What is Income Protection insurance?
UPDATED 1st October 2021: Following Income Protection changes due to APRA Sustainability Measures.
Income Protection insurance provides a replacement income stream should you become unable to work due to an injury or sickness.
Benefits are paid monthly, not as a lump sum.
The maximum income replacement ratio is 70% (this was 75% prior to 1st October 2021). Optional cover may boost this to 90% in the first 6 months of a claim.
How much does Income Protection insurance cost?
Income protection insurance premiums vary depending on your age, gender, smoking status, occupation and the cover options you select.
You will need to choose how quickly the income protection payments from the insurer will start (the “waiting period” or “excess period”) and how long the benefit will be paid for (the “benefit period”).
Income Protection insurance premiums are more expensive the shorter the waiting period and the longer the benefit period. You can save up to 40% on your premium just by extending your waiting period.
Income protection insurance waiting periods are typically 14 days, 30 days or 90 days.
However it may take up to 30 days after the end of the waiting period to receive the first monthly payment depending on the insurer’s payment cycle.
Waiting periods of up to 2 years are also available to supplement super fund policies (which typically end after 2 years of payments).
Income protection insurance benefit periods are typically 2 years, 5 years or to age 65, with some insurers also offering to age 70.
The benefit period is different to the expiry age of the policy which is when the policy can no longer be renewed.
Income protection payments will stop after the benefit period ends, even if you continue to be unable to work due to injury or illness. Therefore the longer the benefit period the better.
Policies with a 6 month or 12 month benefit period may provide some short term bill paying relief but are not considered true income protection insurance policies because they do not protect against long term loss of income.
Adding a claims indexation option or claims escalation option will ensure that income protection benefits paid while on claim are escalated in line with inflation to maintain their value in real terms.
To find out how much these different features can affect the price of an income protection insurance policy see 20 tips to lower income protection insurance premiums.
Also, depending how long you expect to have your policy, there may be savings with a level premium vs a stepped premium.
Why do I need Income Protection insurance?
Whether you are single or have a family, you need to ask yourself “how would I survive without my income?“
Your income is your biggest asset, not your house or your car. A 30 year old earning an “average” wage of $80,000 per annum which is indexed by 3% inflation each year will earn over $5 Million by the time they turn 65.
Most people rely on their income to pay the bills and maintain a certain living standard. It may be difficult to pay the mortgage payments and school fees if all you are earning is the disability pension from the government of around $23,000 per annum.
An ongoing income is also necessary to build wealth and provide for retirement. It is the foundation of any financial plan. Without income protection insurance an unexpected illness or injury can create financial insecurity and result in a less comfortable retirement.
Having a large amount of sick leave or being covered by workers compensation insurance does not mean you don’t need income protection.
Sick leave may allow you to save money by having a longer waiting period, however it does not give long term financial security.
Workers compensation insurance does not cover accidents occurring outside work hours such as car accidents and sporting accidents. Also very few illnesses are covered by workers compensation and these are by far the biggest source of most income protection claims.
Income protection is particularly important for small business owners and the self employed. They are unlikely to have the luxury of sick leave or workers compensation and may have others reliant on them who will lose their jobs if the business collapses.
How is income protection different to Trauma and TPD insurance?
Unlike Trauma insurance, Income Protection insurance does not specify a list of covered conditions, so any illness or injury which prevents you from working is covered. There is therefore broader coverage available for conditions like back pain and stress related illnesses which are not trauma conditions.
However trauma insurance provides an upfront lump sum benefit which can be used to meet the costs of expensive medical treatments, so there is a case to have both covers.
Unlike TPD (total and permanent disability) insurance, Income Protection insurance does not require you to prove that you are permanently unable to work and therefore claims can be paid for both short and long term illnesses or injuries (depending upon the benefit period).
Unlike income protection, TPD insurance provides a lump sum benefit which can be used to pay off debts or meet medical costs. However the TPD lump sum may not be sufficient to cover your ongoing costs and when this is exhausted you may still find yourself reliant on social security. An income protection policy with a benefit period to age 65 will ensure that you will continue to receive a monthly income stream up to age 65 if you are still unable to work.
Is Redundancy or Involuntary Unemployment covered by Income Protection insurance?
