Life, Limbs and Livelihood

By Mary Holm, independent financial writer.  Article reprinted from Holm Truths with permission from Mary Holm.

Life is not fair.  But insurance is one way of making it a bit fairer.

In an insurance scheme, many people put money into a pool.  Some don’t get anything back. Others get back much more than they put in.  But those who do well out of insurance only do so because something bad has happened to them.  Receiving insurance money helps to put things back into balance.

Most people would rather not be in a position to claim insurance – especially life insurance!  Still, if others are financially dependent on you, you’d better have a life policy. 
The same applies to two other types of insurance – which are also necessary for people without dependants if they are reliant on their work-related income:

· Income protection – also called disability, loss of income or income replacement insurance. With this, you receive a percentage of your usual income or a regular dollar amount after you have been unable to work for, say, one, three or six months.  Usually, you can choose how long payments will continue if you can’t work for an extended period. It might be just a few years, or it might continue until you turn 65. Clearly, the latter is better – even though it’s more expensive.

· Lump sum total permanent disablement (TPD) insurance.
Typically, this is not paid until you have been off work for six months and are unlikely to ever work again.  With both income protection and TPD insurance, some policies will pay if you can’t do your particular job; others will pay only if you can’t do any job similar to yours.

While all three types of insurance – life, income protection and TPD – are essential for many people, not everyone needs them.  How can you be sure you have necessary – but not unnecessary – cover?

Do you need life insurance? 

Whether you need life insurance is not always obvious.  People with no dependent children – retired or not – often have no need for life insurance.  And, oddly perhaps, in some circumstances single parents with dependent children don’t need it either. If they died, the children could live with the other parent and inherit enough assets to support them until adulthood.

On the other hand, a non-employed caregiver may need life insurance. If they died, the family could use the insurance money to hire someone to look after the children or other dependants.

How much life insurance?

Think through your dependants’ financial needs if you were to die tomorrow.  It’s a good idea to do this together. Your partner may be aware of current or future expenses that you won’t think of!  Arguably your partner should have a bigger say in how much coverage you have, and you should have a bigger say in how much they have.

Note that the amount of coverage you need, will change over time.

It’s a good idea to review your needs whenever there’s a relevant change in your life, such when a child is born or becomes financially independent, or when you take on a larger mortgage.  Note, too, that as you pay off a mortgage, you could gradually reduce your life cover.

Do you need income protection insurance?

If you are employed, your employer may continue to pay you over an extended period of illness. But it’s foolish to assume that.

Find out what your employer’s sick leave policy is, and set up your insurance so payments begin soon after your sick pay ends – after allowing for any other financial resources you have.

For most self-employed people, income protection insurance is clearly needed.  There are, of course, Government-paid sickness and invalid benefits or, if you are an accident victim, ACC payments. If you receive ACC payments, your income protection insurance payments will be reduced.

It’s the other way round with benefits. If you receive income from insurance or investments, your benefit will be reduced, perhaps to zero.  But that’s not a good argument against insurance.

Most disablements are caused by ill health, not accidents. So your Government entitlement is more likely to be a welfare benefit than the more generous ACC pension.  A lot less than most of us would like to live on.

How much income protection insurance?

You might think you will need less income if you are unwell, as you won’t participate in as many activities.  Also, if your illness reduces your life expectancy and you have retirement savings, you could supplement your income by spending some of that money.  But you might actually need more income, to cover medical and other new expenses.

And some medical conditions would prevent you from working without lowering your life expectancy. 

In any case, insurance companies set an upper limit on income protection insurance. Usually it’s 75% of your pre-tax work-related income if the insurance payments are taxable, or 55% if the insurance payments are not taxable.

The limits are there because the insurance company doesn’t want you to be better off ill than well. Who knows what silly behaviour you might otherwise get up to!

Basically, you need enough income protection insurance to cover your bills – not necessarily enough to pay off your mortgage and other debts.

Do you need lump-sum TPD insurance?

You may think that if you have extensive income protection insurance you don’t need TPD cover as well.  However, it can be a great relief at a stressful time to receive a lump sum to cover additional medical expenses or any necessary changes to your home.

You may also want to pay off mortgages not covered by separate mortgage insurance and other debts or put aside money for children’s education. If you would lose a company car, you may want to buy your own vehicle. And if you are diagnosed with an incurable disease, you may want to fund travel or a family reunion.

The only way to get TPD coverage is as an add-on to life insurance. And it can’t be more than the amount payable on death.  So even those who don’t need life insurance may decide to get some, so they can also get the TPD cover.

Note that a TPD lump sum payment, or investment income, won’t affect any income protection payments you get. They don’t count when the insurer sets its maximum cover.

How much TPD insurance?

Go through the items listed above, and any others you might want a lump sum for, and estimate amounts.

The views or information given in this article are not necessarily the views of AMP or AMP Adviser Businesses.  It provides general financial information and is not intended to provide financial advice.  For personalised financial advice, we recommend you contact us.