What company directors need to know about income protection insurance
The world of insurance routinely throws up all sorts of different – and largely money-saving – possibilities, typically in the form and function of alternative policies, irrespective of just what it is you’re looking to insure; be it your home, your car, your holiday, your health, your life expectancy or indeed, your continued ability to hold down your current job. Which moves us nicely into the realms of income protection insurance; or more specifically in this instance, income protection insurance for company directors.
With this insurance type there are the two predominant choices commonly available to the boss of his/her own business empire, chiefly the familiar ‘standard personal income protection’ plan and the lesser-spotted, ‘executive income protection’.
In essence, income protection policy premiums can either be footed by the individual (courtesy of post-tax income) or the company can pick up the tab.
Covering both personal and executive plans, in terms of the most competitively priced option is fundamentally based on policy choice and the respective tax implications for the most part, with no definitive answer being forthcoming.
Why choose to have executive income protection insurance as a company director?
In most businesses certain employees and/or senior management figures are often considered vital to the success of the business and integral cogs in the perpetual wheels of commerce. They typically tend to be the highest paid amongst the workforce and subsequently they demand the most fiscally generous benefits packages. So it makes sense to take out an all-consuming income protection insurance policy to safeguard these key personnel.
Executive income protection insurance provides cover to these individuals if for a number of reasons they’re suddenly unable to carry out the duties and accepted remit of their position. These sets of circumstances out of everyone’s control are normally instigated by the policyholder sustaining a serious injury or being diagnosed with a serious and career-threatening health condition out of the blue. In each case rendering the individual in-capacitated and unable to continue in their job role for an undefined period of time.
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In this unforeseen situation an executive income protection insurance plan financially compensates (percentage-wise) for the loss of earnings triggered by the injury or illness befalling the policyholder and continues to pay-out until such time as the insured party is in a position to return to their temporarily vacated role.
Various factors affect an executive income protection insurance policy in terms of premiums quoted at source, and regularly comprise of such elements as the ‘level of benefit’ (many providers will present an upper limit on their monthly sum assured), whether the policyholder plumps for a ‘level’ or ‘increasing’ benefit (increasing benefit remains in line with inflation), what deferred periods they sign-up to (4, 13, 26 and 52 weeks are the most popular, while the longer the deferred period the lower the premium generally), the term length (usually a minimum of 5 years, with most executive income protection insurance plans underwritten to a maximum age of 65-years) and whether the premium is ‘guaranteed’ or ‘reviewable’ amongst other qualifying criteria overseen by the insurance provider.
Standard personal income protection insurance
Scrutinising the first option, and personal income protection as you’re probably well aware by now is a type of policy arranged by (and in the ownership of) an individual/insured party; or as they’re previously referred to as, the proposer.
Nine times out of ten this variation on an income protection insurance policy is habitually paid from a personal bank account from an individual’s net salary.
As it stands, financially, this hugely popular scenario played out the length and breadth of the UK benefits the policyholder in a (legitimately) tax-avoiding way – under current rules – in the event of a post-claim pay-out.
That’s not to say an individual/company director for example couldn’t take out a personal plan and pay the subsequent premiums via a limited company.
The most significant difference being that the potential benefit/settlement figure would remain free of income taxation on the proviso that the premiums are disclosed as a P11D benefit (benefit in kind) and therefore taxed accordingly.
Executive income protection insurance
This version offers itself as an attractive income protection insurance proposition twofold. In as much as it can be fiscally beneficial to both individual company directors seeking to protect themselves/their own income stream, as well as companies themselves who might want to cover a manageable number of specific employees as part and parcel of a staff perk; and in this particular guise differs from more common group income protection insurance schemes.
Focusing explicitly on this plan of action and it’s worth pointing out that this type of policy arrangement is owned by the company/employer and therefore any future recompense on a successfully-lodged income protection insurance claim is paid out to the business. What the business then decide to do with the cash windfall is its prerogative, yet in most situations this sees the company pay the individual claimant an agreed monthly benefit taking the form of sick pay.
If this were to be the case then attention needs to be drawn to the underlying fact that any pay-out would be officially deemed to be a trading receipt and therefore be appropriately taxed in this capacity.
It’s with this very much in mind that the level of cover on the table needs to be sufficiently ramped up so as to leave what’s generally considered a suitable level of post-tax income for directorship-standing individuals from the outset.
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So, what figure would you place on executive income protection insurance eligibility?
Following on from this then, it’s imperative that company directors work out a ball-park figure of just how much they’d wish to be eligible to receive in the event of a future pay-out. To do this you must first provide an overview of what you annually pay yourself from the business coffers, taking into account not just your basic salary but also any regular bonuses and company dividends.
The majority of executive income protection insurance policies aimed at company directors will be geared around allowing policyholders to declare both salary and dividends as bona fide income streams, so long as the latter would cease in the event of a claim being filed. Care needs to be taken in interpreting the eligible income definition in any executive income protection documentation package, as some insurance providers base their figures on a 12-month average, whilst others concentrate on the last 36 months.
While 50 – 65% is generally viewed as par for the course for the majority of standard personal income protection insurance plans, those company directors electing to have an expansive executive version underwritten will be pleasantly surprised to learn that the level of cover is extended to include between some 75 – 80% in this case, purely based on the justifiable assumption that the benefit will be subject to taxation when paid to the director recipient as and when required.
It’s not unknown for company directors to hire a company secretary in certain circumstances and pre-agree to split their income with this third party; especially if the ‘company secretary’ is not classed as an essential employee of said business. This is primarily the case should the director seek to employ their spouse for the predominant remit of book-keeping, and in this event some insurers will rubberstamp dividend income to be added to the policyholder’s own so as to form the ‘eligible income’ total; however this is at the discretion of the executive income protection insurance policy provider and is by no means written in stone.
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