Income protection buying guide

We are guessing that by finding your way on to our income protection buyer’s guide, you have either lost your way or you are looking to find out more about income protection, including what it is and whether you need it – we hope it is the latter and that you want to stay here to find out more.

When buying income protection, you’ll have a few options to choose from and making the right choice is paramount when making sure your needs are met.

What is income protection insurance?

Let’s start with a simple explanation of what it is – Income Protection insurance, as the name suggests, is put in place to cover your income if you were unable to work due to an accident, illness or unemployment. It sounds simple enough, but it isn’t an insurance policy that many people know much about, or indeed consider purchasing.

Do I need income protection insurance?

Income protection is not a legal requirement, but the question you want to ask yourself is: ‘If I couldn’t go to work due to a serious illness, could my family manage?’

Taking into account that you may not have enough put away in your savings to cover any outgoings – at least not for an extended period of time – the answer is probably no. This is why considering income protection insurance could be a huge benefit to you.

A crucial point to remember is that income protection insurance is not the same protection as critical illness cover (CIC), which pays out a one-off lump sum of money in the event of being diagnosed with a serious or life-changing condition that’s specified within the policy. Income protection insurance pays a percentage of your gross salary or take-home pay every month for a chosen period of time, ensuring that your finances do not take too much of a hit.

READ MORE: Income protection insurance – claim statistics

As the policyholder, you decide how much you’ll get paid. The amount is usually based on up to 70% of your monthly income (tax-free), although some providers may not offer this much. Some policies allow you to claim as many times as you need to, as long as the premiums are paid in full every month.

What are the different types of income protection?

As is the case with most insurance policies, there are various options available when it comes to purchasing cover. For example, some policies offer protection solely for mortgage payments, while others offer cover on a more general basis. Here are the choices you’ll have when arranging an income protection policy.

Accident, Sickness & Unemployment (ASU)

Otherwise known as short-term income protection, ASU policies will generally only pay out for up to 2 years following a claim. Short term income protection itself comes with 2 choices: Payment Protection Insurance (PPI) or Mortgage Payment Protection Insurance (MPPI).

Payment Protection Insurance – is used to help meet the cost of one or more specific outgoings, such as debts, bills and other regular commitments for a set period of time if you are unable to work due to accident, sickness or unemployment. PPI has various negative connotations following its mass mis-selling in the UK, but that should not take away from the safety it can provide to policyholders during their time of need.

Mortgage Payment Protection Insurance – as you’d expect, is a form of short-term income protection which promises to meet your monthly mortgage payments if you are unable to work for a short period. This can be due to accident or sickness, but can also cover redundancies. MPPI typically only pays out for 12 months following a claim and usually has a monthly cap of between £1,500 and £2,000.

It should be noted that, in both of these cases, any payments made would likely be directly to you. Once you have received all payments from your policy (12 monthly payments, for example) and it has expired, it is then your responsibility to ensure that all relevant debts are accounted for.

READ MORE: Income protection insurance and redundancy

Short term income protection policies do not necessarily have to be used to cover a specific debt; instead, many people utilise the payments to cover the cost of necessities like food, clothes and other lifestyle purchases that their salary would usually pay for every month.  The money can essentially be spent however you like – it is a replacement for your income, after all, so can be treated as such.

Long term income protection

Long term income protection will usually provide you with a regular income if you are unable to work due to illness or disability, all the way up until you are well enough to return to your employment (or the end of the policy term, whichever one happens first).

There are generally 4 types of long term income protection: ‘own occupation’, ‘suited occupation’, ‘any occupation’ and ‘activities of daily living (ADL)’.

  • Own occupation – pays out if you are unable to perform the tasks associated with your specific role.
  • Suited occupation – pays out if you are unable to perform in your own role, or another role suited to your skillset and education.
  • Any occupation - only pays out if you are unable to perform in any occupation whatsoever.
  • Activities of daily living (ADL) – pays out if your accident or injury sees you unable to perform simple tasks like eating, getting dressed, cooking or climbing stairs.

Unlike short-term income protection policies, long term income protection rarely covers unemployment and is unlikely to pay out if you are made redundant.

Always be sure to check any details with your insurer (or broker) and ensure you fully understand the terms of your policy before agreeing to it.

What doesn’t income protection insurance cover?

