Protect Your Biggest Asset - Income Protection: A Guide

Income Protection in and of itself sounds deathly boring. And truth be told it is a bit.

But if you are under the age of 45, your biggest asset very likely isn’t your savings or your investments or even your home. It is your future earnings power.

If you are going to work for another twenty years’ plus, particularly if you earn a few quid, those earnings (adjusted for inflation) will add up to a big number. Be a real shame if you didn’t receive it for some reason.

Sorry that sounded vaguely threatening.

Income Protection (also referred to as Permanent Health Insurance in some quarters) will pay out a tax free income, equivalent to 50%-70% of your annual gross salary, should you be unable to work due to illness or injury.

Unlike a critical illness policy, an Income Protection policy will not pay out a one off lump sum - it will pay out a regular income until such point that you are a) able to work again or b) you reach the maximum age written under the policy.

Who is this for?

Like I said, if you earn a few quid and are relatively young you should think seriously about buying Income Protection. Not to be too morbid, but a young person is statistically far more likely to fall ill than keel over and die - and yet take up rates for Income Protection policies remain far lower than for Life Insurance.

Many employers offer some kind of sick pay, but this is dependant on the individual’s contract and there is no legal obligation to offer anything above the statutory minimum - which is peanuts.

Self-employed folks get no statutory entitlement at all.

So if you work for yourself, have kids and a mortgage or enjoy the little luxuries in life like food and water - Income Protection will step into the gap should you be unable to do the day job.

What are the advantages?

Income Protection pay out rates are extremely high. Over the decade to 2024, Income Protection policies paid out in 97.9% of claims. Most policies will also allow for more than one claim.

The income is also paid tax free - this is the reason that these policies will only pay out a proportion of your earnings in the year before a claim. They are looking to replace your net income, not your gross.

These policies are also relatively cheap. I have run a quote for a (sort of) healthy 38 year old financial adviser, looking for £5,000 a month of inflation adjusted income up to the age of 68. And the monthly premium comes out at £72.34, which is four visits to Pret by my calculations.

Finally, these policies can be tailored in line with your requirements to an almost infinite degree.

What are the downsides?

But this flexibility also presents its own problems. It can be overwhelming to decide what the right policy is for you.

The key decisions you need to make are:

1. How much income do you need?;

2. Do you want this income to rise in line with inflation? (yes);

3. How long do you want the policy to run for?;

4. How long do you want to wait before the policy pays out?;

5. Whether you want the policy to cover you if you cannot do your current job, or whether you want it to pay out if you can’t do any job?; and

6. Whether you want the monthly cost to be guaranteed, or reviewable as you age?

A lot of questions and it can feel a little overwhelming for the laywoman. And that is before we get into the foibles of each individual policy’s coverage and exclusions.

For the majority of folks, these policies will never be needed and in this scenario the monthly premiums could be said to have been “wasted”. And if that’s the case, great! You have lived a healthy life.

But if it is needed Income Protection can literally be a life saver, and you can sleep well in the knowledge that if the worst were to happen you and your family can at least cover the necessities moving forwards.

None of the above is intended to represent advice to any individual. If you have specific queries regarding your position, then please consult with a regulated financial adviser.