Income Protection Guide

Income Replacement Insurance

What is Income Protection?

Income protection insurance provides an income should you be prevented from working due to sickness or injury for any reason (subject to one or two exclusions). It differs from trauma insurance that only pays out if you contract one of a list of specified illnesses in that income protection insurance assesses your ability to do your own job.

A good example is Chronic Fatigue Syndrome that some doctors diagnose as a mental illness, whilst other doctors diagnose as a viral illness. Since whichever way you look at this, you are unable to do your job due to illness, an income protection policy would pay out.

These insurance policies pay you an income, usually equivalent to 75% of your normal salary, if you are unable to work for a long period. The income is usually paid until your specified retirement age, you return to work, or pass away, whichever first.

If you are self-employed then the benefits under the plan are usually based on your taxable income over the 12 months prior to you being unable to work.

Income Protection – What different types are there?

Care should be taken to check what the insurance company means by long term illness/disability. Definitions usually fall into 3 categories:

  • Own Occupation definition – An income payout occurs if by reason of illness, accident or injury you are unable to perform your normal occupation.
  • Own or suited occupation – An income payout occurs if by reason of illness, accident or injury you are unable to perform your normal occupation or an occupation suitable to your training and experience.
  • Own or any occupation – An income payout occurs if by reason of illness, accident or injury you are unable to perform any work at all.

As a general rule it is better to consider a plan that pays the benefit if you are unable to carry out your usual occupation, ‘Own occupation’. Some plans will only pay a benefit if you are so sick or disabled that you cannot work at all, ‘Own or any occupation’. It is far less likely you will be unable to do any work than you are unable to continue your usual occupation.

Why set up a policy that limits the payout when you need it most when an alternative company may offer you a better definition for the same cost. You may also have an older type of plan with outdated definitions and expensive pricing.

Term of insurance cover

The length of potential payout if you were to claim from day one. You can typically set up your income protection to cover you until age 55, 60 or 65 to tie in with your desired retirement age. This also impacts on the potential premium since a policy to age 55 has a shorter potential payout and risk to the insurer.

Index-linked benefits

You can choose at outset whether you want your benefits to increase to account for inflation. This is can be an important benefit within an income protection plan since 75% of your salary today is likely to buy you a lot less in 10 or 20 years.

Deferral periods

You can choose the period of time you must be off sick from work before your policy starts making a payment. Deferral periods range anything from 4 weeks to 12 months, the longer the deferral period the lower the premiums to the policy will be.

You should also consider any long term payments from your employer. If your employer has a policy of providing 3 months sick pay, an insurance company would wait until your 3 months pay has ceased before making payments to you.

Alternatively, you may feel your savings are adequate in the event of short term illness up to 12 months and set your deferral period to 12 months to reduce cost.

Occupation risk

Certain occupations are statistically more likely to cause illness or accidents, this means the risk of a policyholder making a claim is greater for the insurer. This extra risk has two ways of showing itself, either through higher premiums for such occupations or in a greater number of restrictions under the policy. After all, why should an office worker pay the same premiums as a deep sea diver?

There are also a number of insurance providers who specialise in insuring specific groups and you may find these more cost effective. Our planners are not limited by a panel and will consider the whole market in discussing the implications of your occupation on the premiums and finding the most suitable provider for you.

Many individuals still hold old outdated policies from previous years with outdated exclusions and premiums.

The Government encourages you to insure yourself

Income Protection Insurance is actively encouraged by the Government. By insuring yourself, you are less likely to fall back with a long term claim on the Government’s Centrelink benefits. They have provided incentives by allowing income protection premiums as a deductible expense on your tax return (note, its taxable as earned income when claimed).

An income is the key to all your and your families’ financial aspirations. Insuring for long term illness ensures that you continue to receive an income and provide for all your future needs and dreams.