What Is Income Protection Insurance?

Income protection insurance provides you with a lump-sum payment should you be injured (on or off the job) or fall ill. With income protection insurance, you can replace your lost paychecks and protect both yourself and your dependents from temporary and long-term financial hardships. If you’re thinking about applying for an income protection package, keep reading.

What Does Income Protection Insurance Cover?

Income protection insurance offers 85% of your income for a certain amount of time if you can’t work due to partial or total disability. It replaces your employee or self-employed income based on a calculation of your annual earnings totaled from 12 months before the incident.

Each income protection service policy decides what constitutes a full or partial disability, so check the insurance product disclosure statement before purchasing.

Do I Need Income Protection Insurance?

Anyone who’s employed and receiving consistent income could benefit from income protection insurance. However, that can be much too vague for many.

After all, who doesn’t need a regular income to survive other than born millionaires? In this case, buying into income protection insurance may become more critical for people in the following categories:

  • Self-Employed or Small Business Owners
  • Married, Have Children, or Other Dependents
  • Indebted from Good Debt (Mortgages) or “Bad” Debt (Credit Cards)

To understand how much protection you’ll need, prepare a budget for your expenses. It’s important to know how much you pay for necessities each month so you have an idea of the amount you want to be covered for.

If you have total or permanent disability insurance or private health insurance covering medical leave, factor this into your policy amount.

How do I Choose the Right Income Protection Policy?

Here are a four things you should consider when choosing the proper protection policy:

1. Policy Type

Most income protection policies are either:

  • Indemnity Valued: An Indemnity Value policy covers a percentage of the salary you had when you made a claim. If your salary decreases, you get a smaller monthly payment. If it increases, there’s no change, which is why these policies are cheaper. Only buy this type of insurance policy if you expect to make a stable income.
  • Agreed Valued: An Agreed Value policy covers a percentage of an agreed amount when you make a claim. No change in salary affects your monthly payments, making these policies more expensive. Only buy this insurance type if your income fluctuates.

Some insurance companies have stopped offering the Agreed Value policy, likely because of the large influx of independent contractors.

If you are a freelancer or small business owner, try to locate an insurance company that offers this policy as it’s better suited for your type of profession.

2. Benefit Period

An insurance’s benefit period indicates how long your monthly payments will last if you cannot work.

Most policies last 2-5 years or up to a specific age. The longer your benefit period lasts, the longer you’ll be covered, but you’ll receive more expensive monthly payments.

3. Waiting Period

The waiting period for insurance determines how long you’ll wait until payments start to kick in. Most policies ask you to wait 14 days, but you can be asked to wait upwards of 2 years.

To be eligible for payments, you still need to be unable to work by the start of your waiting period.

4. Premium Type

Most income protection policies are either:

  • Level: Level premiums charge more expensive premiums at the start and won’t change over time due to age or health. Increases will happen eventually, but more slowly.
  • Stepped: Stepped premiums change every time your policy is renewed. You’ll almost always pay more for premiums over time as you age or become less healthy.

Since you can’t guarantee you’ll stay healthy for the majority of your life, a level premium package tends to be cheaper in the long run unless you cash out on your insurance sooner.

How do I Buy Income Protection Insurance?

First, review if you have income protection insurance through your super fund. If you don’t have a super fund or you aren’t covered, you can buy this insurance from a financial adviser, insurance broker, or insurance company. When discussing plans, disclose your:

  • Job Title
  • Age
  • Income
  • Medical History
  • High-Risk Activities
  • High-Risk Lifestyle Choices

From this information, your insurance will be able to decide how much your premiums will be and the terms and conditions of your policy. They may even decide not to insure you at all.

By Jeff Smores

Disclaimer: The content on this page is for information purposes only and does not constitute legal, tax, or accounting advice. If you have specific questions about any of these topics, seek the counsel of a licensed professional.

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