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This guide about
Income
Protection (IP) Insurance is designed to help you decide if this is
a suitable product for you. . It aims to help by answering the following
questions:
WHAT IS
INCOME PROTECTION INSURANCE?
It is a policy designed to give you a regular
tax-free benefit if you are injured or too ill to work, resulting in a
loss of earnings. There are three main types of product available:
Those which cover some of your living expenses – for example,
your mortgage;
Those which provide cover for housepersons.
A recent
Government Report, “Pathways to Work”, found that in 2002 2.4 million
people received incapacity benefits, and had been off work for more than
six months, in the UK. Of these, 1 million had been unable to work for
at least five years.
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HOW DOES
INCOME INSURANCE
PROTECTION WORK?
Being too ill to work is likely to affect your
earnings. What this effect may be, and how soon it will happen, will
depend on your personal circumstances. Income protection insurance is
designed to reduce the impact of this loss of earnings.
Under an
income
protection policy,
you pay regular premiums to an insurance company and, in return, they
agree that – subject to certain conditions – they will pay you a benefit
if you are too ill to work.
At the heart of an
income
protection policy is
the definition of incapacity. Which definition applies to you will be
decided when you take out your policy. A number of different definitions
of incapacity are used by insurance companies. You should check with
your insurer what definitions they use, but the most common ones are:
Some of these definitions of incapacity may not
be available for certain occupations. The definition that applies to you
will have a significant effect on the amount you will have to pay.
There will usually be a period after the start
of incapacity before your benefit is paid. This is called the ‘deferred
period’.
There is no limit to the number of claims that
you can make.
Insurance companies offering
income
protection will always limit your benefit to an amount less than
your normal earnings. This is because
income
protection benefits are free of personal income tax, and insurers
are keen to encourage you to return to work.
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HOW CAN
I DECIDE WHETHER I NEED
INCOME
PROTECTION INSURANCE?
You will need to consider what might happen to
your income and your expenses if you were too ill to work.
First – calculate
your income
Potential income sources will depend on your
personal circumstances and a number of factors:
Your employer may continue to
pay you for a limited time.
Some employers will only pay Statutory Sick Pay. Others may be more
generous. You should check what arrangements your employer has made.
Your income will almost certainly cease,
although your business may continue to generate income for a short
time if, for instance, payment is outstanding for work already
completed.
In the longer term you may
receive Long Term Incapacity Benefit and other State benefits. Some
of these benefits are means-tested, and in most cases there are
conditions that have to be met, such as your having paid sufficient
National Insurance contributions. More details can be obtained from
your local Jobcentre Plus office or from their website (www.jobcentreplus.gov.uk).
You should note that the
amounts of, and eligibility conditions for, State benefits may
change in the future.
If you have savings, these may produce
income that will not be affected by your incapacity. Cashing in some
investments earlier than planned may, however, result in a financial
loss. Such savings may also affect your eligibility for some State
benefits.
More details of the effect of
savings on State benefits can be obtained from your local Jobcentre
Plus office or from their website (www.jobcentreplus.gov.uk).
If you are receiving a pension from a
previous job this is likely to continue despite your incapacity.
You may be able to start receiving an early
retirement pension. This will depend on the rules of the pension
scheme(s) to which you belong, and may also be at your employer’s
discretion. Remember, any pension which starts early is likely to be
significantly lower than if you had worked until normal retirement
age.
Even if you were unable to
undertake your usual work, there might be alternative work that you
could do. You could contact your local Jobcentre Plus office or the
Department of Work and Pensions (www.dwp.gov.uk).
Second – calculate
your expenses
If you are too ill to work for a long period of
time, the way you spend your money may well alter. You need to consider
how your expenses might change.
Some types of expenses will continue. These
include mortgage, rent and other housing costs, council tax, gas and
electricity bills, etc. Some expenses may be covered by specific
insurances (although it is common for such cover to be limited, say,
to a year from when you become too ill to work). You should check
whether your mortgage, hire purchase, credit card or loan repayments
or pension contributions are covered by this kind of insurance.
Some expenses may reduce, or even be
eliminated. These could, for instance, include the cost of
travelling to and from your place of work.
Some expenses will increase, or
will be incurred for the first time. These may include, for
instance, the cost of heating your home all day if you do not go out
to work, the higher cost of food if you have been using a subsidised
staff canteen, and the cost of medicines and possibly nursing care.
Some expenses are within your
control, so you could economise if you wished to. These might
include, for instance, holidays and entertainment.
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WHEN MIGHT I NEED
INCOME PROTECTION INSURANCE?
Having considered the effect on your income and
your expenses, do you think that you could cope with your changed
circumstances if you were too ill to work? If so, for how long could you
cope? If your calculations reveal a probable shortfall, you should
seriously consider taking out income protection insurance.
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WHEN
MIGHT I NOT NEED INCOME
PROTECTION INSURANCE?
