ProtectionJun 4 2014

Income protection: The unloved policy

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Protection is a catch-all term for products that offer financial security to policyholders and/or their dependants if they are thrown into financial jeopardy by an unexpected situation, whether that is death, illness or sudden unemployment.

Under that banner lies a wide range of products offering diverse benefits, triggered by distinct life circumstances.

There are three different types of life insurance alone. Level term life assurance (or insurance) is by far the most well-known option, providing a level lump sum for dependants should the policyholder die within a fixed term.

This differs from the lump sum that shrinks over time on decreasing-term life insurance policies, which involve much lower premiums and are often used to cover repayment mortgages which reduce a policyholder’s debt burden over time.

Then there are family income benefit policies, ensuring that dependants receive a pre-agreed level of income lasting a fixed term in the event of death.

Alongside these are more nuanced protection products such as critical illness, terminal illness and income protection, which all in one way or another provide a security blanket in the form of an income or lump sum should somebody be unable to work or otherwise suffer financially due to serious ill health.

Alan Lakey, partner at Hertfordshire-based Highclere Financial Services says: “Whilst most critical and terminal illnesses may stop you from working there are numerous lesser conditions that can stop you from working but are neither critical nor terminal.

“Statistically muscular-skeletal conditions and stress/anxiety account for around 40 per cent of all IP claims and these are unlikely to invoke a CI or TI claim. Similarly broken limbs, pneumonia, bronchitis etc will stop somebody working for weeks or months but will not trigger a CI or TI claim.”

IP vs CI

Mr Lakey notes that there are currently 2.25 million people signed off as unfit for work for over six months, which he says proves not only the need for more protection, but that more people should have a suite of complementary protections.

In particular he notes that income protection is a key policy that provides specific security and that is underused in favour of simpler CI alternatives.

“These people [signed off work] rely on state benefits, modest though they are, placing a strain on the economy. This is as much a social issue as it is one for the insurance world.

“There will be many consumers who have to cancel their life and CI plans because their income has stopped - and this in itself highlights why IP should be more widely sold/purchased.”

Statistics produced by the FSA show that CI policies, sold as a rider benefit alongside mortgage protection or term assurance, made up 80 per cent of protection sales in the UK in 2011/2012.

Kevin Carr, chief executive of the Protection Review, says this is not surprising, as demand for life insurance from clients has presented an ideal knock-on opportunity for advisers to discuss the importance of critical illness cover.

Peter Chadborne, founder of Essex-based adviser Plan Money, says critical illness can be sold “simply on the same terms as life cover”, with the client deciding how much cover might be needed and how long the policy should last in order to provide the maximum benefit.

By contrast, IP and so-called ‘standalone’ critical illness sales remain far lower. The FSA revealed that IP policies only accounted for 16 per cent of protection sales in 2011/2012, while critical illness policies sold in their own right, not as an “add-on” to mortgage or life assurance, only made up 4 per cent of overall sales.

Mr Carr adds that most people prefer the idea of receiving a lump-sum benefit rather an income.

Phil Jeynes, head of account development at PruProtect, agrees, saying: “Lower IP sales are probably a combination of customers liking the idea of a lump sum payout and advisers being wedded to the concept of matching protection to debt, for which CI is well suited.”

Mr Lakey says another reason was that life and CI was available to everybody whereas not everybody qualifies for IP.

“Apart from the friendly societies the insurers charge more to those in higher risk occupations, whereas this is not generally the case for life and CI. Also, many people be or believe themselves to be covered by their employers or the state and see IP as a non-essential purchase.”

He adds: “To this you can add the extra complexity of IP where most companies determine the payment at the claims stage by reference to current income and or whether any state benefits are being paid.

“Many advisers consider this to be a big negative and do not want to place themselves in a situation where a potential argument is looming.”

Selling IP

Mr Jeynes said his company’s best-selling policy was Serious Illness Cover (SIC), similar to CI since it pays a lump sum on diagnosis of a condition but “more advanced”.

But he says: “IP can be claimed upon multiple times and offers a genuine safety net above and beyond sick pay and state benefits.

“We know the concept of IP resonates with people, since its inferior relative, PPI, sold in massive quantities, so those of us that are passionate about protecting families are keen to get the message of IP out to the wider world.”

But Mr Lakey cautions that it is imperative advisers and clients know the specifics of the policy being purchased to ensure it provides sufficient protection.

“With income protection insurance it is imperative that ‘own occupation’ cover is selected. This is the only definition that is certain to pay out if unable to work. Many companies still offer activity-based definitions which are next to useless as the degree of illness/injury required to claim is substantial and unlikely to be met. This same caveat applies to total and permanent disability cover.”

He adds: “The self-employed must take out IP as there is no employer to fall back on. The self-employed are often in higher risk occupations such as builders and drivers so the risk of being unable to work is magnified.

“Another potential area of vulnerability relates to those consumers who have not checked their insurance cover for many years. They are likely to be shocked at how low it is in todays terms and may also find that the definitions in use for both CI and IP are no longer suitable and should be revisited.

“This concern also extends to advisers who fail to revisit their clients’ plans.”