themselves.
Proportionate Benefit
If the policyholder makes a claim and then subsequently the life assured engages in a different occupation at a lower income and is unable to follow their usual job as a consequence of incapacity a proportionate benefit may be payable.
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A typical calculation to work out the proportional benefit would be for the insurance company to work out the policyholders income before claiming and their new income then reducing the benefit payable in the same proportion.
Dual Deferred Periods
Plans may be arranged with different levels of benefit payable at different deferred periods. These may be used, for example, when a level of sick pay provided by an employer reduces over a period from the date of ceasing work. For example an employer may pay full pay for 6 months reducing to half pay for a further 18 months. In such a case cover can be arranged at 50% of salary to start 6 months from beginning of incapacity with an increase to the maximum possible after 2 years.

The terms above are the majority of the jargon that you will come across when researching or applying for income protection insurance. However if you are unclear on any of the terminology you see in this site and need any help or clarification just contact us.


Income Protection Insurance Explained

Income Protection Insurance Definition
Income Protection Insurance is sometimes known as Permanent Health Insurance. This is because the once the policy starts the policy is permanent i.e. it is not renewable each year it lasts from the start of the policy until the chosen term has finished. It provides you with a monthly income if you are unable to work due to illness or injury. You can use the benefit in anyway you like from helping towards mortgage payments, household bills, pension contributions or maintaining your lifestyle. The monthly benefit is paid from the start of the qualifying or deferment period until you return to work, no longer qualify or the term finishes.

Is There a Need for Income Protection?
Current Support Employers are legally obliged to support employees for the first 28 weeks that they are unable to work but statutory sick pay can be as little as £81.60 a week. Self-employed people may not be able to afford to pay themselves an income at all, specially if they work alone.

Current Support – The Government provides financial support called the Employment and Support Allowance (ESA) to anybody unable to work though illness. The statutory maximum weekly ESA is £99.85 a week and it could be much less if you receive any other type of benefit.

Some Alarming Facts

  • 77% of parents surveyed thought that if a partner was unable to work due to disability, the government should be responsible for helping financially.
  • 83% of parents surveyed did not have any income protection.

Source: Legal & General – Value of a Parent Research – 2011

  • 15 million Britons could not survive until the weekend on savings. HSBC research reveals that 30% of adults have less than five day’s average pay in savings (£249) set aside as a financial safety net.

Source: Credit Action – November 2010

  • Almost 3 million UK households can no longer afford to save compared to three years ago says Legal & General MoneyMood Survey. In September 2010 only 50% of households said they had “some money left over after paying bills and debts” compared to six out of 10 households at the end of September 2007.

Source: Credit Action – November 2010

Are You Eligible for State Benefit
75% of claimants weren’t eligible for initial assessment of ESA as deemed fit for work. (based on new ESA claimants from 27 October 2008 to 31 August 2010)

46% of claimants have found the Employment Support Allowance claim form (ESA50) difficult or impossible to complete. Source: Department for Work and Pensions – 2010


Accident Sickness and Unemployment or ASU Cover Explained

Further Details…
ASU cover is a short term income protection policy that covers you for Accident Sickness and Unemployment. It insures you for a monthly sum which is normally limited to around 60% of your gross income. At the beginning of the policy you decide on the level of cover needed. Some insurers will ask you to list the outgoings that you are going to protect and valid items will include, mortgage payments, loan repayments, childcare costs, pension contributions, council tax etc.

Another variable that influences the monthly premium of ASU cover is the deferment period. This is the time period when you make a claim that you have to wait until the insurer starts to pay out the benefit to you. The longer the deferment period then the cheaper the monthly premiums you will receive. The deferment period should not be set just to get the cheapest premium, it should instead be set to match your existing provisions. For example a policyholder that gets 3 months full pay should set the deferment period to 3 months. Then once the sick pay finishes the ASU cover will replace the income. Most ASU cover policies will allow different deferred periods for Unemployment than is set for Accident and Sickness. This way you may set the accident and sickness part of the policy to start at 3 months if you have 3 months full pay but start the Unemployment cover option to start after 30 days or even back to day 1 if that is required.

