Income Protection: Considerations before Cancellation

Financial Planner

By Erryn Langley

Insurance is designed to protect clients in those specific instances in which an event occurs.

There are various of insurances (summarised in Figure 1) available and is fundamental for you to understand the key differences between each. A good advisor will help guide you through the process of choosing the right type and amount of cover that you need.

The discussion will usually include:

• Understanding the client’s current situation and why they may require personal insurance;

• Work out what the client’s needs are by asking a series of questions;

• Identifying any issues that may arise and steps that need to be taken e.g., pre-existing medical conditions;

• The costs associated with having insurances in place. It is not always about how much more it will cost but sometimes finding ways to save on premiums;

• Provide quotes and agreeing on what to take up/hold and/or what to scope out; and

• Implementing the insurances which includes underwriting and disclosures.

Note: Various insurance product providers may have different names for their products, for example, trauma cover may also be known as crisis recovery or critical illness insurance.

As of 1 October 2021, the Australian Prudential Regulation Authority (APRA) mandated the change in income protection (IP) products for “life companies to better manage riskier product features by:

• ensuring DII [disability income insurance] benefits do not exceed the policyholder’s income at the time of claim, and ceasing the sale of Agreed Value policies;

• avoiding offering DII policies with fixed terms and conditions of more than five years; and

• ensuring effective controls are in place to manage the risks associated with longer benefit periods. (APRA 2019).”

Note: The terms disability income insurance (DII) and individual disability income insurance (IDII) have the same meaning. Both terms will be referred to as IP going forward.

It is important to understand the key differences that now apply to income protection and more importantly, if you decide to cancel and replace your current IP policy, what benefits you might lose.

A. Agreed vs Indemnity

In the past you could choose between an agreed and indemnity. Now you can only be provided with an indemnity style policy. Most Agreed policies would ask you to prove your earnings at time of application whereas an indemnity policy would ask you to proof your earnings at time of claim. The big difference was that if you had an agreed policy, it would likely pay you the agreed amount regardless of what you were earning at the time of claim. This meant, you could have been earning less for several years prior to the claim being submitted and still be entitled to the amount you insured yourself for. Whereas, with indemnity, you get paid based on what you earned up to 12 months prior to the claim was submitted. Obviously, an agreed policy is more beneficial to have and keep compared to an indemnity type policy. APHRA decided to remove the ability for insurers to offer an agreed policy because it was costing the insurance industry way too much money in claims.

B. Benefit Amount

For those who have older IP policies, you would likely be entitled to receive 75% of your income at claim time. However, new policies only allow you to insurer up to 70% of your income. If you have a new policy that has a benefit period longer than 5 years, then the income may reduce down to 60% after the first 2 years. Some insurers will allow you to maintain the 70% but other terms and conditions will apply. Anyone wanting to take out a policy with a benefit period greater than 5 years must make sure they understand these changes that occur after the 2 year period when on claim.

C. Own vs Any Occupation Definition

Source: TAL 2022

What are the key benefits that might be lost if you replace your IP policy?

Before I can mention benefit periods, I need to explain the difference between an ‘Any’ occupation and ‘Own’ occupation definition. For the most part, you would want to have an ‘Own’ occupation IP policy. This meant that if you could not do your ‘own’ job because of injury and/or illness, you would be paid at claim time, subject to waiting periods. However, APHRA have decided that an ‘Own’ occupation definition is too generous and have now restricted the use of an ‘Own’ occupation definition to a maximum of 5-year benefit period. Going forward, if a young person wants a benefit period greater than 5 years e.g., up to age 65 or 70, they will only be allowed an ‘Own’ occupation for the first 2 years and then the policy reverts to an ‘Any’ occupation definition. As a financial planner, this new change in definition for those wanting a benefit period longer than 5 years is disconcerting. It means that the insurer could potentially force you to return to work after the 2 years or you lose your payments. This new change in definitions has not been tested yet and we await the outcome when the first client has no choice but to return to work.

Note: For those who choose benefit periods of 5 years or less will continue to have an ’own’ occupation definition.