Normally Income Protection insurance policies do not pay a monthly benefit if you are made redundant or involuntarily unemployed. Where unemployment benefits are included in an income protection policy these benefits are usually limited. Some insurers will waive your premium while you are unemployed or will allow you to put your policy on hold for a period of time.
How much Income Protection insurance cover can I purchase?
The maximum amount of Income Protection insurance cover you can purchase (the “monthly benefit”) is usually limited to:
- If you are employed: 70% of your current gross income (excluding employer superannuation contributions but including packaged fringe benefits)
- If you are self employed: 70% of the income generated by the business due to your personal exertion less your share of expenses.
In some cases the maximum income protection cover level can be increased by up to 10% by taking out a super contribution option. However this additional 10% will be paid directly to the super fund, not to you and therefore cannot be used to pay bills.
A lower percentage of income may apply above certain income limits (e.g. for incomes over $200,000) and overall maximum levels of monthly benefit sum insured will apply. The insurer may request financial evidence of your income which can include tax returns, group certificates or a letter from your employer.
Can I have multiple Income Protection policies?
It is possible to have more than one Income Protection insurance policy, however it is important to ensure that you are not over-insured. This is because in the event of a claim all policies which cover you against loss of income will usually be “offset” against each other so that you do not receive more than the maximum 70% of your income.
It will usually be cheaper to have one policy rather than multiple policies due to the discounts available for larger monthly benefits. However there are a number of reasons why you may take out more than one income protection policy.
Many super funds offer income protection with a benefit period of 2 years only. This would usually be inadequate to provide long term financial security. A solution can be to be supplement the super policy with another policy that has a 2 year waiting period, so that it commences when the other policy ends.
Some super funds offer only a small default monthly benefit. This may be inadequate to cover your costs, requiring you to take out another policy to top up this amount.
Superannuation legislation means that income protection policies provided by a super fund can only have limited benefits and restricted definitions. Taking out a second “superlinked” policy can enable the more generous definitions and benefits provided outside of super to be accessed with only a small personal outlay.
Are Income Protection insurance premiums tax deductible?
Unlike other forms of personal risk insurance, income protection insurance premiums are generally tax deductible for most taxpayers.
This means that the after tax cost of the cover can be significantly less than the cost of the premium.
Will my Income Protection insurance claim be paid?
Total claims paid by life insurers in 2019 have been estimated to be over $12 Billion.
A review by ASIC in 2016 found that on average approximately 90% of all claims submitted were paid and of these 93% of Income Protection insurance claims were paid. The main reasons for declined claims were non-disclosure at time of application and ineligibility due to policy definitions, limitations, exclusions or pre-existing conditions.
Insurance claims statistics from the insurers show that the highest number of income protection claims are due to: musculoskeletal conditions (e.g. back pain), mental health disorders (e.g. stress), cancers, accidents/injuries and nervous system disease.
Also we have used recent statistics from ASIC and APRA to highlight the claims acceptance rates and average claim times of individual insurance companies compared to the industry average.
If you have taken out an income protection insurance policy through Insurance Watch and you need to make a claim we will help you during the claims process.
Recent Income Protection insurance claims paid to Insurance Watch customers:
• $4,800 – paid to 27 year old carpenter over 2 months for hand operation
• $66,000 – paid to 29 year old administration worker over 15 months due to mental illness
• $15,000 – paid to 33 year old physiotherapist over 3 months for shoulder injury
• $106,500 – paid to 34 year old teacher over 3 years and ongoing for depression
• $117,500 – full and partial benefits paid to 36 year old painter over 12 years and ongoing due to arthritis
• $10,000 – paid to 39 year old physiotherapist over 2 months for foot fracture
• $24,900 – paid to 41 year old surgeon over 2 months for fractured bone in arm
• $232,000 – paid to 44 year old accountant over 3 years and ongoing for chronic fatigue
• $32,900 – paid to 44 year old truck driver over 3 months with tennis elbow
• $8,400 – specific injury benefit paid to 45 year old engineer for fractured hand
• $3,800 – partial benefit paid to 52 year old doctor over 1 month after bicycle accident
• $2,300 – paid to 52 year old tiler for 1 month off work due to injury at work
• $10,300 – partial benefit paid to 56 year old admin officer over 7 months and ongoing for multiple sclerosis
• $230,200 – paid to 57 year old property manager over 4 years and ongoing for back pain
• $13,400 – paid to 63 year old teacher over 3 months for shoulder pain