Protecting Your Ability to Earn Income, With Insurance – ‘Leaky Tap’ (Part 5)

A Good Money Management System is Like Getting Your Plumbing Right

If the tap you have leaks but your normal usage hasn’t changed, you’ll use more water overall, with the excess literally going down the drain.

It’s the same for your finances and by simply avoiding the waste, you can potentially dramatically improve your financial position. All while having little or no impact on your lifestyle.

This is part five, of our five part blog series in which we will teach you to think like a business owner, by looking at the main ways money leaks from your savings, that can be fixed and then saved for your benefit. These are:

1. Reduce your spending with a budget and save
2. Legally reducing the tax that you pay
3. Managing Debt Costs – By getting the structuring right
4. Spending money that makes money
5. Protecting your ability to earn income, with insurance

Insurance to Protect Your Income

We often insure things in which we value, whether it be our cars, home, contents, or even our pets. But nothing is more important to insure than your life and your ability to work and generate an income.

When we are younger, we often believe that we’ll live forever or that we’ll never be in a position where we cannot work, but the reality we often don’t realise until we are older, is that life is finite and so is our health.

Life insurance is designed to hedge against the very real risks to your financial future and provide a safety net for both yourself and your loved ones that rely on you.

The most common forms of life insurance include:

• Death Insurance – Which provides a lump sum in the event of your death;
  
• Total Permanent Disability (TPD) Insurance – Which provides a lump sum in the event that you are Disabled to a point where you will likely never work again
  
• Trauma Insurance – Which provides a lump sum in the instance where a specified medical event occurs such as having a stroke or heart attack; and
  
• Income Protection or Salary Continuance Insurance – Which provides an ongoing benefit to replace a portion of your pre-disability income in the event you are unable to work due to injury or illness.

Most people require life insurance in some way or another, however, the level of cover will be dependent on your personal circumstances.

Choosing a Life Insurance Policy

There are a number of different ways in which you can purchase life insurance which includes going direct to the insurer, through your Superannuation fund, through an employer, or by going to a financial advisor.

When choosing a policy, it is important to understand that not all contracts are born equal, and as a result selection requires consideration of the terms of the contract and weighing the cost of the product against similar quality policies. However, despite the cost, it will always be more cost-effective to pay for the cover you need, than to not have cover and need it. 

You usually apply for life insurance with the intention of holding it going forward and depending on your age & insurance need & time horizon you may want to give consideration to the type of premium structure you apply for. 

When applying for life insurance you have the choice between:

• Stepped Premiums – These premiums increase as you get older, with the premiums being more cost effective at a younger age and gradually becoming more costly as you grow older.
  
• Level Premiums – These premiums are not linked to your age and as a result don’t increase as much over time when compared to stepped premiums. The trade-off for the “Level” benefit is that at the begin more expensive than their stepped counterparts. These premiums will gradually become more cost-effective the longer you hold the cover.
• Hybrid/Blended Premiums – These premiums begin increasing as you get older, similar to that of stepped premiums. However, after a certain number of times, the premiums will revert to a fixed premium (Similar to level premiums) which don’t increase until a certain age (Typically 60).

A further layer of complexity that arises when acquiring life insurance is the ownership structure. Depending on the type of life insurance cover you apply for, you can own it either within the Superannuation environment, personally, both personally, and via superannuation which is known as a super-link arrangement and even through a company. As with the different types of insurance, there is a multitude of ways you can structure life insurance which can impact the cost of the premium and on your personal cashflow.

Changes to Life Insurance Covers

Going forward we can expect a lot of change in the life insurance space, which specifically relates to the new business Income Protection cover. 

The Life insurance regulator, APRA has made a point to ensure that insurers improve the profitability and sustainability of Income Protection products, due to their historic and ongoing losses.

The most recent change has been the removal of Agreed value contracts from the market. Agreed value income protection was where the level of cover was “Agreed” upon application, regardless of whether your income reduces overtime. This means the only alternative is an Indemnity Value contract which determines the benefit amount at the time of claim typically based on your income over the last 2 to 3 financial years leading up to claim.

The other changes expected to take place in the near future are as follows:

• Benefits to be based on the last 12 months income – From 01/10/2021, Indemnity benefits will only be based on annual earnings of the last 12 months prior to the date of the disability. This is different from current market offerings which typically allow you the option of proving income over the previous 2 to 3 years. This will likely most affect self-employed individuals whose income fluctuates year-to-year.
  
• Limiting income protection benefits in the first 6 months – From 01/10/2021, insurers will be required to ensure that benefits provided in the first 6 months of claim do not exceed 90% of pre-disability income. After the 6-month period, benefits will be limited to 70% of pre-disability earnings.
  
• Reducing the risk of longer benefit periods – In order to encourage the insured to return back to work sooner, as of 01/10/2021, insurers will be required to reduce the risk of long-term benefit periods. This will manifest itself in the form of stricter disability definitions.
  
• Guaranteed renewability to be limited to 5 years – From 01/10/2022, The guaranteed renewability to new business income protection policies will be limited to 5 years, whereas currently you are guaranteed renewability for the life of the contract (assuming premiums are paid). At the end of the 5 years, policy owners will have the option to renew their policy without undergoing medical underwriting but will be subject to financial and occupational underwriting.

Considering the upcoming changes and the fact that they only apply to new business income protection policies, if you don’t yet have an Income Protection policy and want to avoid all these new rules, you might want to consider applying for cover as soon as possible.

Yield Financial Planning is Here to Help

If you’d like to speak to us about how we can help you fix your leaky taps, set up insurance to protect your income, and create a financial plan for success, feel free to tee up a complimentary initial conversation.

See the professional standard we operate at The Financial Planners Association of Australia and start the conversation with a Yield Financial Planner today.

Important Note

Any information provided here is general advice only and does not consider your objectives, financial situation or needs. This information should not be taken as comprehensive and does not constitute legal or financial advice. You should seek legal, financial or other professional advice before relying on any content. Yield Financial Planning is not responsible to you or anyone else for any loss suffered in connection with the use of this information. Information is only current at the date initially published.