Two terms you must watch oput for
Your income protection policy has two different terms and you should be aware of both of them. First of all, your policy is in place for a certain period. Most policies offer you cover until you are 60 or 65. Business owners may elect to take out cover until the age of 70.
Watch out, though, for cheaper policies that offer you cover until only 55. You may then still be a long way off from having sufficient assets on which to retire, and 55 is the age when the risk of disability increases. At this age you may be unable to extend your cover except at an exceptionally high cost because you are now older and more of a risk to the life assurer.
The other term you need to check is that which applies to the payment of the income benefit. If you become disabled, make sure the age to which you will be paid a benefit is the same as the age at which you expect to have sufficient retirement fund assets on which to retire. Policies usually offer cover that pays benefits until you are 60, 65 or 70.
Porthen says you need to make sure your retirement savings will be able to provide for you from the time your benefit ceases. This may mean taking out lump sum disability cover to provide funds for your retirement years or taking a premium waiver on a retirement annuity to ensure that your contributions are paid even when you are unable to work as a result of disability.
If you recover
Despite the term until which your policy says you will be paid benefits, if you recover from a disability sufficiently that you are able to return to work, a life assurer that pays you an income benefit can then reassess that benefit.
Marx says contractually life assurers have the right to revisit your case at any stage. Practically, he says, they do not. Usually, cases where a disability is a difficult one to assess, such as back problems or psychological illnesses, are followed up.
However, cases where it is accepted that the policyholder has very little hope of recovering may never be revisited, Marx says.
Crause says conditions are monitored more regularly during the first five years after a claim, because this is usually when the policyholder is on active treatment and may recover. A cancer or mild stroke patient, for example, may recover fully, but other disabilities may never improve, and then the assurer will check only to see if the insured is still alive, she says.
If you return to work after claiming on your policy, the assessor is likely to be involved in your rehabilitation and to be able to assess the level of income you can generate, Crause says.
A policy that pays a partial disability benefit will then compensate you for the lost earnings up to 75 or 100 percent, depending on the level of cover your policy offers.
Crause says a person who earned R20 000 a month and who returns to work half days for R10 000, for example, could receive R7 500 a month on a policy that offers partial disability benefits with income insured to 75 percent of pre-disability income.
Your premiums are tax-deductible
The premiums you pay on an income protection policy are tax-deductible, unlike most personal life assurance contributions.
Generally, you are allowed to deduct the costs incurred in generating an income; the costs of protecting your income are regarded as such an expense.
Section 23(m) of the Income Tax Act provides for the deduction from taxable income of an insurance policy that covers you for loss of income as a result of illness, injury, disability or unemployment, as long as the benefit you derive from the policy is income (in other words, not a lump sum).
And you do not have to wait until you are assessed to benefit from the deduction. Your employer can adjust your Pay As You Earn tax to take into account any premiums you pay on an income protection policy, as long as you can provide your employer with proof that you are paying the premiums.
If you are disabled and your income protection policy pays out, the monthly income you receive will, however, be taxed as and when you receive it.
If you take out a policy that includes other benefits, such as lump sum disability cover or an investment portion, only the portion of the premium that is used to pay for the income benefit is tax-deductible.
The sickness benefit offered by Sanlam and PPS that does not require proof of loss of income for a successful claim is not tax-deductible, but the benefits paid out on these policies are tax-free.
If a sickness benefit is packaged with an income protection policy, the premiums will have to be apportioned for tax purposes.
If you have an income replacement policy, your life assurance company should send you an income tax certificate that states the amount you can claim against your taxable income.
Discovery says that since the odds of lodging a claim are against you (you have a one-percent chance), you may as well benefit from the tax- deductibility of your premiums. This could save you about 30 percent of your contributions, depending on your average rate of tax.
Rules on how much you can be paid off
Life assurers around the world do not allow you to claim 100 percent of your pre-disability income if you become disabled.
There are apparently extensive international statistics that show that a lot more people continue to claim, instead of returning to work, when insurers allow cover to increase to close to 100 percent of pre-disability income.
Life assurers also believe that limiting the percentage of your income that you can claim reduces the likelihood of policyholders committing fraud by faking a disability in order to qualify for an income.
Crause says another argument is that when you are no longer working, your expenses, such as those involved in travelling to work or dressing for work, are reduced.
The former Life Offices’ Association (LOA), which is now part of the Association for Savings & Investment South Africa (Asisa), recommended in its code of conduct that life assurers pay out on income protection policies no more than 75 percent of your pre-disability income. This non-binding guideline was removed from the LOA’s code of conduct in 2006 for fear of contravening the Competition Act.
However, it remains standard practice locally and internationally for income benefits not to exceed 75 percent of pre-disability earnings. In South Africa, Discovery Life is a notable exception (see below).
The LOA also suggested that its members prevent you from trying to insure yourself for more than 75 percent of your pre-disability income by taking out multiple policies. It suggested that life assurers check how your policy benefits would aggregate if you were to claim and ensure that you would not be entitled to more than 75 percent of your pre-disability income.
In its code of conduct, now Asisa’s code, the LOA recommended how life companies should aggregate benefits, including those on group and individual policies, and lump sum and income policies.
The LOA drew up a table that would allow its members to convert a lump sum benefit into a monthly cash benefit to determine if a policyholder was receiving more than 75 percent of his or her pre-disability income. The only exclusion from the aggregation exercise the LOA recommended was dread disease policies.
Sanlam, Old Mutual and Liberty aggregate the policy benefits for which you may qualify, and the rules on how lump sums are taken into account with income benefits are quite intricate.
Marx says as long as Sanlam is aware of all the cover you have in place, it will prevent you from taking out cover that will provide benefits you cannot enjoy in terms of its aggregation rules.
He says the problems occur when your cover changes at a later stage – for example, if your income drops or you take out new cover through, say, a group scheme offered by your employer.
Marx says he has never heard of someone being denied lump sum benefits on a policy, but the income life assurers pay out can be limited if it exceeds 75 percent of pre-disability income.
Crause says in addition to taking out income protection for up to 90 percent of your income (depending on your age when you buy the policy) or 100 percent on a temporary income benefit, Old Mutual allows you to take a lump sum of twice your annual salary but capped at R750 000, to cover your lump disability needs.
Bucking the trend
The LOA’s aggregation guidelines are voluntary and at least one life assurer has chosen not to follow them.
Rabson says Discovery Life has never aggregated lump sum and income protection disability benefits. Furthermore, unlike most other life assurers, Discovery offers initial income benefits at 75 percent of your income with an upgrade to 100 percent of your pre-disability income if you are able to prove that your disability is permanent.
The thinking behind Discovery’s benefit is that once it has been confirmed that your disability is of such a nature that you will not be able to return to work, a benefit at 75 percent of your pre-disability income is a penalty.
Most other assurers offer temporary disability benefits at 100 percent, reducing to 75 percent when your disability is confirmed as permanent.
t won't help you if you are retrenched
Discovery Life, Old Mutual, Liberty and Sanlam do not offer retrenchment cover on its income protection policies.
Crause says Old Mutual has a separate policy that pays out a six-month retrenchment benefit while you are looking for a new job, but this benefit is not automatically included on the income protection policy, because it requires its own specific rules to ensure that the benefits are not abused.
The life assurer has to be sure that you are not taking out the policy when you already know your employer is in trouble or your job is about to be withdrawn, she explains.
Crause says if you can afford this cover, you should take it out.
Liberty’s policies offer a benefit in terms of which your premiums can be waived for a year if you are retrenched. Porthen says the benefit must be selected and comes at an additional cost.
Liberty also offers its policyholders who are facing financial difficulties the opportunity to reduce their benefits for up to six months and then to reinstate them without new underwriting – in other words, without your premiums being recalculated based on the risk you pose then.
Ordinarily, if you reduce your cover and then increase it later when your financial position improves, your premiums for the additional cover will be calculated in line with your age and other risk factors at the time that you increase it and not at the rate you were given when you first took out the cover
9. Beware of gaps in your group benefits
Many people do not take out income protection policies because they believe they enjoy this kind of cover under the group life schemes offered by their employers or as a benefit for members of a retirement fund.
However, you should be aware that there could be gaps in your group scheme income protection cover.
If your group scheme offers this kind of cover, it may be cheaper than if you take out the cover as an individual, depending on your age and health status relative to that of the group.
A younger, non-smoking healthy person may find individual cover cheaper, whereas an older, smoking, less healthy person may find group cover cheaper, Rabson says. This is because the premiums are determined on the risk posed by the group as a whole, rather than the risk that you, as an individual, pose.
But Porthen says a lot of people are lulled into a false sense of security about their group life cover and never actually check the details.
