Understanding financial protection

Buying a home is an exciting milestone, but with that excitement comes responsibility. You’ve worked hard to secure your home, so naturally you want to protect it and your loved ones, no matter what life throws your way.

That’s where financial protection comes in. Think of it as a practical way to build confidence in your financial future. Whether it’s illness, job loss, or unexpected events, having the right protection in place means your home and family stay secure, giving you invaluable peace of mind.

Here we break down everything you need to know: what financial protection is, how it works, and how to find the best fit for your life and budget.

What is financial protection?

A financial protection policy can support you with things such as maintaining mortgage payments or clearing the debt in the case of unexpected events like serious illness, loss of income, or death. These policies are designed to protect your home and your loved ones from financial strain.

While it’s not a legal requirement, a financial protection policy can provide much-needed peace of mind, especially if you’re the main earner in your household.

In moments of crisis, the last thing any family should be dealing with is financial uncertainty, especially when it’s preventable. That’s why having the right cover isn’t just about numbers, it’s about being able to say, “we’ve done what we can”. It’s the kind of situation where no-one wants to be thinking “if only…”

There are different types of policies designed to protect mortgage balances, mortgage repayments, and even a portion of an individual’s earnings. Each type of policy offers a different level of coverage and different terms. Let’s look at them in turn, starting with mortgage protection.

Mortgage protection

Think of mortgage protection as like life insurance for your home. If you die before your mortgage is paid off, a mortgage protection policy can be used to pay off the remaining balance, ensuring your loved ones can stay in the home without financial worry.

There are two main types of mortgage protection insurance:

• Level Term Life Insurance – This provides a fixed payout amount, ideal if your mortgage balance stays consistent, for example is interest only.
• Decreasing Term Life Insurance – The payout reduces over time in line with your mortgage, making it a more affordable option, particularly for homeowners with repayment mortgages

Joint life insurance

A joint life insurance policy covers two people but pays out for just one and is designed to protect the financial future of the remaining partner.

Protection usually comes in the form of a lump sum payment, which can be used to pay off a mortgage, or cover other debts and financial commitments.

Some options will give you a discount in the early years of the policy to make it cheaper at the beginning.

Critical/serious illness cover

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.

A critical illness policy can be used to pay off a 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 you consider when weighing up critical illness cover?

i) The amount the policy will pay you

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

ii) Whether the level of cover changes over time

With regard 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 after 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.

iii) 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.

Income protection insurance

If you’re unable to work due to illness or injury, this insurance replaces a portion of your income – typically up to 65% of your salary – until you’re back on your feet or reach the end of the policy term. You can choose the length of time you need to wait before the benefit starts to be paid, and there are options for long and short term polices.

This form of financial protection is particularly useful for people who are self-employed or those without employer sick pay.

Family income benefit

Instead of paying out a lump sum, this policy provides tax-free monthly payments to your family if you die during the policy term. It helps cover everyday living costs and mortgage payments, keeping your loved ones financially secure.

Mortgage payment protection insurance

This is a short-term policy that usually pays out for a year to cover your mortgage payments and other associated bills. The policy renews every year in the same way your buildings and contents insurance does. Some policies include redundancy cover to allow you to maintain payments until you get back into work.

Whether or not you feel you need financial protection depends on your personal circumstances. However, it’s essential if you’re the main earner and have dependents, especially when you have a mortgage.

Financial protection may also be useful for you in other scenarios, such as protecting your investable assets, funeral planning or to support your inheritance tax planning. An adviser will help you understand what is available and take you through the best options.

How much does financial protection cost?

The cost varies based on factors like:

• Your age and health – younger, healthier individuals pay lower premiums.
• The sum assured – for example, a life cover policy to cover a larger mortgage is likely to cost more than that to cover a small mortgage.
• Type of cover – life insurance is usually cheaper than critical illness or income protection.
• Smoker status – smokers often pay more.

So how do you choose the right policy?

When selecting a financial protection policy, consider:

Policy Exclusions – Check what’s covered and what’s not.

Flexibility – Can you adjust the policy if your mortgage changes?

Combined Cover – Bundling life insurance, critical illness, and income protection may save money.

Does it pay out? – Protection providers publish their claims statistics annually. Traditionally, an extremely high portion of claims are paid – in 2023, UK insurers disbursed a record £7.34 billion in protection claims, offering crucial support to individuals and families during challenging times. This equates to approximately £20.1 million paid out daily.

Here’s how these payouts were distributed:

• Life Insurance: £4 billion paid, with a 96.7% claim acceptance rate.
• Critical Illness Cover: £1.2 billion paid, with cancer being the most common claim, totalling £777 million.
• Income Protection: £177 million paid, with musculoskeletal issues and mental health conditions as leading causes.

And these were the average payouts:

• Life Insurance: £80,403 per claim.
• Critical Illness Cover: £67,267 per claim.
• Income Protection: £9,425 per claim.

Do I have to use my mortgage provider’s protection package?

No. While your mortgage provider may offer a variety of financial protection products, you are not tied to using their services. Therefore you can shop around to get the best package for you and your family.

How can I get financial protection?

Setting up financial protection doesn’t have to be complicated.

You can get in touch with me or any of our mortgage and protection advisers. We can assess your needs and requirements and recommend the best policy to suit your family and your budget. We can also provide advice and look to save cost by recommending multi-benefit policies.

From experience, one thing I would advise is to consider financial protection at an early stage in your home owning journey. By doing so, you can get better value for money – and the reassurance that your home and your family will be provided for should the unexpected occur.

YOUR HOME MAY BE REPOSSESSED IF YOU DO NOT KEEP UP REPAYMENTS ON YOUR MORTGAGE.

Disclaimer: This article is for informational purposes only and does not constitute financial, tax, or legal advice. Tax treatment depends on individual circumstances and may change. Always seek professional advice before making financial decisions.