Critical illness cover vs income protection – what’s the difference? (Part 2)

Following on from part 1, Neil Adams of Drewberry Wealth Management explains critical illness cover and how it differs from income protection. If you became unable to work due to illness, how best could you protect yourself and your family?

Welcome back. Last time, we were talking about income protection and how it can provide a monthly benefit to pay for your essential outgoings, if you’re off work long-term due to an injury or illness. Many people are unclear as to the differences between this and critical illness insurance, so now we’ll explain that.

Option 2: Critical Illness Insurance

A critical illness policy is very commonly sold alongside a life insurance policy, perhaps when taking out a mortgage. The policy will pay out a lump sum if you are unfortunate enough to suffer from a serious illness or injury. Once you have made a claim on a critical illness policy, the cover will usually cease, meaning you can only claim once on the policy.

Usually, someone will take out a critical illness policy in order to pay off their mortgage, pay for medical treatment and/or make home modifications following a debilitating illness or injury (e.g. fitting a walk-in shower or stair lift).

What options should I consider with a critical illness policy?

The amount the policy will pay you

The sum assured is the amount of cover you are applying for. For example, if you have a mortgage of £150,000 then you may decide to take a critical illness policy of £150,000.

Whether the level of cover changes over time

With regards to your level of cover, you have three main options:

• Decreasing – this is where your level of cover goes down over time, so is most commonly used to cover a repayment mortgage.
• Level – with a level policy your level of cover is a fixed lump sum. For example, you take out a critical illness policy for £100,000 today with a 25 year term. If 20 years you suffer a severe heart attack then the policy would still pay out £100,000.
• Increasing – with an increasing policy your level of cover will increase each year in line with inflation, so as to retain its purchasing power. For example, if you take out a policy for £100,000 this year and inflation is 2 per cent for that year, then the sum assured would increase to £102,000 the next year.

How long your policy will last

The term of the policy is how long the policy will last. This could be the term of your mortgage, or all the way up to your retirement age. Most insurers will limit the policy to a maximum age of 70.

What do I need to look out for when considering critical illness policies?

Check how many different conditions are covered and how comprehensive the policy wording is for each condition (e.g. is the definition of each critical illness used to assess a claim rigid, or more lenient?).

• Number of critical illnesses covered under the policy – it is very important to check how many illnesses are covered under the policy. Some polices will cover as few as 35 conditions whereas others can cover 100.
• Quality of the critical illness definitions used – when trying to determine the comprehensiveness of the policy, it is useful to look at how many ABI+ definitions the policy has – these are definitions that meet the Association of British Insurers (ABI) recommended standard. As around 70 per cent of claims are for cancer, heart attack and stroke related conditions, these are the core definitions to check.

As with the income protection providers, make sure the insurer you are considering for your critical illness cover publishes their payout rates, and that they are in the right ‘ball park’. The average payout rate for critical illness cover in 2015 was 93.1% (ABI). A good financial adviser will be able to give you the payout rates for each insurer they recommend.

Which policy is best for me?

If properly sourced, income protection and critical illness polices are both good quality forms of protection that will ease your financial worries. It is perfectly possible and desirable to have both, as they provide you with different benefits, but many of us will be limited as to what we can pay in the form of monthly premiums.

If your budget doesn’t stretch to both, then income protection is the typical recommendation. This is more comprehensive in nature, as it doesn’t restrict the illnesses and injuries you can claim for to a defined list. It also tends to tie in better with the potential financial loss that illness or injury can cause. For example, the two most common medical reasons for being off work are back problems and mental illness (which are also the most common reasons, along with cancer, for claiming on an income protection policy). These conditions are usually not covered under a critical illness policy.