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Role of insurance in mitigating risk
Premiums from many policyholders are pooled to pay the claims of the few who suffer a loss. Transfers financial risk from the individual to the insurer.
Most general insurance aims to restore the insured to their pre-loss position — not to profit from a claim. Life policies pay a fixed agreed sum (not indemnity).
Required at inception for life assurance. A person has unlimited insurable interest in their own life and that of a spouse/civil partner. Must exist at the time the policy is taken out.
Trends relevant to financial protection
| Trend | Significance for protection planning |
|---|---|
| Health & morbidity | Rising prevalence of cancer, cardiovascular disease and mental illness increases claims. Improving survival rates mean CI cover is more likely to pay out than in earlier decades. |
| Longevity & mortality | People living longer creates greater need for long-term care. Falling mortality rates tend to reduce life assurance premiums over time. |
| Employment trends | Growth of self-employment and gig economy means fewer workers have employer sick pay or group scheme cover — widening the protection gap. |
| Product design | Multi-benefit policies, added-value services (GP helplines, mental health support), partial payment CI conditions and digital distribution. |
Sources of financial protection
| Source | Examples | Key limitations |
|---|---|---|
| State | SSP, ESA/UC, PIP, bereavement support, state pension | Typically subsistence level; means-tested elements; complex eligibility |
| Employer | Occupational sick pay, group life, group IP, group CI, EAP | Ceases on leaving employment; not available to self-employed |
| Personal insurance | Term assurance, whole of life, individual IP, CI, LTC insurance | Requires proactive arrangement and ongoing premium payment |
| Benefit | Key facts | Limitations |
|---|---|---|
| Statutory Sick Pay (SSP) | £116.75/week; paid by employer from day 4; maximum 28 weeks | Very low level; self-employed not eligible |
| Universal Credit / ESA | Contributory ESA for those with NI record; means-tested element | Subject to Work Capability Assessment; benefit cap |
| Personal Independence Payment (PIP) | Not means-tested; daily living and/or mobility component | Subject to assessment; not income replacement |
| New State Pension | £221.20/week (full rate); 35 qualifying NI years; payable at SPA (age 66) | Does not replace employment income; only from SPA |
| Bereavement Support Payment | Lump sum (£3,500 higher / £500 lower) + up to 18 monthly payments | Time-limited; cohabiting partners NOT eligible; requires NI contributions from deceased |
| Support for Mortgage Interest (SMI) | Government loan to help pay mortgage interest; secured on property | Must be repaid with interest on sale; covers interest only, NOT capital |
Types of life assurance policy
| Policy type | What it pays | Key uses |
|---|---|---|
| Level term assurance | Fixed lump sum on death within term | Family protection, interest-only mortgage, business loan |
| Decreasing term assurance | Sum assured reduces over term (tracks repayment mortgage) | Repayment mortgage protection |
| Family income benefit (FIB) | Regular income from death to end of term | Family income replacement; avoids lump sum investment decisions |
| Whole of life | Guaranteed sum on death at any time | IHT planning, guaranteed legacy, funeral costs |
| Convertible/renewable term | Option to convert to whole of life or renew without further medical underwriting | Clients whose future needs are uncertain |
| Investment / assurance bonds | Lump sum invested; pay on death or surrender | Tax-efficient wrapper; IHT planning; 5% annual withdrawal facility |
Trusts and wills
Underwriting principles
| Concept | Explanation |
|---|---|
| Duty of fair presentation | Insurance Act 2015: applicant must disclose all material facts with reasonable care. Replaced old "utmost good faith" duty. |
| Proportionate remedy | If insurer would still have offered cover at higher premium, they pay a proportionate claim. If they would have declined entirely, they may void and return premiums. |
| Terminal illness benefit | Accelerates the death benefit if life expectancy is 12 months or less. Not the same as critical illness cover. |
| Waiver of premium | Premiums waived while policyholder is unable to work due to illness or injury. Deferred period typically 26 weeks. |
Qualifying vs non-qualifying policies
| Feature | Qualifying policy | Non-qualifying policy |
|---|---|---|
| Proceeds on maturity or death | Tax-free | May be subject to income tax on chargeable gain |
| Premium structure | Regular premiums; must run at least 10 years; doubling rule applies | Single premium or irregular; investment bonds are the main example |
Investment bonds — chargeable events and the 5% rule
Onshore vs offshore bonds
| Feature | Onshore bond | Offshore bond |
|---|---|---|
| Tax within fund | Notional 20% basic-rate credit treated as paid | Gross roll-up — minimal tax within fund |
| Basic-rate taxpayer on surrender | No further liability | 20% income tax payable — no credit |
| Higher-rate taxpayer | 20% top-up (40% − 20% credit) | 40% on full gain — no credit |
| Top-slicing relief | Available | Available |
| Assignment as gift — chargeable event? | Yes | No |
| CGT on surrender? | No — gains taxed as income | No — same rule |
Income tax on protection payouts
Definitions of incapacity — critical exam distinction
Pays if unable to perform the duties of their specific occupation. Most favourable definition. Typically available to professional / non-manual occupations only.
Pays if unable to work in any occupation for which they are suited by training, education or experience. A compromise definition.
Pays only if unable to perform any work whatsoever. Most restrictive definition — very difficult to claim. Common in group schemes and state benefits.
