As the name suggests, income protection insurance protects your income in the event that you can’t work because of illness or injury. It is designed to top-up or replace income lost. So if you still receiving your normal income during an (illness / injury) absence from work, there will be no payment.
If you are receiving part of your normal income whilst not working, the monthly the income protection insurance payment will simply top it up. However, the claim payment is never as much as your normal income and therein lays the incentive for you to return to work as soon as you are able.
In the event of a claim, there is an initial no-payment period called the ‘waiting period’. You nominate this period on the application form when you apply for the insurance. The range is usually 7 days – 2 years. The longer the period you select, the cheaper the premium. A 30-day waiting period is common.
Income protection insurance policies usually pay 75% of your pre-disability income if you are totally disabled and unable to work at all. If you are able to go to work on a part time basis, or if you are gradually returning to work after a period away, a partial benefit formula will apply.
One very important part of an income protection insurance contract lies in the ‘total’ and ‘partial’ disability definitions. These definitions vary between insurance companies so it is best to consult your adviser to find the most appropriate policy for you.
The other very important part of the contract lies in the definition on ‘pre-disability income’. This definition varies widely between ‘indemnity’ style contracts and ‘agreed value’ contracts. The difference could mean thousands of dollars to you. Consult your risk insurance adviser to understand these definitions.
Income protection policies usually include a range of ‘ancillary’ benefits which also vary from contract to contract. These are non-core benefits generally aimed at getting you back to work (and off claim) sooner. They look impressive and some are useful, but statistically, most aren’t used very often.
In Australia, an income protection policy can either be self-owned or a business owner can initiate and own a policy on the life of an employee. The premiums are generally tax deductible to the policy owner, except for any non-income component. The income replacement benefits paid are generally treated as assessable income.
Garyweigh, is the renowned author of articles on Financial Planning, Investment solutions and business planning