Financial protection

In this chapter we will examine the need for income protection, the features and product design of income protection plans, underwriting and claims considerations, the...

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...e created covering a variety of financial education areas. This presentation will be of most benefit to those learning about this area for the first time:

 

Most employed or self-employed people rely on their earnings to support their standard of living now and to provide for their standard of living in the future when they stop work. While some employed individuals will receive a continuation of their earnings for a limited period during illness, e.g. 6 to12 months, any incapacity which lasts longer than this means that they will become reliant on state benefits, which are likely to be much lower than their usual earnings.

The need is much more pressing for the self-employed where their income ...

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...eived

The amount of savings in place and how long these would be able to support the income requirements

The availability of state benefits: whether there is a sufficient NIC record to qualify for contributory benefits, or whether any benefits would be means-tested where the NIC record is incomplete

Taking all these factors into account helps to establish whether a shortfall would occur and how much cover is required.

Why could the need for income protection be more pressing for someone who is self-employed?

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Income protection is a long-term insurance that is designed to pay out a weekly or monthly benefit if the insured is ill or otherwise incapacitated under the terms defined in the policy document. Once the plan has been underwritten and is in force, as long as the insured maintains premiums, the insurance cannot be cancelled by the life office, no matter how many claims have been made. Policies are usually written over a specified term, e.g. to retirement age, after which the plan will cease. Claims in payment will also cease at the predetermined end date. Policies are usually non-assignable.

On some more recent policies, the benefit period may be for a shorter time (e.g. one to five years). Although premium rates are likely to be lower than on longer term policies, there may be stricter definitions of disability or reduced levels of benefit. There are also policies known as Day One or Back to Day One policies designed fo...

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... offer waiver as an option and most income protection plans include waiver automatically so that premiums do not continue to be paid in the event of a claim

Since 6 April 2006, personal pension WOP contracts taken out after this date no longer attract tax relief on the premiums paid and are now set up as separate contracts. Any plans in existence before this date will continue to receive tax relief on contributions, but care should be taken when considering any changes to a pre 6 April 2006 plan

Unemployment insurance

Some insurers offer unemployment insurance as part of their income protection policies. This however is usually written as a separate renewable annual contract meaning that premiums and terms and conditions can change at each renewal date, or at any time subject to six-weeks’ notice being given to the policyholder.

What benefit is payable from an income protection policy?

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Income protection plans generally contain the following features:

Deferred period

This is the waiting period between the onset of the illness or incapacity and when the benefit will start to be paid. Deferred periods can be quoted as weeks or months and are usually 1, 3, 6 or 12 months or 4, 13, 26 or 52 weeks, although cover is available from as little as 7 days. The shorter the deferred period, the higher the premium.

The benefit

The benefit may be paid up to a pre-determined maximum age (usually between 50 and 70) or may be paid over a shorter term such as 2 - 5 years. The longer the period of payment, the higher the premium.

Benefit limits

There are limits on the maximum amount of benefit paid from an individual income protection policy to ensure that a claimant will not be better off by claiming. This is generally 50% to 60% of the pre-claim earnings, less a deduction for state benefits. This is on the basis that the benefit is paid tax-free and this, together with state benefits should roughly equate to pre-claim earnings. For larger benefits these limits may be reduced to 25% to 35%

Other de...

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...icy

Employment insurance

This can be offered alongside an income protection policy and is a short-term general insurance plan which will pay benefits for a limited period in the event of redundancy or unemployment. This is a separate insurance with different terms and conditions (see chapter 9) but may appear to the client to be part of the same contract.

Additional benefits

Some plans now offer additional financial benefits to help claimants return to work that could be automatic or discretionary. An insurer may be prepared to pay for treatment or rehabilitation that would help the claimant return to work, especially if this offers a net saving to the insurer.

Added value benefits

Non-financial benefits may also be available through helplines or counselling.

Linked periods of illness

If an insured individual makes a claim, returns to work and then has another period of illness with the same condition, it is normal practice for the deferred period to be waived on the second claim for the same condition.

What are the two different types of income protection plan?

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Insurers all have their own definitions of incapacity and this is usually linked to the insured’s occupation.

Own Occupation - where the insured is unable to carry out their own occupation and not following any other employment. This is the widest definition and provides the highest level of cov...

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...im has been in payment for a certain period of time, perhaps changing from an ‘own’ to ‘suited’ occupation after a period of two years (for example).

What are the three main definitions of incapacity used by income protection insurers?

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Most income protection plans will have various general exclusions under which circumstances a claim would not be paid. In general, these are:

Disability due to, or caused by HIV/AIDS (unless contracted by an emergency services worker in the course of their duties or as a result of a blood transfusion)

Normal pregnancy and childbirth

War

Self-inflicted injury

Criminal acts

Misuse of alcohol or drugs

Failure to follow medical advice

Some types of policy have no standard exclusions and apply...

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...sed on the insured’s occupation immediately before making the claim. Therefore, if someone made a claim during a period of unemployment, for example, they could find that their benefit amount is reduced to the houseperson’s amount or potentially, depending on the policy, receive no benefit at all.  It is therefore important to read the terms and conditions of the policy carefully.

Name three general exclusions that will be included in most income protection policies.

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This differs greatly from the underwriting of life assurance as the underwriter looks at morbidity (the risk of being ill or disabled) rather than mortality (the risk of dying). Statistically, an individual is much more likely to be ill and survive than to die and women suffer more ill health than men.

Occupational Classes

Certain occupations are considered riskier than others. Some occupations will not be covered at all by insurers and other occupations are categorised by the level of risk they represent: <...

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...ured. Generally, the longer the term the higher the premiums and as morbidity risks increase with age, so the premium rates increase accordingly.

Premium rates are affected by age, deferred period, term, smoking status and any escalation options.

Since 21 December 2012, the EU Gender Directive has applied to all personal insurance contracts and premiums must be set on a unisex basis.

Which occupational class would you expect a retail store manager to fall under?

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Claims should be made in writing as soon as possible after the insured becomes incapacitated, even though this may be well within the deferred period. The insurer will then:

Assess the claim against their definitions of incapacity

Consider whether they require additional medical evidence

Request a medical examination if there are any suspicions su...

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...yment for a ccertain amount of time, e.g. where own occupation definition changes to any suited occupation after a period of two years. This change is significant as the individual may not be eligible to continue to receive benefits under the stricter criteria.

Why would an insurer request a payslip or a P60?

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Individual income protection plans provide benefits that have no liability to any income or capital taxes. Benefits are paid directly to the life assured and paid gross. However, where the premiums are tax relievable as a business expense, the ...

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...benefit is taxable the insurer will often allow a higher percentage of the salary to be insured.

What is the tax liability of benefits paid to an individual from an individual income protection policy?

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Some employers provide income protection for their employees. This may be as an additional benefit for the employees or to provide compensation to the employer for the extra costs they may incur when an employee is off sick.

The employer runs the plan and will pay the premiums to the insurance company

In the event of a successful claim and after the deferred period the insurer pays the benefit to the employer

The employer pays the employee via the PAYE system, deducting ta...

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...p;employee is off work, the employer will not have to fund salary payments in return for no work

Insurers may offer ‘free cover’ – an amount of insured cover without requiring any medical underwriting – provided that all eligible employees are actively in work on the day they are eligible to join the scheme and all employees join.

How would an employer normally pay group income protection benefits to an employee?

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This revision test (opens in a new...

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... test will be added to your CPD certificate.