As a limited company owner, you will typically only get paid when you work – particularly if you provide professional services to clients.
If you’re unable to work because of illness, it can put a strain on finances and while you may be able to bridge the gap with savings, this isn’t a long-term solution.
This is where an income protection policy can give you the support – and security – you need, when you need it most.
This type of policy will provide you with a pre-agreed monthly income that can help to cover expenses until you are well enough to return to work and start earning again. When it comes to insurance, there are always clauses and caveats to what is and isn’t covered and the old adage of shopping around for the best deal certainly applies.
Here we look at how income protection (IP) works in practice and the level of cover you can expect.
Income protection in a nutshell
IP cover can be arranged to pay you a fixed monthly sum if you’re off sick or suffer a long-term illness. The policy can be put in place to cover you up to the point you retire, although you may decide you only need coverage until you have paid off a mortgage, for example, or until your children are no longer dependent on you.
The amount of benefit you receive will depend on your average contract income and the length of time before the policy is activated, known as the ‘deferred period’.
This can be from day one, a month, six months or as long as a year from the time you are off sick.
Usually, the longer deferred period you select, the less you’ll pay for the policy but you’ll need to be sure you have the funds to cover you for the intervening weeks or months.
If you don’t have any funds to fall back on, a shorter deferred period is likely to be your best option.
How to pay for Income Protection
Most providers will insure you for up to 80% of your ‘gross earnings’ if the premiums are paid through your limited company; if you buy IP with your personal, post-tax income, you can usually arrange cover for up to 55% of your earnings.
Paying for IP via your limited company means you’ll be able to claim for it as an allowable business expense, making it tax-deductible although you will still have to pay tax on any payments received from the policy.
What to look for in an IP provider
- You should always look for a reputable provider who is experienced in dealing with small business owners and understands how contractors operate. Ask your accountant or financial adviser for help, especially with the kinds of exclusions to look out for.
- Make sure the policy is on an ‘own occupation’ basis and clearly states that you will receive monthly payments if you’re unable to perform your usual work as a contractor. Unless this is specified, some providers will try and claim you could carry out some other type of work from your contract work and refuse to pay out.
- Check the policy covers you for the period you want, for example, until you retire.
- Look for a provider who understands how professional contractors / small business owners operate and is prepared to be more flexible, making changes to your policy as your circumstances change.
- Ensure your IP policy is inflation-proofed.
- If you pay yourself a modest to low salary and take the balance in dividends – as many company owners do – check that your policy takes this into account. Some providers view dividends as investment income and pay out significantly less on any loss of earnings claims you make in future.
Are there any drawbacks to income protection?
As with any form of insurance, you should expect to answer a series of eligibility questions and may be required to undergo medical checks before a plan is issued.
You may be asked about any previous illnesses or inability to work caused by a medical condition. If you’ve had time off due to stress or suffer from a bad back, for instance, this could impact on the level of cover you are offered.
IP is designed to cover loss of income due to illness only and will not pay out if you stop earning because a contract being cancelled.
You can insure against loss of earnings for reasons other than illness but this will mean paying an additional or higher premium.