How will income protection insurance changes impact the self-employed?
Russell Cain Updated: 29 September 2021
Income protection is an important tool for self-employed individuals or small business owners who want to protect their income. However, getting adequate protection from your income protection is imminently going to worsen for the self-employed and contractors.
At the end of 2019, APRA informed life insurers, they had to make major changes to income protection policies starting from March 31 2020 to 1 October 2021.
The income protection changes at a glance
The following changes will be implemented no later than 1 October 2021:
Rules will be in place so that benefits do not exceed 90% of earnings for the first 6 months and 70% after that.Benefits will be based on the last 12 months of earnings, if you have a predominantly stable incomeNo guaranteed renewable policies from 1 October 2022*Stricter disability definitions for longer benefit periods
*The implementation of the policy term contract measure was postponed by a year to 1 October 2022 by the regulator after consultation with the industry.
On 01 April 2020 new applications for Agreed Value income were discontinued.
The impact of changes to the self-employed
Although these concerns seem reasonable, the impact on self-employed people could be especially negative. Itâs bad enough that Agreed Value, which locked you into your monthly benefit at the time of application, was abolished in March 2020. But, itâsâ likely to get twice as bad now that you donât have the flexibility you once did.
For self-employed persons who had an annual income that may fluctuate, Agreed Value policies offered greater security, but no more.
More bad news
The alternative to Agreed Value was cheaper Indemnity policies, which calculated your benefits on annual earnings at claim time. Thus they were affected by any subsequent reductions in your income.
The double whammy of bad news is that APRA has stated that your monthly benefit, for indemnity policies commenced after these imminent changes, will now be based on your annual earnings of the last 12 consecutive months before you got sick or injured, if you have a predominantly stable income.
Currently, select insurers provide you with the option of providing proof of your income over the previous 2 to 3 years and using the best 12 consecutive months of that period. Giving self-employed workers a lot more flexibility in being able to prove their income to ensure they receive their full monthly benefit.
There is however an exception being made for policyholders with a variable income. They will have the income at risk assessed based on the average annual earnings of a period that is appropriate for that specific occupation. It is uncertain though at this stage how insurers will interpret this going forward. As things stand currently, there is more clarity if you take out an indemnity policy before the changes come into effect.Â
If the economy took a downturn due to a worldwide pandemic or if your workdays were curtailed due to ill health the previous 12 months, your claim could be greatly reduced if you donât fall into the variable income category.
Other changes to income protection
Other changes being introduced from 1 October 2021 include insurers having rules in place to ensure benefits do not exceed 90% of your earnings for the first six months of the claim and do not exceed 70% of earnings after that, no more guaranteed renewable policies, and stricter disabilities definitions for longer benefit periods.
How self-employed people can mitigate the impact of change
So what can self-employed people do to mitigate the potential negative impact of these changes to income protection insurance in Australia? The best option would be to get appropriate cover sooner rather than later.
The changes to the benefit payouts are due to take effect from 1 October 2021, although some insurers have already started implementing the changes as they stand to benefit from lower claim payments for new policies.
Benefits of income protection
If you fall ill or are injured, an income insurance policy currently pays up to 70% of your gross income as a monthly benefit. Youâll be able to use these benefits to cover your expenses when you arenât able to earn any money.Income protection cover payments are generally tax-deductible, which could help you save on your premiums. Any benefits paid to you will, however, be assessed as part of your income and taxed accordingly.There are more comprehensive policies available outside what your Super would generally offer as an income protection benefit.
Frequently asked questions & answers
What is income protection insurance?
Income protection insurance is a cover designed to assist you and your family when you are unable to earn an income due to illness or accident. It typically pays you a monthly benefit over a specified period of time or until you are able to return to work. This will free your mind from financial worries as you focus on your recovery.
What does income protection insurance cover?
Income protection insurance generally covers you when you are unable to earn an income. The policy generally pays out 70% of your income for a certain period. Youâll be able to use the benefits paid to you to pay for your medical bills or to cover your general expenses.
What are the changes to income protection insurance?
Insurers will from 1 October 2021 no longer offer guaranteed renewable policies, canât have benefits exceed 90% of your earnings for the first six months of the claim and do not exceed 70% of earnings after that and will implement stricter disability definitions making it more difficult to have longer benefit periods.
Source: Apra.gov.au/final-individual-disability-income-insurance-sustainability-measures (April 2021)
