Income protection has been available in Australia for over 30 years and grown into a multi-billion dollar industry. Over time, due to the competitive nature of the industry, the features and benefits of income protection policies have grown to a point where claims paid are consistently exceeding premiums received making the industry unsustainable. In fact, income protection departments of Australian Life Insurers have lost approximately 4.3 billion dollars over the last 5 years.
The Australian and Prudential Regulatory Authority (APRA) has stepped in to address the situation and regulate the market to ensure it is sustainable. The measures imposed by APRA will significantly affect income protection policies entered into after the 1st of October 2021.
Importantly, there is no requirement for legislation to pass to implement these changes. APRA already has the power to impose them. APRA has confirmed the start date of 1 October 2021for the specific changes to be implemented.
By the 1st of October 2021, Life Insurers in Australia will offer significantly less generous income protection policies to consumers.
The key changes are:
1. The discontinuing of agreed value policies. (effective 31 March 2020)
Previously, consumers could lock away an agreed value of the monthly benefit paid at the signing of the policy. If the policyholder’s income changed down the track, they would still receive the agreed amount even though their income may have decreased. Moving forward, the monthly benefit will be based on the policyholder’s actual income at the time of claim (or, for some insurers, the best year of earnings in any three years prior) as an agreed value is no longer available.
2. They are ceasing the ability to offer guaranteed renewable policies for the life of the policy with a maximum contract period of 5 years.
From 1 October 2021, Income Protection Policies can only be for a maximum of 5 years. After the 5 year period, a new policy must be entered into that reflects the current market terms and conditions. If a policyholder enters a new contract after the initial 5 years, medical underwriting is not required but any changes to the policyholder’s occupation, financial circumstances and dangerous occupations or pursuits or pastimes must be updated and reflected in the new policy. Insurers are also unable to extend a current policy even if the circumstances are the same. A new policy agreement must be entered into.
3. Limitation on the income replacement ratio available.
APRA is concerned that current excessive income replacement ratios and certain product features and benefits (particularly partial disability benefit formulas) can leave claimants in a better position financially than if they returned to full time work. Not only does this undermine the incentive for the person to return to full time work, but it may also lead to the individual paying additional premiums for cover that isn’t required.
Some examples of these policy terms and product features include:
APRA has announced changes to policy contract terms which mean that from 1 October 2021:
4. Limiting the way in which ‘income at the time of claim’ is defined
Previously, for agreed value policies, the monthly benefit was based on the agreed value at the time of policy commencement. Moving forward, income at the time of claim will be based on your actual earnings, not agreed earnings.
For policyholders with stable incomes, pre-disability income is to be based upon income at risk at the time of claim or within the last 12 months. For those with variable incomes, income risk is to be based on average annual earnings over a period of time appropriate for the occupation of the policyholder and reflective of future earnings lost as a result of the disability. It seems that the flexibility would cover people on maternity or unpaid parental leave.
5. The risk associated with long-term benefit periods (such as to age 65) is effectively managed and controlled by insurers.
For policies with long benefit periods, APRA requires stricter disability definitions. Previously, this was defined as being unable to perform your ‘normal job’. The expectation from 1 October 2021is that a more explicit definition of disability is established as some policyholders may be able to return to employment even though it may not come under the definition of your ‘normal job’. APRA aims to reduce the number of claimants who may be able to return to some paid employment but are not as they qualify for a monthly benefit under their agreed policy. This also presents some concern that policyholders could be forced to return to work before they are ready under stricter disability definitions.
Existing Policyholders are not impacted by these changes. The terms of their current policies will stay as agreed at the signing of the policy.
Prospective Policyholders should consider putting income protection in place prior to 1 October 2021 to ensure their policy falls under the current (more generous) arrangements.
As a result of these changes, we recommend that anyone considering putting income protection insurance in place consider getting appropriate cover sooner rather than later. The key benefits include: