Protecting income doesn't come cheap
I was concentrating on what what I was doing. After all, I was half way up a cliff, maybe 20 metres off the ground and making heavy weather of the climbing (the guide book had said this route was at least two grades easier than it turned out to be).
Focus was important, but Derek, who was supposed to be holding the rope, was prattling on about something else. I heard snatches of his monologue floating up to me: "…outrageous price. ", ". . . I don't really need it, do I . ", "…$3,500 …" "… bigger stand-down period …"
I finished the climb, came back down and got my breath back and then asked him what he had been talking about. It turned out to be income replacement insurance. Derek had got the idea that he needed to insure his income against illness or injury (not a bad idea considering the kinds of things that he is given to do) and had got a quote.
The premium for insurance to replace his income if he got sick or injured turned out to be $3,500 per annum. Derek was baulking at the price and reconsidering the whole idea.
Income replacement insurance is expensive: after all, the insurance company is taking on a liability to pay a full salary through till retirement. Given Derek is aged only 50 and earns a good income as a civil engineer, the insurance company could be liable for well into seven figures if he becomes ill or injured.
Nevertheless, the premiums that insurance companies set for these kinds of insurances require a long hard think. The first thing to consider is whether you need it or not. This basically requires you to think about the impact on you and your family if you lost your income.
Remember, of course, that there are benefits for people who cannot work through illness and there is ACC for those who are injured. However, neither of these is likely to be a complete substitute for your current income: benefits are small and usually means-tested.
ACC only pays 80 per cent of your income and, in any event, it is keen to put people back into some kind of work. People who have debts (especially a mortgage) and dependents are most likely to need income replacement. Nevertheless, this insurance is not only for them: unlike life insurance where the policy is really for those you leave behind, income replacement is for your own personal quality of life and standard of care if something bad happens.
The person insured never gets to enjoy the benefits of life insurance, but income replacement insurance is all about you. You need to think about what you would want if you become disabled and how you will cope and live - and insure for that.
The second thing to consider is how to cut costs - these insurances are expensive enough without going in blindly into the first policy you see. The first thing is to shop around: that is common advice but with income replacement insurance it is important because there is a lot at stake and the price and quality of policies is variable. This really is an area where you need to get good advice.
Second, understand the risks that you have and what you are trying to cover off. There are various other types of insurance which cover the same kinds of things (e.g. trauma insurance, complete and permanent disablement insurance) which overlap cover of similar events. You are unlikely to need all of these and so do not let yourself be over-sold. This is a complicated area and so understand what each covers and buy sparingly.
Third, you may not need to buy insurance to cover all your current income: if you are earning $70,000 a year, perhaps you could save money by buying income replacement insurance for $50,000 per annum. The thinking behind this is that when you are incapacitated your expenditure could be less than it was while you were at work. This is not always so, and you also have to remember that the mortgage and other costs will carry on relentlessly.
It sounds unexciting but the best thing that Derek could do would be to find a good insurance adviser. As in just about any field, the quality of these advisers is variable but a good one should be able to see that you are covering the right risks and save you money in the process.
Martin Hawes is an authorised financial adviser and a disclosure statement is available on request and free of charge, or can be found at www.martinhawes.com. This article is of a general nature and is not personalised financial advice.
Sunday Star Times