Income protection insurance
Encyclopedia
Income Protection Insurance (IPI) is an insurance policy, available principally in the United Kingdom
and Ireland
, paying benefits to policyholders who are incapacitated and hence unable to work due to illness
or accident
. IPI policies were formerly called Permanent Health Insurance (PHI).
The choices involved and the potential for confusion and buying the incorrect product means it is considered essential that consumers consult an Independent Financial Adviser (IFA).
and National Insurance
contributions for individual policies. For group policies, benefits are paid as taxable and NIable
earnings.
(FSA) under its Insurance Conduct of Business Sourcebook (ICOBS) rules. This requires the issuing insurance company to keep records of the contract for a minimum of six years, and the policyholder has a minimum of 30 days to cancel the contract. If cancelled, the policyholder is entitled to a full refund of any premiums paid.
United Kingdom
The United Kingdom of Great Britain and Northern IrelandIn the United Kingdom and Dependencies, other languages have been officially recognised as legitimate autochthonous languages under the European Charter for Regional or Minority Languages...
and Ireland
Republic of Ireland
Ireland , described as the Republic of Ireland , is a sovereign state in Europe occupying approximately five-sixths of the island of the same name. Its capital is Dublin. Ireland, which had a population of 4.58 million in 2011, is a constitutional republic governed as a parliamentary democracy,...
, paying benefits to policyholders who are incapacitated and hence unable to work due to illness
Illness
Illness is a state of poor health. Illness is sometimes considered another word for disease. Others maintain that fine distinctions exist...
or accident
Accident
An accident or mishap is an unforeseen and unplanned event or circumstance, often with lack of intention or necessity. It implies a generally negative outcome which may have been avoided or prevented had circumstances leading up to the accident been recognized, and acted upon, prior to its...
. IPI policies were formerly called Permanent Health Insurance (PHI).
Relevant concepts
- Incapacity will be defined on one of the following four bases:
- Own occupation – the policyholder is incapacitated if they are unable, following illness or accident to perform their own occupation and are not working in another job.
- Suited occupation – the policyholder is incapacitated if they are unable, following illness or accident to perform an occupation suitable to them given their education and training etc.
- Any occupation – the policyholder is incapacitated if they are unable, following illness or accident to perform any occupation at all.
- Activities of daily livingActivities of daily livingActivities of Daily Living is a term used in healthcare to refer to daily self-care activities within an individual's place of residence, in outdoor environments, or both...
(ADLs) – the policyholder is incapacitated if they are unable, following illness or accident to perform a number of defined functions such as dressing and undressing, washing, eating, climbing stairs, shopping, cooking etc. The policy will define the number of functions and their definitions.
- Benefit limits – nearly all policies limit the benefit payable to some percentage of the policyholder's normal earnings. The limit is usually around 70% of gross earnings, but could be less for high earners. Any state benefits payable may reduce the maximum benefit and benefits from any other policies may also reduce the maximum.
- Deferred period – the deferred period is the time between a valid claim and the commencement of benefit payments. The deferred period chosen has a significant influence on the cost of a policy (see below).
- Proportionate benefit – to encourage the return to work of a policyholder recovering their health, many life offices offer to pay a reduced benefit if the policyholder takes a part time or lower-paid job after recovering their health.
- Free limit – the IPI policy will be only be valid while the policyholder is permanently resident in the area defined in the policy. The area will be at least the UK, probably the EU or Western EuropeWestern EuropeWestern Europe is a loose term for the collection of countries in the western most region of the European continents, though this definition is context-dependent and carries cultural and political connotations. One definition describes Western Europe as a geographic entity—the region lying in the...
and could include the USA and other developed countries. Most policies will allow holidays and temporary residences outside of these areas.
Benefits
IPI policies offer a number of benefits in comparison to other insurance policies such as accident, sickness and unemployment insurance or personal accident and sickness (PAS):- Benefits are payable when the policyholder becomes incapacitated and after the deferred period has passed and continue until the earliest of death, recovery of health, retirement or the term of the contract.
- Benefits are paid regularly (usually weekly or monthly) and are free of tax.
- The insurance company cannot cancel or refuse to renew the policy provided that the policyholder continues to pay the premiums.
