Income protection seems to be the Cinderella of protection policies, with most commentators concentrating on life cover. This is absurd as death is unlikely during your working life; being unable to work through illness or accident is much more common and a specific type of protection insurance has existed since the late Victorian Era to address it.
One example of this bias towards life insurance I saw recently was Andrew Oxlade on the Telegraph website and his seven rules to permanently fix your personal finances. After firstly, writing a will and secondly, paying down your credit cards and other personal debts, his step 3 was;
“Set term life insurance if you have a family to support: use an online calculator and buy it through a discount broker, …………rather than a traditional broker. The savings are immense.”*
Although I can guess where he is coming from, term life cover only deals with the most extreme of circumstances, life has more shades of grey.
By definition, life cover only pays out when you are dead. Not being dead, but otherwise unable to work will be a bigger issue for the family as the income earner is incapacitated and many of the costs, (food, heat, light), still remain. As sick pay outside of the public sector is minimal, most people will be trying to survive on Statutory Sick Pay, (SSP), of £88.45 per week, which will only last for a maximum of 28 weeks.
Income protection will pay out when you cannot work, rather than waiting for your demise and the better plans will pay out until you return to work, retire or die, however long that may be. The key to buying this well is to match the deferred period, (the waiting period before you actually receive a payout), to the likely duration of your savings or company sick pay. The longer the deferred period, the lower the premium, so this can require some care and skill. As a further complication, the maximum monthly income is about 50-65% of normal income, with the last few extra % costing disproportionately more.
I must draw your attention to a superficially similar product, Accident, Sickness and Unemployment Cover, (ASU), which will pay out on a sickness diagnosis, but will have a limited payout period, usually 12 or 24 months and will not be renewable. The distinction here is that Income Protection is a “permanent” policy and is cancellable by the policyholder or by non-payment of premiums, not just by getting ill!
For most people with young children and a mortgage, I would suggest that the protection insurance priority list is as follows:
- Mortgage protection cover, (either decreasing to match a repayment mortgage or level to match an interest only one), for the mortgage. (Without it, there would probably be a forced house sale on death).
- Family Income Benefit, (a fixed payment every month to replace income lost by the death of the income earner).
- Income Protection, or if this in unavailable through ill health or budget, critical illness, equivalent to 5 years or more of income, possibly as an add-on to the mortgage protection cover.
Each family and circumstance is different; debts, like car loans and hire purchase would suggest a need for short term, level life cover as well as the above, but access to the Bank of Mum and Dad might remove this need. If you do not have a mortgage, then income protection probably should be priority 1, as no income will equate to nowhere to live, as you cannot pay the rent!
The problem with protection insurance from restricted brokers is they will sell what they have got to sell, not what you actually need. As most families are underinsured, any cover is better than none, but tailoring it to the exact need is the ideal solution. On the market today is a mortgage protection plan, so it has a decreasing payout on death, but it includes critical illness on a level basis, try getting that from a discount broker!
*(See the original article at http://www.telegraph.co.uk/finance/personalfinance/11565981/Seven-rules-that-can-permanently-fix-your-personal-finances.html).
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