One insurers definition of disability are as follows:

During the waiting period

Disabled means solely because of sickness or injury:

• you are unable to perform the material and substantial duties of your regular occupation at full capacity for the duration of the waiting period; and you are not working in any capacity for 14 days out of the first 19 consecutive days of the waiting period.

For the first 30 months following the date of disability.

Disabled means solely because of sickness or injury:

• you are unable to perform the material and substantial duties of your regular occupation at full capacity; and your monthly earnings are less than 80% of your pre-disability earnings; and

• within your regular occupation you are unable to work the lesser of:

• 38 hours or more per week

• the number of hours you regularly worked prior to disability.

(Source: www.clearview.com.au)

D. Benefit Periods

After 30 months from the date of disability

Disabled means solely because of sickness or injury:

• you are unable to perform the material and substantial duties of any suited occupation at full capacity; and you monthly earnings are less than 80% of your pre-disability earnings; and

• within any suited occupation you are unable to work the lesser of:

• 38 hours or more per week

• the number of hours you regularly worked prior to disability.

One of the most difficult changes to understand is the new benefit periods that have come into effect. For those who choose a 2 year or 5-year benefit period, not a lot has changed. For those who wish to have a benefit period longer than 5 years, each insurer has a different way of assessing the amount you will receive after the 2- or 2.5-year mark when on claim as well as the change in definitions (already discussed above). Most insurers will not continue to pay up to 70% of the benefit amount after the 2-year claim benefit period has been reached. Often it will drop down to 60% of the insured amount. APHRA believes this will encourage more people to try and return to work faster than if they were to continue to be paid the 75% amount offered on old IP policies.

E. Waiting Periods

Most insurers have reduced the number of waiting periods on offer with many only going up to 13 weeks, with the most common waiting period being 8 weeks or 3 months. Before you can receive any benefits once a claim has been submitted, you must have completed your waiting period.

For instance, if you are director of a company that produces a profit, your profit may be offset against your IP benefit amount whilst on claim.

Income protection insurance is a must have for all those who are currently working and especially if they do not have enough assets or other sources of income to supplement their current earnings should an event occur which results in them not being able to work.

It is surprising how many people have no income protection in place or have simply accepted the default insurances provided by their superannuation funds. Having some insurance is ‘good’ but we want to make sure you have moved to ‘better’ or ‘best’ cover.

Personal insurance is a necessary evil in that it costs money to hold on to it and you hope you never have to use it, but when you do need to use it, you are very thankful you have it in place.

We encourage everyone to speak to a financial planner about personal insurances. If you don’t have a financial planner than reach out to Find Insurance (www.findinsurance.com.au) and book a meeting with them or call 1300 88 38 30

Erryn Langley

1300 557 144 | erryn@findwealth.com.au www.findwealth.com.au

Financial Planning is offered via Find Wealth Pty Ltd ACN 140 585 075 t/a Find Wealth.Find Wealth is a Corporate Authorised Representative (No 468091) of Alliance Wealth Pty Ltd ABN 93 161 647 007 (AFSL No.449221).Part of the Centrepoint Alliance group https://www.centrepointalliance.com.au/

Erryn Langley is Authorised representative (No. 1269525) of Alliance Wealth Pty Ltd.

This information has been provided as general advice. We have not considered your financial circumstances, needs or objectives. You should consider the appropriateness of the advice. You should obtain and consider the relevant Product Disclosure Statement (PDS) and seek the assistance of an authorised financial adviser before making any decision regarding any products or strategies mentioned in this communication.

(Source: tal.com.au)

F. Offsets

Most insurers will apply ‘offsets’ to benefits. Some will include sick leave and annual leave as an offset, but some do not. Others will offset ‘other payments’ and ‘earnings.’

Whilst all care has been taken in the preparation of this material, it is based on our understanding of current regulatory requirements and laws at the publication date. As these laws are subject to change you should talk to an authorised adviser for the most up-to-date information. No warranty is given in respect of the information provided and accordingly neither Alliance Wealth nor its related entities, employees or representatives accepts responsibility for any loss suffered by any person arising from reliance on this information.