- A waiver of premium option may be provided whereby premiums for the IPI policy are not required while benefits are being paid from the policy, but the policy cover continues as normal.
Restrictions
There are a number of restrictions that can affect a policyholder's eligibility for income protection insurance.- The policies do not pay out if the policyholder becomes unemployed for a reason other than illness or accident.
- The deferred period is usually quite long, often a minimum of 4 weeks but perhaps as long as 52 weeks. Premiums decrease as the deferred period increases.
- There are a number of exclusions which apply to most policies, so that no benefits are payable for accidents or illness arising from events such as drug or alcohol abuseSubstance abuseA substance-related disorder is an umbrella term used to describe several different conditions associated with several different substances .A substance related disorder is a condition in which an individual uses or abuses a...
, criminal acts, intentional self-harmSelf-harmSelf-harm or deliberate self-harm includes self-injury and self-poisoning and is defined as the intentional, direct injuring of body tissue most often done without suicidal intentions. These terms are used in the more recent literature in an attempt to reach a more neutral terminology...
, warWarWar is a state of organized, armed, and often prolonged conflict carried on between states, nations, or other parties typified by extreme aggression, social disruption, and usually high mortality. War should be understood as an actual, intentional and widespread armed conflict between political...
s and pregnancyPregnancyPregnancy refers to the fertilization and development of one or more offspring, known as a fetus or embryo, in a woman's uterus. In a pregnancy, there can be multiple gestations, as in the case of twins or triplets...
. - Due to the benefit limits, the maximum regular payment is usually restricted to prevent moral hazardMoral hazardIn economic theory, moral hazard refers to a situation in which a party makes a decision about how much risk to take, while another party bears the costs if things go badly, and the party insulated from risk behaves differently from how it would if it were fully exposed to the risk.Moral hazard...
– if the benefit exceeds the policyholder's income they have a reduced incentive to return to work once their health recovers. - On change of occupation (or unemployment) of the policyholder the policy may become invalid, or the life office may require the premiums to be changed to reflect the new risk.
- For individual policies, as the benefits paid are not taxable income, the tax relief available to the policyholder may be reduced so, for example, tax relief on pension contributionsPensionIn general, a pension is an arrangement to provide people with an income when they are no longer earning a regular income from employment. Pensions should not be confused with severance pay; the former is paid in regular installments, while the latter is paid in one lump sum.The terms retirement...
is no longer available.
Product variations
In addition to standard fixed-premium IPI policies there are a number of variations available from some life offices:- Renewable IPI – renewable policies give the policyholder a right to renew the policy, possibly with an increase in cover, at a set period (often 5 years), based on the prevailing premiums for a person of their age and occupation. Premiums will initially be cheaper than a fixed IPI policy but will then increase each renewal as the policyholder gets older.
- Reviewable IPI – the term of a reviewable IPI policy will be the same as a fixed policy, but the premiums will be reviewed (and almost invariably increased) by the life office every few years, based on its general rates (not based on the health or claims of the policyholder). Initial premiums will then be cheaper than for a standard policy.
- Increasing IPI – the value of the benefit payable by a fixed-benefit policy is eroded over time by inflationInflationIn economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time.When the general price level rises, each unit of currency buys fewer goods and services. Consequently, inflation also reflects an erosion in the purchasing power of money – a...
so policies whose benefits increase are often more suitable. The benefits may increase at an indexed rate (such as the Retail Prices IndexRetail Prices Index (United Kingdom)In the United Kingdom, the Retail Prices Index or Retail Price Index is a measure of inflation published monthly by the Office for National Statistics. It measures the change in the cost of a basket of retail goods and services.-History:...
), a fixed percentage or by a percentage chosen by the policyholder every few years. For such increasing policies, premiums usually increase as well. - Unit-linked IPI – other IPI policies have no investment element and hence no surrender value, however a unit-linked policy has an investment element similar to unit-linkedUnitised insurance fundUnitised insurance funds or unit-linked insurance funds are a form of collective investment offered through life assurance policies.An insurance company's contract may offer a choice of unit-linked funds to invest in. Insurers that offer these contracts are mainly found in the UK and British Isles...
life assurance policies. Premiums will normally be more expensive than standard policies due to the investment element, and could be still more expensive if the return on the invested premiums is poor. - Group IPI – employers may provide a group IPI policy for their employees. For group policies a maximum payout period may apply and the policy will expire if the employee ceases employment with the employer.