As the ASU cover is aimed to be a short term income protection policy then the policy does not pay out indefinitely. Instead when the policy is taken out a claim term of 12, 18 or 24 months can be set. After that time frame the monthly benefit paid out on a claim will cease. Longer term Income Protection Insurance Policies exist that cover well beyond 24 months and usually up until retirement age. To determine what is the most appropriate policy and deferment period etc for you please contact me then I can find the most suitable product for your particular circumstances.


Income Protection Insurance for Key Person Purposes Explained

Questions to Ask Yourself
Although the number of key individuals may vary from one business to another, there will always be at least one key person in any given business. The obvious choice of key person will normally be some or all of the partners or members in the business.

However, clients should also consider the impact on the business of losing someone who may not have any financial stake in the business but nevertheless plays fundamental role in its success. Questions that you should ask yourself could include

  • How easily could the business replace their expertise?
  • Would their absence affect business expansion plans or ongoing projects?
  • Would the business be in danger of losing customer orders?
  • Would it result in a loss of goodwill or hardening of suppliers’ credit terms?
  • Would the business miss their administration or management contribution?
  • Are there any loans or overdrafts dependent upon the key person?

About Income Cover for Key Man
The company takes out the policy on the life of the key person. A typical key person policy will only pay out on death. However a key person is much more likely to become sick on either a short term or long term basis. The company and myself will come up with a monthly sum assured that would enable the business to mitigate any loss that would have occurred from the key persons loss of contribution to the business profit. For a full description including ways to calculate sums assured and trusts etc view my full guide to key person polices.


Executive Income Protection Insurance Explained

For those that own small limited companies paying their Income Protection Insurance from their own already taxed income might not always be the most cost effective way of providing protection. As the money they are paying their monthly premiums out of has already had tax taken off it getting the company to pay their premiums could be more beneficial. Not all income protection providers offer Executive Income Protection Insurance, however their is enough available so that the product still offers competitive premiums.

In the case of an executive income protection policy the company will own and pay for the plan. The company can offset the costs against profit. The policy is taken out on the life of the director. As with all income protection policies their is a limit to the amount of income that you can cover. Typically this is around 70% of your earnings. However some of the executive income protection companies can offer as high as 80%. Most company directors only take a small basic wage and make the rest of their remuneration up with dividends. Usually the insurer will allow these to be taken into account in the calculation of the maximum sum assured. As the company will be paying for the policy and deducting the costs from profit and therefore the director not paying tax on the income this is a very costs affective way to pay for a director to protect their income.

The main drawback of the Executive Income Protection Policy is that on a claim the sum assured is paid to the company and not the director. As the income from the plan is classed as a trading receipt when the company does pay the sum assured to the director then ultimately the benefit is taxed accordingly with Tax and National Insurance. Because some of the Executive Income Protection providers allow you to cover up to 80% of the directors income, and this is significantly more than the personal income protection policy, which is normally around 60% to 70% even though the benefit will be taxed, the sum in the hands of the director is not all that different.

The actual sum paid out at time of claim will be based on the income that can be proved at time of claim. Therefore if the directors remuneration is less than that which was declared on the original application then the percentage insured originally will be paid out but to the smaller income. If however the income is bigger then the original sum assured will be paid out.


Direct or Financial Adviser

One option is to use price comparison websites and go it alone. You can use the information above that may help some of you get suitable cover. However I would suggest using a financial adviser like myself. The benefit of this is that they I identify your situation and recommend the most suitable solution for you.

I make the process as straight forward as possible and fill in all the paperwork for you. If I deem it suitable to put the policy in trust I do this as part of the service for free. You will find the quotes I provide both competitive and explained in straight forward jargon free language.

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