At the FPI convention this year, Discovery Life pointed out the following:
# The maximum income protection you can purchase is restricted. Discovery says it is usually about R60 000 to R70 000 a month on group life policies. This leaves significant gaps for executives who may have higher salaries. Crause says Old Mutual allows up to R150 000 a month on a group policy and up to R100 000 on an individual policy.
You should check just how much income you will receive from your employer’s group life scheme should you become disabled.
# An individual income protection policy will be based on a single definition of disability, whereas a group life policy may begin with an "own occupation" definition, which changes to an "own or similar" occupation definition after 12 months.
In other words, you can take out an individual policy that insures you against losing the ability to do your own occupation, but on a group basis, you will probably only get this insurance for a year, and thereafter you will continue to receive payments only if you are unable to do either your own or any similar occupation.
# You can usually choose the term of the cover on an individual policy, but the term is likely to be set on your group policy, and the group scheme term is usually the same as the group retirement age.
# With an individual policy, there are unlikely to be any limits on the escalation of the benefit you receive when you are claiming. But a group policy is likely to have a limit on the benefit escalation for all members of the group.
# With an individual policy, you have the opportunity to take out cover that ensures you will receive 100 percent of your income if you become permanently disabled, whereas group schemes tend to payout only 75 percent on permanent disability.
Discovery said these gaps are usually driven by an employer’s ability to afford the premiums for the group scheme, and employees are often unaware that they can fill the gap with an individual policy.
For example, an employee who earns R30 000 a month may enjoy group scheme cover for 75 percent of this salary – that is, R22 500 – with a three-month waiting period and an "own or similar" definition of disability after 12 months.
Discovery says if that employee took out individual cover for R7 500 for the first 12 months and R30 000 on a nominated occupation basis with a 12-month waiting period, he or she could cost-effectively ensure that if temporarily disabled, he or she would enjoy a benefit at 75 percent of his or her income.
If permanently disabled, the insured would enjoy 75 percent of income from the group scheme for the balance of the 12 months and the other 25 percent from the individual policy, and the individual policy would take over after the first 12 months for the nominated occupation cover.
10. Be careful of the income you insure
You need to take some care about the earnings you insure and what you tell your life assurer about how you make a living.
In its 2007 annual report, the Office of the Ombudsman for Long Term Insurance warned about problems that arose with a policy sold to a sole member of a close corporation (CC).
When the woman took out the policy in 2001, her CC generated a turnover of more than R800 000 a year, but the woman’s accountants had set up her CC in such a way that the salary she drew from it was limited to R26 667 a year, and she also received drawings of more than R311 000.
When the woman applied for income protection cover, she reflected her annual income as R216 000, as this would be her loss if she was disabled and unable to run the business.
The woman submitted a disability claim in 2005, and when she was asked to submit her income tax assessment for 2001, the assurer became aware that her taxable income was not R216 000 a year.
The assurer repudiated the policy on the basis of non-disclosure or misdisclosure and refunded the woman’s premiums. The assurer said that it would not have issued an income protection policy to her had it known what her taxable income was, as it fell below the minimum amount for which the assurer was prepared to grant cover.
The ombudsman’s office found the assurer was correct in saying that, in terms of the policy, it protects only taxable income.
The office, however, warned that there could be many policyholders who receive similar advice from their accountants and their financial advisers, and they may not necessarily be acting fraudulently by inflating their income for purposes of insurance; they seek instead only to protect their real loss.
The problem may be uncovered only at claim stage, the ombudsman’s office warned.
Porthen says Liberty Life will insure you only for the income you declare as taxable income, and you should not expect to receive benefits that cover expenses you put through your business.
Some life assurance companies offer business owners the ability to insure themselves against their share in a business’s overheads.
Another issue the ombudsman’s office highlighted this year was that you need to keep your assurer informed about how you earn your living.
A policyholder complained to the ombudsman when an assurer failed to pay out on an income protection policy after a back complaint rendered him unable to continue working.
The man had taken out the policy when he was running a business that involved 80 percent administrative duties, 25 percent supervision and five percent travel. The terms of the policy were such that he was required to notify the insurer if he changed jobs.
The man later sold this business and began another that involved carpentry, in which he did a substantial portion of the manual work (70 percent). The life assurer raised this as one of the reasons for not paying the policy.
Although the ombudsman in the end upheld the assurer’s right not to pay for a different reason – that the man had failed to answer questions correctly about his back problems when he applied for the policy – the case highlights the need to keep your assurer informed of changes not only to your income but also to how you earn it.
