Income Protection is there to cover you in the event of accidents, bodily injuries and periods of sickness and illness.
Under the ‘own occupation’ definition of incapacity, it will protect you for anything that medically prevents you from doing your specific job.
There are very few standard exclusions on Income Protection policies, although many providers limit claims resulting from:
Drug or alcohol misuse / abuse
Travel to a country with active internal conflict, political instability, to which the Foreign Office has advised against travel or with an active epidemic.
Other than that, what you are and aren’t covered for is simply determined by your pre-existing medical history.
Covering Pre-Existing Health Conditions
If you’ve had a medical condition in the past 5 years it will need to be declared when applying for cover. Each insurer has their own view on existing conditions and is likely to do one of three things:
Cover the medical condition on standard terms
Cover the medical condition for an increased premium
Exclude the medical condition
In cases where the insurer has excluded a condition there are occasions where this can be reviewed after a set period of time on the policy where you don’t receive any advice, medication or treatment. This will be entirely at the insurer’s discretion.
Where we have direct access to the underwriters at the top UK insurers we are best positioned to get you the most competitive terms. If you need any help please do not hesitate to pop us a call on 02084327333 or email firstname.lastname@example.org.
Do I Need Contractor Income Protection?
As mentioned, contractors, company directors and similar workers don’t generally get any sick pay from their limited company.
Given this, for most such individuals it’s worth considering taking out some form of sickness insurance.
Traditional Long-Term Income Protection is usually an appropriate policy to consider here as it will pay out a percentage of your drawdown from your company right up until retirement if you can never work again.
The big question to ask yourself is if you had to cease working years, or even indefinitely, could you stay afloat financially?
Unemployment Insurance is designed to pay you a regular monthly income if you are made forcibly redundant during the life of the policy.
It will pay out for a maximum of 12 to 24 months or until you find a new job, whichever is sooner.
Unemployment Is Difficult To Claim As A Business Owner
However, while this can be useful for those in an employed role, it’s rarely suitable for contractors. This is because, to make a successful claim, you need to prove to the insurer that you were put out of work through no fault of your own, something that’s very tricky when you’re your own boss.
Secondly, the claims criteria usually means you have to be completely out of a job. When you’re contracting, even if you lose a major contract, you’ll still technically be employed by your limited company and so may find it hard to claim.
For these reasons, we tend to advise contractors to avoid Unemployment Insurance because of the uncertainty over whether there’ll be a successful claim should the situation arise.
How Does Contractor Sick Pay Insurance Work?
Income Protection works by covering up to 80% of your income if you can’t work for any medical reason.
You can protect both your salary and dividend drawdown, as well as your potentially your partner’s dividend drawdown providing they’re in a non-revenue-generating role within the business.
Setting up Income Protection requires a lot of careful thought as there are many factors which will impact the cost and scope of your cover.
Key Policy Factors
The four biggest factors to consider that will have the most impact on how much Income Protection costs are:
Level of cover you need
Due to the tax situation (see below) you can cover between 50% and 80% of your pre-tax (gross) income depending on the insurer and the type of cover you pick.
Length of deferral period A deferral period is how long you’ll need to be off work for before the policy starts to pay out. The longer your deferral period, the cheaper your cover will be.
Your policy cease age
How old you’ll be at the end of the policy. Most people set this to a date where there’ll no longer be working in their limited company, so their retirement date. Many providers will allow you to take out cover that lasts all the way up to age 70, but this will significantly increase premiums compared to a policy that ends at age 65 or even age 60, so consider this carefully.
Your payout length
Short-term plans pay out for a maximum of 1, 2 or 5 years per condition per claim, whereas long-term policies can continue paying out either until you are well enough to return to work or you reach the end of the policy term (typically your expected retirement date).
Bear in mind the average claims length for insurer Liverpool Victoria is 7 years and 7 months, far longer than the length of time a short term policy would pay out for.
