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Income protection insurance (IPI) is a policy designed to replace some or all of a person's salary or wage if they become unable to work due to illness or disability. Typically the policy will pay out a tax-free amount equal to some fraction of the person's normal income, until such time as the person recovers and returns to work, reaches retirement age, or dies.
IPI policies protect wage earners against being unable to work due to accidents or illness. State benefits, such as Statutory Sick Pay (SSP), and Employment and Support Allowance (ESA), fall a long way below the average income, so the insurance is needed to make up the shortfall.
IPI does not provide cover against loss of income due to unemployment, so some form of protection such as Mortgage Payment Protection Insurance (MPPI) may also be appropriate to complement the IPI policy.
An employer is obliged to pay Statutory Sick Pay (SSP) for the first 28 weeks of an employees illness, but the rate is quite low compared to the average wage. Some employers make generous provision for sick pay, possibly paying the employee at full pay for some time, and then a half time for a further period of time. When taking out Income Protection Insurance, it is possible to defer the payments until after the sick pay from the employer has run out. Deferring payments in this way can substantially reduce the premiums charged for the policy.
Generally there can be quite complex definitions of incapacity associated with policies. The highest level of incapacity refers to Activities of Daily Living. The person would be defined as incapacitated to that level if they were unable to perform a number of normal daily activities, such as washing, cooking meals, eating, climbing the stairs etc.
There are three levels of incapacity associated with the ability to work. These are "own occupation", "suited occupation" and "any occupation". As an example, a person who was unable to perform their regular job, but could perform some other job appropriate to their level of education and training would be incapacitated for their "own occupation" only. If their policy only covered them for incapacity in "suited occupation" then they would be unable to claim.
The benefit paid out by the policy is tax-free, and is often limited to about 70% of the person's original gross earnings. Some policies will allow the benefit to be paid in addition to state benefits, such as ESA (Employment and Support Allowance), but some will deduct the ESA.
A person considering purchasing an IPI policy could calculate how much income they would lose if unable to work due to illness or accident, how much they would save (fares, work clothes etc) if they did not have to work, and how much they would receive in state benefits. This allows the appropriate level of cover to be calculated. As there are many options when buying an Income Protection Insurance policy, it is usually recommended that advice should be taken from an Independent Financial Advisor (IFA).
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