As a temporary worker, contractor or freelancer, if you can’t work through illness, then you can’t earn. Unlike employees, with the luxury of receiving either contractual or statutory sick pay, contractors need to implement their own financial safeguards to protect themselves, their loved ones, and their day rate.
Consider the financial ramifications if you suffer from a serious illness or injury and cannot work for several months. You still have financial obligations, such as the mortgage, day-to-day household bills and potentially may require additional funds to pay for treatment, medicine or even modifications to your home.
Both Critical Illness and Income Protection policies provide financial support if you have an unexpected illness or injury. But, which suits your business model best? Is it the regular income that Income Protection provides until you are well enough to return to work, or the large cash injection into your company that Critical Illness Cover offers?
Before I delve into the intricacies of both Critical Illness and Income Protection, there will be some of you that feel that because you are fit and well now, it’s extremely unlikely that you’d ever need this type of cover, sadly the statistics tell a different story.
What’s the likelihood of getting a serious illness?
Many contractors and freelancers ask themselves this, and the truth is that approximately 1 in 5 men, and 1 in 6 women, will suffer a long-term illness in their lifetime. It’s shocking to note that the average age for critical illness claims in the UK is only 47 years old.
Plus, up to 40% of the UK’s small to mid-sized businesses may be underinsured. This is according to the FCA’s Thematic Review.
It’s prudent to give yourself the same protections as your PAYE counterparts. You’ll have peace of mind that should you become ill or injured, money won’t be a concern and you can focus all of your energy on getting better.
What’s the difference between Critical Illness Cover and Income Protection?
Both policies provide financial support if you have an unexpected illness or injury. There are no restrictions for either policy type on what the payout is used for.
However, Income Protection is for any illness/condition that stops you from working and the regular income you’ll receive is there to tide you over. The large one-off payment Critical Illness provides is on the diagnosis of a condition/illness listed on your policy.
Critical Illness Cover
Critical Illness Cover pays you a tax-free single lump sum if you’re diagnosed with a specified illness. The kinds of illnesses that are covered are usually long-term and very serious conditions such as a heart attack or stroke, loss of limbs, or diseases like cancer, multiple sclerosis or Parkinson’s disease. Different providers offer differing levels of coverage, but the golden rule is the more conditions covered, the more the monthly payments. It’s always worthwhile to discuss this type of policy with a whole-of-market financial adviser that specialises in the contractor sector.
You receive a large, one-off payment if you become ill, allowing you to focus on your recovery rather than money worries. The cash payout is tax-free and can be used for anything you wish. Commonly claimants use the lump sum to pay their mortgage and regular bills. Additionally, with serious illness or injury, you may require medical treatment or need to make home modifications, such as a ramp or a lift to increase accessibility. Crucially you’ll have the reassurance that at a difficult time, you won’t need to worry about money.
Unlike Income Protection, there’s no deferral period, and a claim can be made on a diagnosis. However, depending on the specifics of your policy, you may need to survive for at least 10 to 30 days after your diagnosis before the policy will pay out. Once the policy has paid out, it ends.
As a contractor, self-employed or a business director, you don’t receive sick pay which is why it’s so important to have Income Protection. The cover will provide you with a regular wage until you are well enough to resume work again.
Income Protection covers you for ANY illness that stops you from working and earning, providing you’ve been signed off by a doctor. Commonly this includes musculoskeletal problems, such as broken bones or back pain and mental health conditions like depression, stress or anxiety. These common conditions aren’t usually covered by critical illness insurance. Income Protection also covers more serious illnesses like heart disease, cancer or strokes. Many insurers also offer free services such as counselling and rehabilitation support to enable a speedy recovery.
The regular wage, usually 50% – 80% of your gross earnings, starts once a ‘deferral period’ has passed. The longer the deferral period, the lower the monthly premiums. You can choose a deferral period that suits your needs, usually from a week to 24 months but make sure you have enough funds or employer sickness benefits to cover this period. The payouts continue until you’re well enough to work again.
You can elect to make your Income Protection plan payout long-term, for example, until retirement but this will naturally increase your premiums. Or go for a budget policy which will cover you for a year or two, these can be very cheap.
The tax implications depend on how you choose to pay the policy premiums. The payouts are tax-free if paid from your own pocket. If paid for through your business premiums are tax deductible, but you will be taxed if you make a claim. It’s always worthwhile to discuss the options with your contractor specialist financial adviser.
Are the premiums the same?
Critical Illness and Income Protection premiums are hard to compare because they provide very different types of cover, however, Critical Illness Cover tends to be a little more expensive.
Both policy types take into account your age, medical history, the type of job you do and the length of cover required. With Income Protection there are additional factors such as the percentage of income you want to be covered, the length of the deferral period and if you want an index-linked policy so your benefits are protected from the effects of inflation.
What to look out for?
Every Income Protection policy has its own definition of ‘incapacity’, so check your documents carefully. If you choose a policy offering ‘own occupation’ that does what it says on the tin and pays out if you can’t do the job you hold at the point of making a claim. Income Protection does not cover the cancellation of contracts, only the inability to work due to illness.
It’s important to know that Critical Illness policies don’t cover all illnesses, and they won’t pay out if you die. To make a successful claim, your condition must be included on your insurer’s list of definitions of serious illnesses. These vary by insurer and in some cases, the insurer may only pay once your illness hits a certain level of severity. It’s always advisable to speak to a financial adviser to ensure you choose the right policy.
Both policy types generally exclude illnesses arising from alcohol and drugs, pregnancy and pre-existing conditions. That said, some providers will agree to cover certain pre-existing conditions, this would be assessed on a case-by-case basis and would be reflected in the premium.
Which policy is right for me?
If you have a large mortgage debt that you wouldn’t be able to pay without your income, Critical Illness Cover could be a good option for you. The payout can be used to cover the mortgage, or, in fact, for anything else you choose.
Income Protection policies are more likely to pay out than Critical Illness Cover because you don’t have to develop a specified illness to qualify for a payout, you just need to be unable to work because of an accident or illness. This could be for nearly any reason and includes things like back problems and stress.
This is where talking to a financial adviser who specialises in the contractor sector adds the most value. A good adviser will get to know your individual circumstances and recommend the right policy and level of cover required to adequately protect what matters to you.
Do insurance companies pay out?
A record £6.8 billion was paid out in individual and group life insurance, income protection and critical illness claims in 2021, according to the latest figures from the Association of British Insurers (ABI) and Group Risk Development (GRiD).
98% of both individual and group claims were paid in 2021. The main reason behind a personal protection claim being rejected was ‘non-disclosure’. This is when a customer doesn’t tell their insurer something at the outset that might have affected the insurer’s decision to provide cover and the price of that cover.
In summary, both policy types can be used to safeguard yourself, your family, and your day rate and are worth considering.