Income Protection v Critical Illness

In the UK, Critical Illness Cover (CIC) outsells Income Protection (IP) by around 5 to 1.

To put that into numbers, on an individual basis around half a million people each year buy critical illness cover, compared to about 100,000 purchasing IP.

The main reasons for this gap are fairly well known: most people prefer a lump-sum benefit to an income, CIC is perceived to be an ‘easier’ sale, IP is too difficult to underwrite, CIC is sold as an add-on to life cover, IP suffers from comparisons with Payment Protection Insurance (PPI) and so on.

In an ideal world the benefits complement each other as they represent different risks. CIC typically provides a lump sum in the event of a potentially life threatening illness while IP pays income if you cannot work until you either can work or retire. One pays off the debts while the other pays the ongoing bills, if you like.

But for many people affording both is a luxury. Indeed, some advisers are pro-CIC while others are pro-IP, occasionally to the extent of only recommending one type of benefit even for those who could potentially afford both.

So let’s take a look at the key issues.

1. Design and history

CIC was designed as a major medical expenses plan back in the 1980s. It was developed in South Africa to allow people to pay for life saving operations and treatment, which many could otherwise not have afforded.

In the UK, however, with the National Health Service in place, the product found success being sold alongside life insurance primarily as mortgage protection cover (‘suffer a heart attack and pay off your mortgage’).

Whilst this is exactly how a lot of policies have been sold, some advisers see this as a bit of a square peg in a round hole and instead argue that IP provides more comprehensive cover, even for mortgages.

Income Protection, formerly known as Permanent Health Insurance, is a long-term insurance policy that pays out if an individual is unable to work due to injury or illness, and is described by Which? as the one protection policy every working adult in the UK should consider and the very one most of us don’t have.

2. Cost

Is it possible to compare the two products on price alone? Some advisers argue that IP is less expensive than CIC and that the latter is therefore inefficient for those on a budget, even for mortgage protection.

To an extent, whether or not IP is cheaper depends on the individual circumstances and how the two are compared, but if we look at a quote for a 35-year old covering £250,000 over 30 years, CIC would cost in the region of £90 per month, whilst an IP policy could potentially pay over £300,000 as an income if they could never return to work, and would cost around £30 per month.

3. Scope of cover

In theory IP covers all medical conditions. Unlike CIC there is no ‘list’ of insured illnesses and so it tends not to matter what the illness or condition is. The important factor is simply whether or not you can work.

4. Windfall payments

There are some so-called ‘windfall’ CI payments where people are paid a huge lump sum having already returned to work. On the flip side half of all heart attacks are repeat attacks where most people return to work within 6 months of the first incident due to financial pressures.

Does IP help here? If the policyholder returns to work within the deferred period (the waiting period before a claim is paid), the policy would pay nothing, whereas CIC would likely have paid out upon diagnosis of the heart attack, removing the financial pressure to return to work and reducing the risk of a second heart attack.

Mark Jones at LV= argues: “The cover that someone needs will very much depend on their individual financial and personal circumstances. Speaking to advisers it’s clear that some clients think it’s a case of ‘either/or’ when it comes to income protection and critical illness cover, however there is a significant difference between the two products.”

“Critical illness cover will pay out if a client suffers a serious illness; if it’s an accelerated product it also pays out on death. If a client is unable to work but not as a result of a critical illness e.g. they break their leg or suffer a back injury, without an income protection policy in place, they could find themselves in a financially vulnerable position.”

5. Rehab and other features

Many IP plans provide rehabilitation and other forms of benefit aimed at getting people back to work quickly. While this can reduce the amount paid out in claims, it often also reflects what the policyholder really wants, which is to be fit enough to be able to work.

Both IP and CIC plans can also offer a range of other benefits including counseling, second opinions, discounts for healthy lifestyles and more.

Phil Jeynes, of PruProtect, said: “Whichever type of cover you take these additional benefits and options are an important consideration that can help to save money and also improve the overall level of cover.”

7. Perception

CIC helps to remove immediate financial stress and potentially pay for treatment (and even lost income), but as one adviser once said to me, ‘there’s not much point paying off the mortgage if you can’t afford to live in the house’.

The point being that there are many bills that still need paying, even if the mortgage or rent has been taken care of. This is where IP comes into its own.

8. Claims stats

Thankfully both products have very good claims paid rates these days, with insurers typically reporting paid claim rates in excess of 90% for both CI and IP.

9.Getting it right

There are situations where IP would have been better than CI but also vice versa - it all depends what happens to the client of course.

Take the case of somebody who had a brain tumour who chose to carry on working because that is what they wanted to do. IP is unlikely to pay a penny but CI would’ve paid out upon diagnosis.

Hindsight is a wonderful thing and the problem with this argument is that it’s retrospective. We don’t know what will happen in the future so all we can do is ensure we are financially secure should the worst happen, which is where advice can be essential.

10. And finally.....

With the advent of the Mortgage Market Review (MMR), lenders are now responsible for ensuring that potential borrowers can not only afford to pay the mortgage now, but that they can afford to pay in the future (even when interest rates rise).

So what would happen if a borrower couldn’t work due to sickness, accident or redundancy? If this was long term, then the property would be repossessed by the lender, which is the last thing that lenders want to do.

To prevent this from happening, IP is the obvious answer, and it may not be too far in the future, that lenders start insisting that all mortgages are covered in this way.

So, if you don’t have either IP or CIC, then it would be a good idea to discuss your options with an independent broker and make sure that, whatever happens, the roof over your head is secure, and your family are protected.