Choose Your Premiums
With Income Protection, there are three main types of premiums you can choose from:
The insurer is able to ‘review’ these premiums as they see fit. They might therefore increase premiums in a year where there has been lots of claims or due to poor underlying economic factors, for instance. This can make it hard to know what you’ll pay for cover year-on-year.
These premiums will also increase over time. However, unlike reviewable premiums, they can only increase by a percentage laid out in your policy documents and only to reflect the greater risk of you claiming as you age. This means you’ll know exactly what you’ll pay each year. These tend to start out slightly cheaper.
These premiums cannot change over time – they’re fixed from the outset of the policy. Although they usually start out a little more expensive than age-banded premiums, they tend to work out cheaper over a long-term policy because they can’t rise with time.
Your Definition of Incapacity
How ill you need to be to make a claim is determined by the definition of incapacity your policy uses.
Opting to index your policy will result in the insurer writing to you each year to inform you of the increase in the cost of goods and services (known as the Retail Prices Index) and offer you the option to increase your benefit by the same amount to ensure it maintains pace with inflation.
The best is the ‘own occupation’ definition of incapacity, while the one most difficult to claim on is the ‘any occupation / work tasks’ definition.
There are three definitions of incapacity an insurer may use:
Own Occupation Cover
Own occupation cover means that you will be entitled to your benefits as long as your injury or illness prevents you from working in your specific job role.
For example, a contractor who runs their own architecture business and injures their hand wouldn’t be able to complete technical drawings and so could make a claim.
Policies that use a suited occupation definition of incapacity mean that in order to claim benefits, you have to be unable to undertake your current job role or any other job where you may have experience or education to perform.
So where an architect with a hand injury may not be able to do their own job, they may not necessarily be able to claim under a ‘suited occupation’ definition because have the skills and experience to do another job role suited to them.
Any Occupation / Work Tasks
This is a definition of incapacity that means you can only claim if you’re so totally unfit to work that you can’t work in any occupation / perform a set number of tasks required at most basic jobs.
This is the most difficult to claim on and in general we’d recommend it’s best avoided.
Should I Link My Policy To Inflation?
When you take out a long-term policy, i.e. one that will pay out in the event of a claim right up until retirement, you run the risk of that payout being eaten away by inflation.
If you agree, your benefit will rise and so will your premiums to take into account the fact that you now have a higher benefit.
Covering Dividend Payments
Many contractors pay themselves a small salary and top the rest up with dividends to maximise the tax-efficiency of working for themselves.
If you are a director of your own business many insurers will allow you to cover this type of remuneration, although by no means all will permit you to do so.
This means you need to know which insurers will work best for you as a contractor buying Income Protection.
In order to cover dividends, however, you must be a director who is actively contributing to the success of the company – either as part of a team or as the sole employee of the company.
In other words, the dividend must be paid to you in lieu of salary for work undertaken.
Be cautious if your income rises and falls as you win and complete contracts. Some insurers will base the maximum amount of cover allowable on an average of the last 3 years of earnings, whereas others will base it on earnings over the previous 12 months. This can make a big difference when it comes to a claim.
Making An Income Protection Claim
The process of claiming your benefits begins by contacting your Income Protection provider’s claims team. Instructions on how to do so are usually included in your policy documents.
In order to claim on your policy, you will need to supply your insurer with a completed claims form and evidence of your condition, which will usually come in the the form of a note from your GP.
Online or post is the typical method of submitting a claim, but it’s become increasingly possible to make claims over the phone.
Receiving a Payout
Once your claim has been approved by your policy provider, you will need to wait out your set deferred period.
If you still can’t work after this period of time has elapsed, then you’ll begin receiving a monthly income from the policy to replace your lost wages.
You’ll receive this until either your payout period has expired (short-term policies), until you’re well enough to return to work, or until you retire if you can never work again (long-term policies).
Neil’s Cancer Claim With British Friendly
Neil is a client of Drewberry and took out an Income Protection policy with British Friendly. He was a member for 4 years before he needed to claim.
He became unwell and had pains in his stomach. After consulting his GP and having some further tests Neil was diagnosed with stage 2 Bowel Cancer and needed to make a claim.
