Money: Healthy move: plan to be ill

What's the best form of income protection to have in the event of long-term sickness? By Andrew Couchman

IF YOU were to become seriously ill and could not work for some months, maybe years, which would be of most use to you, a regular monthly income or a cash lump sum?

It is a question that is impossible to answer. The lump sum may help you adapt to any new way of life, but you would still need an income to survive on. On the other hand, the income without the lump sum would mean you would receive no capital to buy the things you might need, and the chances of borrowing money would be bleak if you were not able to work.

But when it comes to protection insurance, all too often insurers ask you to make just such a choice. They can offer you income protection, sometimes also called permanent health insurance or PHI, and this will pay a monthly income if you cannot work because of illness or disability. You can usually have up to 50 to 60 per cent of your income insured and the insurer will pay out after you have been ill for between three and twelve months (the shorter the time the more expensive the cover, generally) until you return to work, die or retire.

If you would prefer a lump sum, a critical illness policy would give you exactly that on diagnosis of one of perhaps 30 or more critical illnesses. It would pay if you had a heart attack, stroke or cancer, for example, even if you went back to work fairly quickly.

Income protection is the elder product, having first seen the light of day over 100 years ago, since when it has changed little. Generally, white- collar workers pay least while people in some occupations such as miners will not be able to get cover at all.

Many employers have their own schemes and Mike Turner, product manager protection at the insurer Friends Provident recommends asking your employer:

n Is there a company income protection or PHI scheme in place?

n Am I a member and if not how can I join?

n After how many weeks or months of illness will it pay out and for how long?

n How much would I get?

n Will it go up as salaries rise?

n If I leave can I take the cover with me (this is known as a continuation option)?

It may be possible to top up any existing company cover or to have your own independent cover, but that will not entitle you to double benefits - and it pays to take professional financial advice before you make any decision.

The Office of Fair Trading, in a recent critical report, pointed out that many people are over-insured, only finding out when they become ill that the full plan benefits will not be paid.

This is because they exceed the insurer's arbitrary limit of 50-60 per cent of your pre-disability income, plus any State benefits. This particularly affects the self-employed who pay their accountant to minimise their taxable income and then find that that is the figure their insurer will base its maximum benefit on.

Some insurers have a reputation for being particularly harsh when it comes to paying out yet, ironically, insurers' tests of disability are now more generous than the tests applied by the Department of Social Security for Incapacity Benefit.

Most insurers will pay a straightforward claim quickly and without fuss but problems can arise if the condition is difficult to prove - stress or a bad back for example. If you do have to claim, tell the insurer as soon as possible, be open and honest with them and expect to have periodic medical check-ups.

Claims are much simpler on critical illness policies. There is usually no maximum benefit other than the insurer's overall limit and payment depends on proof of having the condition, not of being unable to work.

Ted Yeates, an independent financial adviser at Cheltenham-based Warwick Butchart Associates, recommends critical illness cover for mortgages, adding as much as you can afford on top of that.

Cover of four times your income or more is not unheard of, but make sure that you can comfortably afford the cover. Most people settle on two to three times their income.

Mike Turner says that many people choose to add the cover to their mortgage endowment policy and this can be the cheapest way of buying it. It only makes sense though if you really want a mortgage endowment in the first place.

Suffering a serious illness is more likely to happen when you are older rather than when you are younger. Even so, a man of working age is 20 times more likely to be off work ill for more than six months than he is to die before age 65, according to Permanent Insurance. At the age of 30 he has almost a one in three chance of suffering a heart attack, cancer or stroke before age 65. By comparison, for a woman of the same age the risk is almost one in five.

Critical illness and income protection are, according to Ted Yeates, complementary rather than competing, but things would certainly be easier if insurers offered a single product to fully meet both the need for income and a lump sum.

In the meantime, if you have life assurance cover - and one out of three of us do - then it may make sense to look at serious illness cover too in order to get both a lump sum and an income.

Warwick Butchart Associates on 01242 584144; Permanent Insurance on 01392 445555; Friends Provident on 01306 740123. Andy Couchman is publishing editor of `HealthCare Insurance Report'.