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Income Protection Insurance

Income Protection Insurance

What is Income Protection insurance?Life Insurance Income Protection

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 amount of cover is restricted normally to 75% of your gross salary.

Premiums are generally tax deductible – find out more.

How much does Income Protection insurance cost?

Income protection premiums vary depending on your occupation and the cover you select. You will need to choose when 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”). Premiums are more expensive the shorter the waiting period and the longer the benefit period.

Income protection 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 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 are not considered true income protection policies because they do not provide long term protection.

Adding a claims indexation option will ensure that benefits paid while on claim are escalated in line with inflation to maintain their value in real terms.

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 for 12 months or longer?”

Most people rely on their income to pay bills and maintain a certain living standard. 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 derail your financial future.

Unlike Trauma insurance, Income Protection does not specify a list of covered conditions, so any illness or injury which prevents you from working is covered. Therefore broader coverage is available for back pain and stress related illnesses which are not trauma conditions. Unlike TPD (total and permanent disability) insurance, income protection insurance does not require you to prove that you are permanently unable to work.

Is Redundancy or Involuntary Unemployment covered?

Normally income protection policies do not pay a monthly benefit if you are made redundant or involuntarily unemployed. Where unemployment benefits are included these 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. Two of the insurers compared by Insurance Watch will pay your loan repayments for three months while you are involuntarily unemployed, but only if your loans are from their related banks i.e. ANZ for OnePath and CBA for CommInsure.

How much Income Protection cover can I purchase?

The maximum amount of cover you can purchase (the “monthly benefit”) is usually limited to:

  • If you are employed: 75% of your current gross income (including employer superannuation contributions and packaged fringe benefits)
  • If you are self employed: 75% of the income generated by the business due to your personal exertion less your share of expenses.

A lower percentage of income may apply above certain income limits eg $250,000 and overall maximum levels of monthly benefit sum insured will apply. The insurer may request financial evidence of your income including tax returns over the last 12 months

Are Income Protection insurance premiums tax deductible?

Unlike other forms of personal risk insurance, income protection premiums are generally tax deductible for most taxpayers. The after tax cost of the cover can therefore be significantly less than the cost of the premium.

Other topics

Choose waiting period carefully

The waiting period dictates how long you have to wait before you are eligible to receive payment under your income protection policy following a claim. You will not be able to lodge a claim until the expiry of the waiting period and you should allow for the fact that it could take some time for the insurance company to process the claim before paying your first entitlement.

In choosing a waiting period it is important to consider your financial commitments such as mortgage and other debt payments and the short term funds you have at your disposal. Unused sick leave and annual leave entitlements may also influence your choice of waiting period. Ideally the shorter the waiting period the better such as 14 or 30 days (however some companies may not offer these options to certain blue collar occupations). However significantly lower premiums can be achieved by accepting a longer qualifying period.

Claims Escalation

The Claim Escalation Option is important in the event of a claim as it will ensure that the monthly benefit you are paid is increased in line with inflation. If you choose to purchase cover to age 65, this option is highly desirable as your claim could extend over a prolonged period. Conversely if you are purchasing cover for a benefit period of only 2 or 5 years you may decide the escalation option is not as important and save the extra cost on top of the premium.

Occupation influences premium

One of the major factors influencing the size of premium is occupation. White collar workers and professionals will generally be charged lower premiums than blue collar workers due to the generally lower risk of injury. This is also a major point of differentiation between the companies with some choosing to target particular occupation groups with lower premiums, e.g. nurses or doctors. There are some occupations which are not covered by any insurance companies or by only a few, e.g. actor, model, pilot, bicycle courier and armed forces. Comparing premiums using Compare Insurance Quotes can be of help in identifying the cost effectiveness of each policy as a first step in achieving the best overall package for your particular circumstances.
See Special Considerations for Doctors.

"Total Disability" definition is important

Income Protection policies are very complex products and policy definitions can differ greatly between companies. One of the most important definitions to compare between policies is “total disability”. There are three types of total disability: inability to perform duties, reduction in income and reduction in hours. Some policies only have one definition of total disability while others have all three. Being able to choose between definitions at the time of an income protection claim can increase your probability of success.

Like TPD insurance, the type of duties or employment you must not be able to perform will govern whether you are considered “totally disabled” or not under an income protection policy. Some policies define employment to be any employment, including lower paid unskilled work. It is important therefore that your policy will cover you if you are unable to work in your regular or “own” occupation.

AIDS/HIV cover

Cover against contracting HIV or the AIDS virus is automatically included is some policies. However others offer the ability to exclude it and achieve a lower premium payable.

Stepped versus Level premiums

Both stepped and level premiums are available. However because of the cost of locking in a flat or level premium into the future, level premium policies are usually substantially more expensive in the early years.

Indemnity versus Agreed Value policies

With an Indemnity policy the monthly sum insured is not a guaranteed amount – it is the maximum benefit payable. The actual benefit is calculated as a percentage of the income earned in the period prior to making a claim and evidence of income is not required until a claim is made. If your income falls after you take out cover your claim will be based on the lower income amount. These policies are best suited to salaried employees who expect their incomes to be constant or rising in the future.

Agreed Value policies offer a guaranteed minimum monthly sum insured (which cannot exceed 75% of gross income at the time of taking out insurance). Evidence of income must be provided to the insurer at the time of application. These policies remove the uncertainty that you may be paid less if your income has fallen over the period preceding your claim. These policies are particularly suited to self employed applicants who can meet the past income evidence requirements. Newly employed or self employed applicants may find that initial cover will only be available on an Indemnity basis until they have an established income history.

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