What is Income Protection Insurance
Income Protection Insurance allows you to continue to receive up to 75% of your pre-tax earnings if you’re off work due to an illness or injury. Only income from ‘personal exertion’ is insurable; ie: rental and investment income is not insurable.
Income Protection benefits are possibly the most important insurance of all as without an income everything you have worked for is at risk.
Income Protection is a very complex product and you really need the assistance of an expert insurance adviser to help you get the right mix of benefits and options.
- 37% of male claims are for ACCIDENTS – they probably got ACC
- 63% of male claims are for ILLNESS – definitely no ACC payable!
- 18% of female claims are for ACCIDENTS – they probably got ACC
- 82% of female claims are for ILLNESS – definitely no ACC payable!
Source: Tower Health & Life Dec 2009
Agreed Value vs Indemnity Value Benefits
Income Protection Insurance is offered in two versions
Indemnity Value Income Protection: – under this version you can insure up to 75% of your pre-tax earnings; the premium will be tax deductible whilst any benefits received will be assessable for tax.
With this version your income is not verified by the insurance company until you claim. Most companies allow you to use evidence of income from up to 5 years previously to prove your income.
For salary and wage earners it’s easy to prove your income, just produce 2 payslips.
For self-employed people; to prove your income requires 2 years business accounts to be submitted as evidence plus ongoing monthly evidence of business income. This could prove difficult if you’re in hospital!
Agreed Value Income Protection: with this version you can insure up to 55% of your pre-tax earnings; the premium will not be tax deductible and any benefit received will not be assessable for tax.
With this version you must submit proof of your income when submitting your insurance application.
“Agreed Value” benefits generally cost 5% more than “Indemnity” benefits.
TIP: Self-employed people are advised to have Agreed Value Income Protection to avoid needing to prove income when they’re unwell or in hospital and needing to claim.
Income Protection Insurance is designed to replace any income that is lost during a period of disability. If you are receiving a sickness benefit, ACC, sick leave or ongoing business income this will normally be offset against your Income Protection benefit to ensure you don’t receive more than 75% of the lost income. This shortfall ensures there is an incentive to return to work in the same way that ACC pays a maximum of 80%.
Just like your house and car insurance, Income Protection has an excess; these are called “Waiting Periods” or “Stand Down Periods”.
This is the number of weeks you must be off work before you benefit commences. The longer the Waiting Period, the lower the premium.
People with lots of sick leave owing or who are in a strong financial position can take a longer Waiting Period to reduce the cost.
In later years, if you find the premium getting too much for your budget you can alter the Waiting Period to reduce costs allowing you to keep the Income Protection Policy in place, possibly when you need it the most.
Normal waiting period options: (weeks) 4; 8; 13; 26; 52; 104
Some companies now pay the full monthly benefit immediately the Waiting Period ends, then monthly thereafter.
Some companies will pay half the benefit immediately the Waiting Period ends and the balance at the end of the month, then monthly thereafter.
Some companies will pay the benefit one month after the Waiting Period ends. This means that if you had a 4 week Waiting Period you would receive the benefit after 8 weeks.
Benefit Payment Periods
Most Income Protection Insurance policies will pay the benefit until you return to work or reach age 65, which ever occurs first.
However another way to control costs is to opt for a shorter benefit payment period.
Most common options are; 2 years; 5 years; to age 60; to age 65.
Some riskier occupations (eg: truck drivers) are only offered the shorter benefit periods.
People who are newly self-employed will be offered a shorter benefit period initially, until the business is more established, and will have their monthly benefit capped at $2,500pm
Most policies include some or all of these as standard
Partial Disability Benefit – if you have been totally off work for at least two weeks and return to work in a reduced capacity because of your disability, you will receive a partial benefit if your earnings are under 75% of your pre-disability income. This benefit is payable until your earnings exceed 75% of your pre-disability income or until the end of your chosen benefit period, or until you recover from your disability.
Hospitalisation/Nursing card Benefit – This benefit provides additional financial support during your Waiting Period if you are in hospital or under full time nursing care at home. After 3 days in full time care you receive 1/30th of your monthly benefit per day, up to 90 days.
Family Member Support benefit – If you are unable to work and confined to bed, additional financial support of up to half the monthly benefit is paid to allow an immediate family member to provide care.
Rehabilitation benefit – If you need retraining to re-enter the workforce and undertake an approved rehabilitation program, then you will receive up to an additional 50% of your monthly benefit for a maximum period of 12 months.
Recovery Support Benefit – this is payable in addition to the monthly benefit, to assist in recovery and rehabilitation costs such as buying a wheelchair, prosthetic devices, and house and car modifications.
The maximum amount is normally six times the monthly benefit
Recurring Claim Benefit – the Waiting Period is waived on claims which result from a relapse or recurrence of the same or related illnesses within 12 months of returning to work.
Specific Injury Benefit – this not a normal feature of Income Protection but is unique to only one company) if you were to suffer an injury specified in the policy document you may receive a fixed sum benefit regardless of whether you’re unable to work or not. Payments are paid for injuries ranging from simple fractures to loss of limbs.
Waiver of Premium
Waiver of Premium benefit pays the premium on your policy during a period of disability.
Optional Extras (these generally cost extra)
Extended benefit – Income Protection Insurance benefits normally cease at age 65. However by adding this option to your plan, if you have been disabled for at least three months prior to your 65th birthday and you are unable to perform two or more “Activities of Daily Living” then your benefits will continue.
Booster Benefit – this option increases your benefit by one third during the first three months of your claim when the costs associated with your disability are often higher. It also has the effect of giving you back one months benefit of your Waiting Period.
Business Expenses – Self Employed people can choose to insure their business’ expenses as well as their own income to ensure there is a business to come back to after their health recovers.
How much Income Protection Cover do I need?
If you have a young family, mortgage and you are the major income earner – then you probably need to insure your full income (either 75% Indemnity or 55% Agreed value).
If you are the joint equal income earner – you could probably get away with insuring only half your income.
If you have few debts or expenses – then you only need to insure an amount necessary to put food on the table and/or pay the bills. However, only insuring a small proportion of your income is a risky strategy, possibly endangering your future earnings potential and lifestyle.
NB: your income is your major asset, “the goose that lays the golden eggs”, without which, everything falls apart. It is recommended you insure your full income, but if you really can’t afford to it’s better to have some cover than no cover!
Source: American International Assurance – November 2009 to December 2010 Payouts
DISCLAIMER: These explanations and comments are general in nature only. You must refer to the appropriate policy document wordings for full and complete understanding.