case studies
insurance – financial assessment in income protection policies
 52/1
income protection – calculation of benefit where earnings unaffected by disability
Mr G, a self-employed IT consultant, took
out an income protection insurance policy. The policy had a limitation of benefit clause restricting the amount of benefit he could be paid to 75% of his normal earnings.
Several years later Mr G made a claim
under the policy, on the grounds that repetitive strain injury was affecting his ability to work.
The firm reviewed Mr G’s business accounts to see whether his medical condition had affected his income. It noted that he had not recorded payments he had made to a sub-contractor. It also found that the accounts did not show all of Mr G’s income and expenditure. So it decided the accounts were unreliable. It did, however, agree to pay the claim until it was able to review
Mr G’s audited accounts, when it would
re-consider the position.
When it examined the audited accounts,
the firm compared Mr G’s pre-disability earnings with his net income and ‘drawings’ for the period after he made his claim. It concluded that he had not suffered a loss of income because of his disability, so it stopped his benefit payments.
complaint rejected
When a self-employed policyholder makes a claim, the firm must be satisfied there was an actual loss of income. In this case, Mr G’s audited accounts did not show a loss. Despite his disability, Mr G’s business remained profitable. Indeed, the business had made a significantly higher net profit in the period after his claim than in the year in which his illness began.
Mr G disagreed with the firm’s assessment. He said the accounts showed an artificial profit and that he had been forced to borrow money to remain trading. But the turnover figures suggested that sales sustained profits, rather than just borrowings.
In any event, under the limitation of benefit provision in his policy, Mr G wasn’t entitled to benefit unless his earnings were less than they had been before his disability. Mr G had continued to earn more than he would have been entitled to in benefits. We rejected
his complaint.
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52/2
income protection – calculation of increases in benefit
Mr M took out an income protection policy in October 1991. He selected an option that protected him against the effects of inflation by increasing his benefit by 7.5% each year. This option was subject to an annual increase
in premium.
In 1994, Mr M became disabled and made a claim on his policy. The firm wrote to tell him how his benefit would be calculated. The standard policy restricted benefit to two-thirds of the
amount the policyholder was earning immediately before becoming disabled. However, because of the option he selected when he took out the policy,
Mr M’s benefit payments were more than this.
For several years, Mr M’s benefit payments continued to increase at the rate of 7.5% per year. But then the firm reviewed its policies. It decided the standard policy condition, which limited benefit to two-thirds of the policyholder’s salary, over-rode the increases arising from the inflation-protecting option. When the firm rejected Mr M’s complaint about its subsequent reduction of his benefit, he came to us.
complaint upheld
It was clear from the policy documents that the option Mr M had selected:
- was intended to offset the effects
of inflation; and
- had been sold to Mr M on this basis.
Neither the policy itself, nor any of the associated promotional literature, made it clear whether the benefit cap applied to the option. We decided it was reasonable for Mr M to have assumed the two-thirds cap would not have applied in his case, since it appeared to apply only to the ‘standard’ policy.
Selecting the option would have been pointless for Mr M if the cap had been applied from the outset of the claim, as the firm said it should have been. At the outset of his claim, Mr M’s benefit was already two-thirds of his pre-disability earnings. So despite paying higher premiums for the option he could never have benefited from the increase it was designed to provide.
The way in which the policy had been
sold and/or represented did not make
it clear that the benefit cap would limit any increase arising from the option. We decided it would be unfair of the firm to restrict Mr M’s claim to the original benefit limit. We told the firm to reinstate the increases arising from the option and to backdate any payments owing to Mr M, plus interest.
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52/3
income protection – calculation of benefit against continuing income
Mr J, a self-employed architect, had been unable to work because he was suffering from stress. He made a claim for income replacement benefit under his income protection policy. The firm accepted his claim but said he would not be paid any benefit because he was continuing to receive earnings from his business.
The firm calculated Mr J’s entitlement to benefit in accordance with the policy terms, which required it to take continuing income into account. Mr J’s continuing income from his business was £55,000. This was more than the maximum allowable benefit, calculated as 75% of the first £50,000 of his annual earnings immediately before the start of his disability.
Mr J said that when he arranged the insurance he had provided the firm with copies of his accounts. The firm’s adviser had not based his calculations on Mr J’s annual earnings (including both ‘drawings’ and share of profits) but only on his annual ‘drawings’. So Mr J said the level of earnings that needed replacing (£50,000) had been undervalued at the outset.
complaint rejected
There was no evidence that Mr J had supplied his accounts at the time he took out the policy. And the firm’s adviser had based his calculation of the appropriate level of benefit on Mr J’s gross earnings, as declared on the application form.
On this basis, we determined that the income replacement benefit provided was likely to have been appropriate at the time of sale.
Even if this were not the case, the claim was not affected. Mr J had not suffered a sufficient reduction in income to justify a payment of benefit, so we rejected the complaint.
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