Suitability and need
- IPI policies meet the general need of wage earners to protect their income against the inability to work due to accident and illness. The level of state benefits provided (such as statutory sick payStatutory sick payIn the United Kingdom Statutory Sick Pay is paid by their employer to all employees who are sick for a period longer than 4 consecutive days but less than 28 weeks. The first 3 days of sickness are called waiting days...
(SSP) and incapacity benefitIncapacity benefitIncapacity Benefit is a United Kingdom state benefit that is paid to those below the State Pension age who cannot work because of illness or disability and have made National Insurance contributions. It is administered by Jobcentre Plus...
) usually falls well below the income of average earners, so additional insurance is required to make up the difference. If a policy is purchased it is usual for the term of the policy to last until the retirement age of the policyholder. For those not working such as parents caring for children, a policy paying out based on ADLs is appropriate as the definitions for incapacity based on occupation may not be relevant. - IPI policies are not suitable insurance against unemployment in general as benefits are only paid if the unemployment arises due to incapacity. An accident, sickness and unemployment insurance policy or Mortgage Payment Protection Insurance may be needed as an alternative or to complement the IPI policy.
- IPI policies do not provide health insurance, death benefits or critical illness cover, so health insuranceHealth insuranceHealth insurance is insurance against the risk of incurring medical expenses among individuals. By estimating the overall risk of health care expenses among a targeted group, an insurer can develop a routine finance structure, such as a monthly premium or payroll tax, to ensure that money is...
and/or life assurance and/or critical illness cover may also be needed by the policyholder.
The choices involved and the potential for confusion and buying the incorrect product means it is considered essential that consumers consult an Independent Financial Adviser (IFA).
Pricing
IPI policies are relatively expensive due to the guarantees offered by the policy. However, premiums decrease as the deferred period increases and choosing a 'suited occupation' or 'any occupation' option over an 'own occupation' will likely reduce the cost of the policy.Taxation
Premiums paid by individuals are not eligible for any tax relief. Premiums paid by employers to provide cover for their employees are tax-deductible as a business expense and are a taxable benefit to the employee. Benefit payments paid from the policy, following an accident or illness affecting the policyholder, are free of income taxIncome tax
An income tax is a tax levied on the income of individuals or businesses . Various income tax systems exist, with varying degrees of tax incidence. Income taxation can be progressive, proportional, or regressive. When the tax is levied on the income of companies, it is often called a corporate...
and National Insurance
National Insurance
National Insurance in the United Kingdom was initially a contributory system of insurance against illness and unemployment, and later also provided retirement pensions and other benefits...
contributions for individual policies. For group policies, benefits are paid as taxable and NIable
National Insurance
National Insurance in the United Kingdom was initially a contributory system of insurance against illness and unemployment, and later also provided retirement pensions and other benefits...
earnings.
Regulation
IPI policies are classed as long-term insurance and are regulated by the Financial Services AuthorityFinancial Services Authority
The Financial Services Authority is a quasi-judicial body responsible for the regulation of the financial services industry in the United Kingdom. Its board is appointed by the Treasury and the organisation is structured as a company limited by guarantee and owned by the UK government. Its main...
(FSA) under its Insurance Conduct of Business Sourcebook (ICOBS) rules. This requires the issuing insurance company to keep records of the contract for a minimum of six years, and the policyholder has a minimum of 30 days to cancel the contract. If cancelled, the policyholder is entitled to a full refund of any premiums paid.
External links
- FSA Money Made Clear – IPI
- Income Protection Insurance Vs ASU Cover
- Types Of Income Protection Insurance
- Definition of IPI at finance-glossary.com
- Guardian.co.uk Glossary – IPI
- Income Protection Insurance Jargons
- “Permanent Health Insurance - When An Employment Benefit Becomes A Cause For Dispute”, Oliver Segal, Old Square Chambers, November 2006