Income Protection – Agreed or indemnity?

Income Protection is a broad insurance type which allows you to mould several features around your situation. It is important to review whether an agreed or indemnity policy will be beneficial to you.

• An agreed Income Protection contract enables you to provide financials at the time of application to ensure that the benefit amount is guaranteed. Therefore you will not be required to prove your earnings at the time of claim to ensure that you receive a full benefit.

• An indemnity Income Protection contract requires you to show financials at the time of claim in order to justify your benefit amount. If your benefit amount is more than 75% of your earnings at claim time (this is usually judged as the highest earning 12 month period over the past two years) then your monthly Income Protection benefit will be reduced.

The trick with Income Protection is to be able to understand it’s features and be able to mould these around your situation. A good adviser will be able to assist you with this.

An indemnity Income Protection policy is cheaper than an agreed, and if you work in an occupation where your income will be steady such as full time salaried employment, an indemnity policy may be the way to go. If you would like to only insure a small percentage of your salary package, an indemnity policy also may be best for you as you will have no trouble justifying your benefit amount. Also, if you are employed, there is no trouble finding the required financials as you will have group certificates and pay slips on hand.

If you are self employed and your income fluctuates from year to year an agreed policy will provide you certainty of knowing what you will be paid in the event of not being able to work due to illness or accident. The additional cost of an agreed Income Protection policy (approximately 5%) will ensure that you not need to run around gathering financials or organising interim financial statements from your accountant in the event of claim. 

Of course, with an indemnity policy you may be paying for a larger benefit than you will actually receive due to reduced current earnings at the time of claim and therefore you will need to review your Income Protection policy from time to time and potentially reduce the benefit on your policy if your earnings decrease.

Income Protection Waiting Period

The waiting period on your Income Protection policy is the amount of time that needs to pass after your claim before the insurance company will start to pay your monthly benefit.

Note: it is not the time between the commencement of your Income Protection policy and when you can make your first claim as is often though.

As with any component of an insurance policy, the higher the risk to the insurance company the more expensive your  policy will be so in relation to your Income Protection waiting period, the longer the waiting period the cheaper your policy will be. This is the case as with a longer waiting period, you will need to be off work (to some extent at least) for a longer period of time in order to be paid.

Extending your Income Protection waiting period makes a large difference to your policy premium. For example, the difference between a waiting period of 90 days and 30 days is about 30%. If you are weighing up the difference between a 30 day waiting period and a 14 day waiting period the cost is approximately a further 40%.

It is important to understand why this feature of Income protection should be moulded around your situation. No one wants to pay more for their policy than they need to so if you have the ability (through savings or other means) to provide for yourself for the first few months on not earning, then you may like to look at a waiting period of 90 days in order to reduce your insurance cost. On the other hand, if you are highly cash flow sensitive and due to loans repayments and other lifestyle costs you will not be able to manage even for a short period of time without income, you will require as short a waiting period as possible and will therefore have to spend more money on your Income Protection.

Once you have a policy in place, you are able to increase your waiting period over time without the need to undergo further medical or financial underwriting and therefore you can review this over time. If you find yourself in a position where you have increased your savings and reduced your debt commitments then perhaps you can afford to extend your waiting period and therefore reduce the cost of your Income Protection policy.