Conal Gregory: Why it pays to prepare for an accident or ill health

Everybody should take sensible steps to protect their family.
Everybody should take sensible steps to protect their family.
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It is incredible that so many people disregard the possibility of an accident or ill health and put their lifestyle – as well as their dependents – at risk by not taking out protection cover.

It is low cost and payments made are tax-free.

“For such a vital commodity, it never ceases to amaze me how much income protection is taken for granted,” says Keith Richards, chief executive of the Personal Finance Society.

Income protection (or IP) is an insurance policy designed to provide financial security if you are unable to work owing to an accident or sickness.

Disraeli was prime minister for the second time when George Holloway, MP for Stroud and a mill owner, proposed a scheme to not only replace lost earnings arising from illness or injury but to also help subscribers to build up a cash sum for their retirement. The 1875 initiative became so popular that societies were formed to offer ‘Holloway’ contracts which are still actively available today.

There are also many IP providers whose policies do not have a savings element. In total there are 1.1m individual and 2m group IP policies, according to the Association of British Insurers. This means that the uptake is still worrying low at only three and a further seven per cent of the working population respectively.

Each year around a million people face financial hardship for which they are ill-prepared. According to the Office for National Statistics, just 1.7 per cent of income is put aside for a rainy day, which is the lowest ratio since records began in 1963. Research by Legal & General reveals that if income suddenly stopped, the average employee’s ‘deadline to breadline’ is just 32 days.

Aviva’s report last year, Protecting our Families, revealed that almost half (45 per cent) of parents with dependent children could not support their lifestyle for a month if the main earner was unable to work. Even by spending the absolute minimum needed to support their family, over one in three families (36 per cent) could not survive a month unsupported.

Yet there is a clear disconnect of how IP can assist as 76 per cent of parents have no plan for dealing with lost income owing to ill health. The Risk Reality Calculator provided by LV= online should prove helpful. It is quick to use and easy to understand.

The association says the three main reasons for claiming are cancer, musculoskeletal and mental health illness with individual claims averaging £10,400 (up from £9,797 in 2015) and mental health illness the highest at £13,730.

IP providers pay out £1.4m each day, amounting to £499m annually.

The self-employed are particularly vulnerable as they are not entitled to sick pay. Yet budget cover can be obtained for as little as £5 a month – a small price to pay for financial resilience. Far more is spent on mobile phone contracts or TV packages.

It is important that an experienced broker is involved as any incorrect information can result in a claim being refused. Non-disclosure, such as for a past health matter, and not meeting the definition – which means being judged well enough to continue working – are the reasons for declining claims.

A broker can also guide as to the most appropriate provider for your needs and ensure the correct job description is given. As an example, an architect could still be employed as, say, a gardener but that would not be commensurate with their qualifications and experience.

There are four main definitions used to determine disability:

unable to do own occupation ‘suited’ (such as a teacher could become a lecturer) activities of daily work activities of daily living.

The latter might mean the claimant can fulfil three out of six activities such as able to climb stairs unaided or write without help. Such a definition will mean a cheaper premium but not recognise professional or trade skills or qualifications. Providers are therefore far less likely to pay out.

“IP is vital for all working individuals. It is a crucial safety net for those instances when an illness prevents you from being at work and earning a salary to pay bills and meet daily expenses,” says Raluca Boroianu-Omura at ABI’s Health and Protection Division.

Providers are not just making cash payments but have systems in place to intervene and support, such as during the early stages of illness, whether mental or physical. This helps individuals to recover and shorten significantly the period of absence from work owing to ill health.

It is worth checking if you already have IP through your employer but most people do not. Many over-estimate the sick pay likely to be paid and so that also needs to be reviewed.

Premiums are relatively inexpensive. LifeSearch, a leading IP broker, says that a 40-year-old in good health who is a non-smoker, working in administration, can obtain monthly cover of £1,000, deferred for six months, until aged 60, for £7 monthly for a two-year payment period or £14 for a long-term period.

One key but little publicised point is that IP payments are tax-free. Depending on the policy chosen, payments can continue until retirement.

When choosing the right policy, consider definition, deferment period as to when first payment should start, if premium is guaranteed, length and amount of payment. Many friendly societies will pay out after a day or even a week but most other providers work on longer deferment periods.

If sufficient savings are in place to pay any mortgage, council tax bills and household expenses, then postponing the first payment makes sense.

Taking a non-smoker, self-employed painter and decorator who starts IP at 39 and will retire at 60, deferring payments at £250 a week has a marked impact on premiums. According to Moneyfacts research, on a monthly basis, AIG Life requires £38.35 for a 13-week delay, £33.76 for 26 weeks and £29.34 for one year.

If considering a Holloway contract with a lump sum on retirement regardless of whether a claim has been made, on the same basis Cirencester ranges from £32.88 to £25.44, Dentists’ Provident £35.01 to £17.84, Exeter £47.92 to £39.46 and Holloway Friendly £31.92 to £16.82.

“For working people, IP is probably the most important protection product you can buy,” says Nick Telfer, product and marketing director at British Friendly.

Policy payments can run for a short period – such as one, two or five years – or until retirement age. Smoking roughly doubles the premium. Most premiums are guaranteed.

The main exceptions are British Friendly, Dentists’ Provident (restricted to those qualified to practice dentistry) and Zurich Assurance.

On the maximum benefit payable, most providers work on 60 per cent with Aegon on 55 per cent and 66.6 per cent with Forester Life. However, watch the upper annual payment which varies immensely: £34,000 at Holloway Friendly to £240,000 (Aviva) and £250,000 (Royal London).

Auto-enrolment for pensions has already shown to be a success. As it progresses and in a similar vein, IP could be taken on board by the Government. Helping more people to protect their lifestyle is an exciting goal and well worth striving for.

Simon O’Hara is a self-employed 48-year-old window fitter who realised the risk he was taking in a hazardous job and has taken out income protection.

Guided by the experienced specialist broker LifeSearch, Kevin has chosen British Friendly, a mutual without shareholders which was founded in 1902.

Simon said: “It’s very important to have income protection. It gives me peace of mind.” He installs windows, doors and anything glass-related.

For a monthly premium of £18.89, Simon will receive £1,166 monthly after a four-week deferral period.