When:
If your calculations do not
reveal a likely shortfall, or if you believe you could realistically
adapt your lifestyle to a reduced income, then you may consider that
income protection insurance is unnecessary.
If you consider that you have adequate capital, savings or other
resources to live on for however long you are too ill to work, then
income protection insurance may be unnecessary.
Income protection insurance is unnecessary
if your employer has a satisfactory long-term sick-pay scheme
(considering both the amount of any cover, and the length of time
for which you would continue to receive an income). Any insurer will
limit the amount they will pay you. If your employer’s scheme is
adequate, this limit is likely to mean that you would receive very
little – and possibly nothing at all – from any income protection
insurance policy.
If you compare your income with State
benefits, and feel that these will meet your needs, then you will
not need income protection insurance.
You should note that the Benefits Agency
will use their own definition of incapacity when deciding whether
you can receive State benefits. This definition may not be the same
one your insurer would use.
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IF I DECIDE TO BUY
INCOME PROTECTION INSURANCE, WHAT DECISIONS DO I NEED TO MAKE?
Most insurance companies will offer a range of
different policies. The overall cost of a policy is likely to be an
important consideration. You should remember that, in general terms, the
broader the scope of the cover, the greater the cost. For example, ‘own
occupation’ cover is likely to be more expensive than ‘any occupation’
cover. The exact cost will depend on a number of factors, including your
age, sex, occupation and medical history.
You also need to:
You can usually choose from a range of
possible deferred periods. You will probably wish to match this to
your personal circumstances so that, for instance, if your employer
will pay you for six months, the benefit from your income protection
insurance policy starts after that time. You may consider that an
interval, between when your employer stops paying you and when
income from your income protection policy starts, would also be
acceptable. The longer the deferred period, the cheaper your policy
will be.
This will usually also be the maximum
period for which benefit will be paid if you are too ill to work. It
may be sensible to link this with your normal retirement age, but
remember that the longer the term of your policy, the more expensive
it is likely to be.
Guaranteed rates – the
amount you pay is fixed in advance. The amount you pay cannot be
changed by your insurer, except in agreed circumstances (eg to
rise in line with inflation).
Reviewable rates – your
insurer can change the amount it charges you in the light of its
costs, overall claims experience etc.
This rate does not depend on any claims that you have
made. Usually, no change can be made by your insurer during the
early period of your policy.
Renewable rates – premiums
are set for a fixed period. At the end of that time, you have
the right to continue your plan, and your insurance company will
set the premium level for a further fixed period, based on your
age at that time.
The type of rate you choose
will affect the amount you pay. Initially, guaranteed rates are
likely to be the most expensive. But over a period of years,
renewable rates may become more expensive, since they will increase
as you grow older.
Some insurers will offer you the option of
benefits which increase as inflation rises. Why? Because if the
benefit which your policy provides remains at a constant level
throughout its term, its real value is likely to diminish. The level
of these increases will vary from insurer to insurer. Premiums will
increase over the years as the level of cover provided rises.
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SHOULD I GET ADVICE?
Talking to a
financial adviser
may be helpful.
Most income
protection insurers
publish a wide range of information on their products, but all are
required to issue a ‘Key Features Document’ to help you make comparisons
between policies.
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WHAT OTHER KINDS OF
HEALTH PROTECTION PRODUCTS ARE THERE?
Insurance can give you the resources to cope when you encounter
unexpected misfortune. Most people see good health as being very
important, as it makes other aspects of life possible. The insurance
industry can offer help in a number of ways to protect you and your
family against the financial consequences of illness or injury.
Insurers may combine different kinds of policy. However, the
broader the cover the greater the cost.
The main
categories of product on offer can be split into long-term products,
sold for more than one year at a time, and general insurance products,
which are renewed annually. The different types are:
A. Long-term insurance products:
Critical illness insurance pays out a
lump sum if you get any of the illnesses
specified by your policy, provided you meet the
definition of the illness in your policy and you have kept up your
monthly premiums. This contrasts with income protection, which pays
a regular
monthly income if you are too ill to work regardless of the illness
you suffer from. You can use the lump sum or the
income however you wish, for example, to pay off or maintain
repayments on your mortgage.
Private medical insurance is designed to cover the costs of
private medical
treatment for what are commonly known as acute
conditions.
The insurance is designed to
finance long-term nursing
and other dependent care. A claim is payable if your health prevents
you from caring for yourself.
B. General insurance products:
Accident, sickness and unemployment insurance typically
provides benefit
for a limited period. A common form of this type of
insurance is
Mortgage Payment Protection Insurance which
usually covers your
mortgage payments for a maximum of 12 or 24 months in the case
of accident, sickness or redundancy. There is usually a waiting
period before payments are made of either 30 or 60 days.
You
will need to decide which of these risks concern you, and then select
the product(s) which meet your needs.
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