Key IP policy features
| Feature | How it works |
|---|---|
| Deferred period | Waiting period before benefit begins (4, 13, 26 or 52 weeks). Should align with employer sick pay or savings. |
| Benefit amount | Up to 50–65% of pre-disability earnings. Long-term IP pays to retirement, death or recovery. |
| Indexation | Benefit increases in line with RPI/CPI during claim to maintain purchasing power. |
| Proportionate / rehabilitation benefit | Reduced benefit on partial return to work — avoids financial disincentive to return. |
Policy structures
| Structure | Key characteristics |
|---|---|
| Accelerated CI (combined life + CI) | Most common structure. Pays on CI or death — whichever comes first. One shared sum assured. |
| Additional CI (life + CI separate) | Separate sum assured for CI and for death — both events can pay in full independently. Higher premium. |
| Standalone CI | Pays lump sum on CI diagnosis only; no life cover element. |
ABI core conditions and exclusions
All CII-accredited CI policies must cover: cancer, heart attack, stroke, coronary artery bypass surgery, kidney failure, major organ transplant and multiple sclerosis.
Policies increasingly cover 40–100+ conditions. Partial payment conditions (e.g. early-stage cancer) pay a smaller sum while preserving the full sum assured for a major claim.
Main product types
| Product | How it works | Key points |
|---|---|---|
| Pre-funded LTC insurance | Regular premiums in advance; benefit triggered when defined level of care need arises (typically 2–3 Activities of Daily Living) | Now rare in UK; few providers |
| Immediate needs annuity (care fee annuity) | Single lump sum purchases a guaranteed income for life paid direct to the care provider | Income tax-free if paid direct to registered care provider. Removes longevity risk. Capital not returned on death. |
| Equity release | Lifetime mortgage or home reversion releases capital from property to fund care costs | Interest rolls up on lifetime mortgages. Regulated by FCA. |
Private medical insurance (PMI)
| Feature | Detail |
|---|---|
| What PMI covers | In-patient and day-patient treatment for acute (curable) conditions; surgery, specialist consultations, diagnostic tests |
| What PMI typically does NOT cover | Chronic ongoing conditions, GP services, A&E, normal pregnancy, pre-existing conditions, dental, optical |
| Moratorium underwriting | No medical questionnaire at outset; conditions in the 5 years before inception excluded for 2 years |
| Full medical underwriting (FMU) | Detailed health questionnaire at outset; exclusions specifically identified. Greater certainty. |
| Individual PMI — tax | Premiums from net income; benefits received tax-free |
| Employer-provided PMI — tax | Premiums are a P11D benefit in kind — taxable on the employee |
Personal accident & PPI
Business protection mechanics
Life events — protection review triggers
| Life event | Protection implications |
|---|---|
| Marriage / civil partnership | New dependant; update life nominations; review cover levels; insurable interest confirmed |
| Co-habitation | No automatic legal rights unlike marriage. Trust nominations critical; will essential; no BSP entitlement |
| Birth of child | Major increase in IP and life cover need; FIB may suit ongoing income need |
| Property purchase | Mortgage protection: life and CI cover to clear mortgage; term should match mortgage term |
| Separation and divorce | Remove ex-spouse from nominations; update will; review trust beneficiaries |
| Retirement | IP less relevant; LTC planning more important; life cover may remain for IHT purposes |
Suitability of trusts
| Situation | Trust recommendation |
|---|---|
| Whole of life for IHT planning | Must be in trust — otherwise proceeds increase the estate and are subject to the very IHT they are meant to cover |
| Unmarried cohabiting couple | Trust essential — no automatic next-of-kin rights; without a trust, proceeds may not reach the intended beneficiary |
| Business keyperson / shareholder protection | Appropriate trust or ownership structure depending on purpose and tax treatment |
State benefit rates 2025/2026
LA care and IHT thresholds 2025/2026
Common R05 exam traps
| Trap question | Correct answer |
|---|---|
| Is SMI a grant or a loan? | A loan — secured on property; repaid with compound interest on sale |
| SMI — does it cover capital repayments? | No — interest payments only |
| Individual IP benefit — taxable? | Tax-free where the individual pays the premiums |
| Employer-paid group IP / PMI — taxable on employee? | Yes — taxable as employment income |
| Immediate needs annuity — when is income tax-free? | Only when paid direct to a registered care provider |
| CI cover — lump sum or regular income? | Lump sum on diagnosis — not ongoing income |
| Terminal illness benefit — life expectancy threshold? | 12 months or less |
| Keyperson cover — when are proceeds taxable? | When the purpose is indemnification of lost profits (revenue treatment) |
| Accelerated vs additional CI? | Accelerated = one shared sum (most common). Additional = separate sums — both can pay in full. |
| LPA — must it be registered before use? | Yes — must be registered with the Office of the Public Guardian before it can be activated |
| Cohabiting partner — entitled to BSP? | No — BSP is for married couples and civil partners only |
| Policy written in trust — does it go through probate? | No — trust proceeds bypass the estate and probate entirely |
| Onshore bond assignment as gift — chargeable event? | Yes — gain crystallises on assignment |
| Offshore bond assignment as gift — chargeable event? | No — not a chargeable event |
| Investment bond gains — CGT or income tax? | Income tax on the chargeable gain — NOT CGT |
| ABI core CI conditions — how many? | Seven: cancer, heart attack, stroke, coronary artery bypass, kidney failure, major organ transplant, multiple sclerosis |