The four policy factors mentioned above will have the most influence on the cost of Contractor Sick Pay Insurance, but there are also three main personal factors to take into consideration when pricing Income Protection as well:
The older you are at the start of the policy, the higher the cost of Income Protection due to the increased risk of illness / injury
Any health conditions you may have
An insurer may look to increase the premiums if you have a health condition or simply exclude that condition outright
Your smoker status
Smokers are more likely to get ill, and to become seriously ill, due to the detrimental health impacts of smoking and so pay more for cover with most insurers.
Average Contractor Income Protection Premiums
To help provide you with an idea of the cost we’ve put together a table with an average figure for three contractors of various different ages.
To come up with these figures, we’ve assumed:
The individual is a healthy office-based contractor
They want a benefit of £2,000 a month
They’re looking for a 13 week deferral period
Their cease age will be age 65
They’re looking for long-term cover
They’ve opted to index their premiums by linking the benefit to RPI
They want to guarantee their premiums for the life of the policy.
Bear in mind the policy is owned by your limited company and so the premiums will be paid directly from the business.
How is Contractor Sick Pay Insurance Taxed?
If you opt to have your limited company own and pay for your policy, it’s taxed differently from a personal plan.
Whereas you receive the benefit from a personal Income Protection policy tax-free because you’ve paid for the premiums with post-tax income, with a company policy the rules are different.
Company Paid Premiums Results In Taxable Claims
Given tax relief is available on premiums with a contractor policy, you’ve not paid any tax on those premiums and, as such, tax is due on the benefit instead.
This is why you’re permitted to insure more of your gross income – up to 80% – with Contractor Income Protection you need to take into account the fact that tax will be deducted at the source before you see the benefit.
The payout goes into your limited company, and it is up to you and your accountant to distribute it from there in a tax-efficient manner.
Another benefit of the company owning the cover is that, despite the company paying for the policy, it’s not usually classed as a P11D or benefit in kind.
Providing Income Protection To Employees
If you’re looking to extend Income Protection beyond yourself and to other co-directors or employees, you may be better off considering Group Income Protection rather than individual plans.
Group Income Protection works in a very similar way to Contractor Income Protection, with the major difference being it is a single policy that covers multiple people rather than being written only on a single individual.
If any employees involved with the scheme fall ill or are injured, the insurer will pay out their insurance benefits to the company, which will be delivered to employee in the same way in which they receive their salary.
If you’re looking to insure a wider group of people and add employees to your coverage you are best speaking to one of our Employee Benefit experts who can talk you though your business options.
Please don’t hesitate to pop us a call on 02084327333 or email email@example.com.
Head of Employee Benefits at Drewberry
Group policies usually require at least five employees to be covered, but terms, cost and cover offerings for group policies can be quite different depending on your insurer, the size of your group, and your employees’ circumstances.
Common Contractor Income Protection Questions
Can contractors get Income Protection?
Whether you are a soletrader or company director Income Protection can often be even more important for contractors as there is no employer provided sick pay to fall back on.
So long as the contractor is working more than 16 hours per week and is paying taxes in the UK they are eligible to take out either a personal or executive Income Protection policy.
What is Executive Income Protection?
Executive Income Protection is the recognised name for an Income Protection policy which is owned and paid for by a limited company for a director or single employee.
Where many contractors choose to work through their own limited company Income Protection provides an important financial safety net should you be too ill or injured to work.
Should a claim arise it is paid back into the limited company and it’s up to the individual to distribute the funds as income.
Is Income Protection a Business Expense?
Yes, Contractor Sickness Insurance is typically an allowable business expense against corporation tax when you pay for premiums through your limited company.
As premiums are tax-free, should a claim need to be made the benefit will be taxed as income so it is important to gross up the level of cover when you take out your plan.
Can contractors get Critical Illness Cover?
Contractors can get Critical Illness Cover, but only if they pay for it personally. Unlike Income Protection there is not an executive policy which can be owned and paid for by the limited company.