Income Protection - ASU

Before April 1995, you qualified for long-term sickness benefit if you were rendered incapable, by illness or disability, of doing YOUR OWN job of work. Since then, the rules state that you only qualify for long-term sickness benefit if you cannot do ANY job of work. In other words, only if you are completely incapacitated. This means that, for all intents and purposes, there is currently no long-term sickness benefit in the UK.

When you put this fact alongside the progressive reduction in the value of the State's long-term sickness benefit, you will see that the need to make provision against being unable to continue working in your usual occupation because of sickness or disability has become vital.

Even if you do succeed in getting long-term sickness benefit from the State, that benefit is now taxed and, if you were not claiming before 13 April 1995, you will not get the earnings-related top up. This used to be as much as ?85 a week. In other words, if you are not in a company scheme, you need to make private provision.

Types of income protection

There are three basic types of income protection: Permanent Health Insurance (PHI), critical illness insurance and mortgage protection insurance, which is effectively a combination of the previous two.

Permanent Health Insurance (PHI)

PHI pays you a tax-free income, usually roughly equal to 65% of your earnings at the time of disability, less anything you receive from the State or a former employee scheme.

Premiums can be high, but you can reduce them by opting for a lower specified level of income unrelated to your usual level of earnings. Additionally, you can choose to extend the deferment period between becoming disabled and starting to claim. This is normally four weeks, but can be voluntarily increased to anything from three months to a year. If you do choose this option, you must make sure you have enough savings to bridge the gap.

With any form of PHI, it is vital to link the insured income you choose to retail price inflation, both during the period when you are insured and for the whole payment period. These are usually equal. Making this form of extra provision costs more, but will be worth its weight in gold in maintaining the real value of your disability income over a prolonged period.

It is important to look for a policy that offers a guaranteed premium throughout its life. Some insurers may offer cheaper policies with a 'reviewable premium', but you will have no control at all over how much these increase as you get older. Similarly, you need to check the definition of eligibility to claim. The best definition is when you are unable to follow your own occupation (or an occupation suitable by training, education and experience). Any policy that only offers to pay out if you become unable to follow ANY occupation should be avoided like the plague.

Critical illness insurance

Critical illness insurance tends to be much cheaper than PHI. Unlike PHI, it pays you a lump sum on diagnosis of certain specified illnesses: it does not pay you an income on disability. The specified illnesses usually include cancer, heart bypass surgery, kidney failure, stroke, heart attack and major organ transplant.

It is crucial to remember that, unless your illness is on the list specified in your policy, you will not receive a penny: the relative cheapness of critical illness insurance has its price. Because of the strict limitations on qualifying disability, self-employed people might be best advised to provide for their dependants through a PHI policy.

In addition, it is worth bearing in mind that any lump sum you receive before death may push the value of your estate over the Inheritance Tax threshold. At present, your beneficiaries will be taxed 40% of any amount over ?234,000.

Mortgage protection insurance

Mortgage protection insurance is usually a combination of a scaled-down form of PHI together with term insurance: this is a form of life insurance that runs for the term of your mortgage to ensure that it is paid off if you die before the end of the agreement.

Mortgage protection insurance is often offered to you as a package when you take out your mortgage, and may be presented as a one-stop protection scheme covering any eventuality. This may be true, but such schemes are usually neither one thing nor the other or, if they are, can only achieve that by being more expensive than several separate and individually tailored policies.

For this reason, you should check the conditions of any such policy very carefully or consult your independent financial adviser before you sign.

Summary

There are many different ways in which you can provide for the security of your family or any dependants should you be left unable to work for any reason. Because of this, you would be well advised to speak to an independent financial adviser to be absolutely sure that you have exactly the sort of cover you need.