How important can critical illness insurance be?
While life assurance will pay out if you die, as you get older the risks increase that you'll suffer a serious illness such as heart disease or cancer. As this could affect your ability to pay the bills and support your family, critical illness insurance is worth considering.
This pays a lump sum if you suffer one of a list of life-threatening conditions, with many policies also including smaller payments for less severe illnesses. For example, LV='s plan has partial payments including 15 per cent of cover up to £15,000 if you have to go into hospital following an accident, and 12.5 per cent of cover up to £12,500 for partial third-degree burns.
As the probability of a claim is higher, it's more expensive than life assurance. For example, while our couple aged 31 and 29 would pay £15.78 a month for a joint life policy giving £200,000 of cover over 21 years, the same amount of critical illness cover would cost them £73.55 a month.
Reassuringly, Alan Lakey, partner at independent financial adviser Highclere Financial Services, says it's not necessary to have as much cover. 'Look at critical illness as buying you options. If you suffer a serious illness you may be able to return to work or retrain and the payout can help with this,' he explains.
Protecting your income
Income protection is also important. This pays an income until retirement if you are unable to work long term as a result of illness or injury. How much it will cost you depends on your age, your occupation and the amount of cover you need. As an example, figures from Aviva show that if a 30-year-old office worker took out cover for £1,000 a month, they would pay £35.70 a month.
It's possible to tweak cover to make it more affordable. 'You might want to look at covering your key expenses rather than your salary, as your spending pattern is likely to change if you're not working,' says Louise Colley, distribution director for Aviva Life. For example, in the above example taking out £500 of cover a month would almost halve the premium to £19.85.
It's also worth checking your employer's sick pay arrangements. Extending the length of time before your policy pays out to dovetail with your sick pay will also reduce the monthly premium. This could also work if you have savings that would cover your outgoing for a few months. And it can lead to significant savings.
Short-term products are also available. These pay for up to five years, which also shrinks the premium. For instance, a 30-year-old taking out £1,000 a month of cover on Aviva's five-year limited benefit plan would pay a monthly premium of £16.10.
While the need for protection is high with a young family, many can find their budgets don't stretch to everything. Where this is the case, Lakey recommends looking to life assurance first, perhaps as family income benefit to reduce the cost, but then adding as much critical illness insurance and income protection as you can afford. As an example, he says a couple aged 30 would pay £27.22 a month for a 15-year family income benefit paying £15,000 a year, with £7,500 paid each year if a critical illness is diagnosed.
Empty nest cover
Once the kids have left home and the mortgage is, hopefully, under control, your protection requirements will reduce. However, as you're a little older and may have picked up a few health conditions such as high blood pressure or diabetes, the chances are that cover will cost you more.
For example, figures from Lifesearch show that a 30-year-old will pay £9.39 a month for £200,000 of level term over 25 years; by age 45 the premium has more than tripled to £28.60.
Chris McNab, manager of protection products at LV=, says there are ways to cut the cost without leaving yourself exposed. 'The chances of dying or contracting a serious illness are higher when you're in your middle age, but you might not need as much cover,' he explains. 'You might be able to reduce the term, perhaps in line with your remaining mortgage term, or take a lower sum assured if you have built up savings or paid down your debts.'
Short-term income protection products may also be worth considering, especially if you have built up pensions savings that you could take early if you find you're unable to work again.
As health problems can be an increasing barrier to getting affordable cover at this age, many of the life companies including Axa Sun Life, Legal & General and Aviva market over-50s plans with no medical underwriting. Ian Barnes, head of product management for insurance at Legal & General, explains: 'These plans offer a modest level of cover - for example a 60-year-old would get £4,670 of cover for £20 a month - but there's guaranteed acceptance for anyone aged 50-plus. If you die within the first year of cover we'll refund the premiums, but after that you're guaranteed a payout when you die.'
But although one of these plans can be a simple way to take out cover for a funeral or to leave some money to a child or grandchild, Lakey says you should only consider them if health problems would make life assurance prohibitively expensive. 'If you're prepared to answer questions on your health, you could get much more cover,' he says. 'One of my clients was able to increase her cover from £4,300 to £9,000 just by going through medical underwriting.'
Once work is behind you and your mortgage is paid off, protecting your income is no longer an issue. It's probably a good thing. With the risk of illness increasing with age, most insurers require you to be under 60 when you take out cover, and no older than 70 when it expires.
It's a similar picture for critical illness insurance. Although it's possible to get cover when you're older, £50,000 of cover over a 10-year period will cost a 65-year-old £192 a month from Skandia. In fact Lakey says only three firms will quote at this age.
Instead, your main protection concern is likely to be ensuring the legacy you leave isn't swallowed up by inheritance tax (IHT). While it's possible to reduce a future IHT liability through careful financial planning, many people come unstuck as a result of the value of their home. If its value exceeds the nil rate band (£325,000 for individuals or £650,000 for couples), it can be difficult to avoid paying IHT at 40 per cent on the excess.
Life assurance, in the form of a whole of life policy, will pay out a lump sum on death that your family can use to pay an IHT bill. 'It's a guaranteed payout so premiums will be high and, if you live long enough, may add up to more than the cover,' says Tom Baigrie, chief executive of Lifesearch. 'You may want to weigh up whether you cover a future IHT bill by taking out a whole of life plan, or leave the bill for your kids to settle themselves.'
If you do take out whole of life cover, it's essential that it's written in trust. Without this the proceeds would go straight into your estate, adding to the IHT liability. Although a solicitor can arrange this for you, insurers can also provide forms. For example LV= offers a range of fixed and flexible trust forms to help clients arrange the payment tax-efficiently. McNab adds: 'Insurers usually provide these for free, and even if you've already taken out cover you can put a trust in place now.'