As with all insurance policies, income protection does not come without exclusions. There are specific illnesses or situations that will not be covered, with examples including (but not limited to):

  • Pre-existing medical conditions – you will not be covered for any illness you knew about prior to taking out a policy.
  • Normal pregnancy – being unable to work due to pregnancy is not covered by income protection (although some pregnancy complications might be)
  • Self-inflicted injuries – if your injuries are self-inflicted, your policy is unlikely to pay out.
  • Injury caused by a criminal act – If you sustain an injury whilst trying to commit a criminal act, your insurer will not pay out.
  • Injury caused by alcohol/drug misuse – any injury or illness sustained due to the misuse of alcohol or drugs is not covered by income protection.
  • War or terrorism – if you are injured by an act of war or terrorism, most policies will not process your income protection claim.
  • Unemployment that was already acknowledged – if you were already aware of your unemployment prior to taking out a policy, your insurer will not pay out.

READ MORE: Income protection with pre-existing medical conditions

Your cover can also be compromised if you have a dangerous job or existing health problems. It is always best to be honest with any health concerns you may have. You may think that declaring an existing issue will prevent you from getting cover, but you might be surprised – besides, what’s the point in paying for cover that will be deemed invalid when you make a claim?

Income protection insurance – self-employed workers

Those who work for themselves are able to purchase self-employed income protection, providing a backup salary should they be unable to fulfil their role.

This type of cover is particularly important for self-employed contractors with medium-to-high risk jobs, who are at an increased risk of sustaining an injury at work.

READ MORE: Self-employed income protection

How much protection do I need?

The main thing to remember here is not to underestimate your cost of living just to keep the cost of your premiums down. If the unfortunate does happen and you need to claim on your policy, you could be paying for the mistake in the long run. Most typical policies allow you to insure yourself for up to 70% of your gross salary, but you can opt to be paid less if you believe that you have savings (or another means of income) to offer protection.

Do not think that you can make money from income protection insurance. You cannot insure more than 70% of your salary, as insurance cannot and will not allow you to make any profit out of your misfortune.

Think carefully about how much of your monthly wage is used to pay for outgoings and essential payments like food and recurring bills – this will help you figure out how much of your income to insure as well as how much you can afford to pay in monthly premiums.

How much does income protection pay out?

We mentioned previously that the maximum income protection policy pays 70% of your gross wage, but how much does that pay?

Here are a few examples. If you earn:

  • £25,000/year (before tax), protecting 70% of your income would pay you £17,500 (£1,458/month)
  • £35,000/year (before tax), protecting 70% of your income would pay you £24,500 (£2,042/month)
  • £50,000/year (before tax), protecting 60% of your income would pay you £30,000 (£2,500/month)

It is worth noting that, particularly for higher earners, insurers may pay out a higher percentage on one part of your wage than they do for another.

For example, you may be paid 70% on your earnings up to £50,000, but only 35% on anything over that. In this case, an annual salary of £70,000 would pay out £42,000/year.

£50,000 x 70% = £35,000

£20,000 x 35% = £7,000

£35,000 + £7,000 = £42,000

How much does income protection cost?

Income protection insurance premiums can cost as little as £10 per month, but most people pay between £50 and £80. Short term policies are (for obvious reasons) usually cheaper than long term policies.

All income protection policies are calculated with consideration of a variety of factors. Age, health, lifestyle choices (i.e. smoking) and gender can all play a part in determining the price of your income protection premiums, but there is one more major factor which has an overpowering effect: your job.

Most insurers categorise jobs into 4 ‘classes’ to determine how likely an employee will be to claim on their cover. The more dangerous a job is, the more likely somebody is to make a claim. The categories are as follows:

Class 1 (low risk) – Professional workers; admin staff; staff with low business mileage.

Class 2 (low-medium risk) – Staff with high business mileage; skilled manual workers; shop assistants

Class 3 (medium-high risk) – Some semi-skilled workers; care workers; teachers

Class 4 (high risk) – Heavy manual workers; unskilled workers; bar/restaurant workers

Some of the jobs mentioned above might, at a glance, seem like they are in the wrong risk category, but income protection providers have good reason for labelling them as such.

READ MORE: Income protection – key facts you need to know

Bar or restaurant workers, for example, are more likely to commute during unsociable hours (during when more accidents occur).

Will income protection affect my state benefits?

Those with a low income, looking for work or are unable to work through illness or disability are supported by the UK’s benefits system.

If you currently claim Universal Credit, there is the chance that an income protection policy could impact how much you receive from this benefit as income protection qualifies as an ‘unearned income’.

This unearned income is accounted for by the authorities calculating your Universal Credit allowance, with every £1 earned from income protection resulting in any Universal Credit payments being reduced by £1.