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Tony Nunn talks us through our mortgage protection options.
Why is mortgage protection so important?
There are many answers to that, but I suppose the fairest one is because of the safeguard that it provides for a family unit, especially when it’s attached to a mortgage.
The reality is that a property is probably your largest asset. People spend an awful lot of time building up funds to use as a deposit to purchase a property. But if they don’t protect what they’ve bought, after all that time building up to it, it can lead to some serious issues.
Protection really needs to be relevant to the individual. You’re going to probably ask me what might happen if we don’t have protection in place – and that will be the answer as to why it’s important.
What happens with mortgages completed without protection if the unthinkable happens?
I’ve seen it happen many times, actually. We have to overcome the perception with clients where they suddenly see you as an insurance salesman – a term that I’d like to put back into the 1970s where it belongs.
The consumer has never been more protected by legislation and this area is quite heavily policed. On 31 July this year a new piece of legislation comes into play called Consumer Duty, which is all about protecting the consumer.
Let’s look at what happens if you’ve got a mortgage and decide not to opt for protection. You and your partner have used your incomes for affordability purposes, to be able to buy the property in the first place. What would life be like if you lost one set of income into that family unit?
If you haven’t protected the mortgage, it won’t magically stop if someone is ill or passes away. It carries on. If you could just afford it with two incomes, what’s it going to be like with only one income? Could you afford to even keep the lights on?
Why do we need life insurance?
Some people have a view that they don’t need it. They might say that they have death in service benefit from their employer – and they probably have. But generally that stops at four times your income.
Is that ever going to be enough to repay the mortgage, or replace the income into the family unit? You needed that salary to come in for the 25 or 30 years of the mortgage term. If death in service is four times the salary, that really won’t be enough.
Life insurance does exactly what it says on the tin. There are only two things that are certain in life – death and taxes. The reality is we’re not immortal. If you’ve got a 30 year term on a mortgage, you really should be thinking about what would happen if your partner dies. Do you want the mortgage to continue?
The obvious answer is that you’d like it to be paid off – it’s going to be sad enough to lose a partner. But you could lose the house as well.
So life assurance for me is a must on every occasion. Other things may come into consideration, along with other types of policies such as critical illness cover.
What is critical illness cover and how does it differ from life insurance?
Critical illness covers an individual against the possibility of suffering something like a heart attack, stroke or cancer. Things that may not necessarily kill you or lead to death, but will certainly impair the possibility of you working.
If you have a stroke and you’re unable to go back to work, your income suffers. But you may still live to a ripe old age. With critical illness cover, in the event of any of these things happening to you, the policy will pay out a sum of money.
It might equal the outstanding debt on the mortgage, in which case your mortgage gets wiped out and there is no monthly payment. Whilst you’ll still have the hardship of trying to live without an income, at least you don’t have the burden of the mortgage.
Critical illness covers many definitions and these vary from provider to provider. The definition of what constitutes a stroke, or what constitutes a heart attack may be different. When you sit down with an advisor we need to explore your family history. We will look at some of the definitions that are covered and decide which might suit you best. That’s how you would potentially go about selecting a provider.
What is income protection?
It protects your income. In the event of you being unable to follow an occupation to which you are suited, or your own occupation, it will pay you a monthly income until you reach retirement or a selected end date.
The selected end date could be in line with your mortgage term. It just gives you the ability to pay the mortgage. It’s not definition based and it will cover anything that impairs your ability to follow your occupation. You could argue that it’s more thorough than a critical illness plan.
Some clients we talk to are public servants working with local authorities or the NHS. They will have something called superannuation which pays them a salary for a period of time – anywhere up to 52 weeks. They might get six months at full pay, six months half pay and then after 52 no pay.
You can design an income protection plan to kick in when it’s required. That monthly benefit could be paid at 50% at the six month period and then full benefit from 52 weeks. It’s tailormade to sit within your own arrangements. Plus, the longer you defer the benefit, the cheaper the policy becomes.
The only limitation with an income protection policy is that the risk category depends upon your occupation. A fireman, a steeplejack or a policeman, for example, probably wouldn’t be accepted.
Is redundancy or unemployment covered by income protection?
No, redundancy or unemployment won’t be covered. These would need an ASU policy – accident sickness and unemployment. These generally have only a two year duration, and if the provider doesn’t like the claims experience they have the power not to renew it. With an income protection policy, once granted, the owner of the policy is the only person who can decide to cancel it.
There are incentives to go back to work – some income protection plans carry Rehabilitation Benefit. Let’s say you had been a rocket scientist earning a fantastic amount of money, but you became unable to follow your own occupation.
If you were able to go back to work as a lollipop person seeing children across the road, the provider would pay you the difference between what you earned as a rocket scientist and what you earn as a lollipop person. They do that because they save money on the rocket scientist’s salary.
Can you combine policies?
Yes, it’s possible, but it depends on the provider. In my experience, you should buy a policy designed for one purpose. If you combine a policy, it will pay out on the first event, so actually it nullifies the reason why you took it. So it will pay if you’re diagnosed with a critical illness, but if you later die, there’s no additional payment.
Some providers will give you a discount for multi-benefit plans. You may have three plans in one. A good combination when you have a mortgage would be critical illness cover to the value of your mortgage. In the event of one of those defined illnesses being diagnosed, the mortgage would disappear. You would still not have an income because you may be rendered unable to work.
But if you’ve got an income protection policy which sits alongside the critical illness plan, then your mortgage gets paid off and you have an income to boot. It’s as if you’ve remained at work.
So it doesn’t matter what happens to you – your mortgage might be paid off, or you could get an income, or both. It’s helpful to remember too that if you’re unable to work, you’re unable to fund your pension and so at retirement age you would have less income.
If you keep that income you can put money aside. I like to say to clients – if you’ve got to be ill, why not be ill on a sunny beach somewhere. That income at least allows you to go on holiday.
How much should I budget for mortgage protection?
When we sit with clients to talk about protection we get into the nitty gritty. We’ll take a look at the way they spend money. They will have a view on what their budget might be, but it’s helpful to talk about what’s really important.
Do you want to sleep at night? Do you want to have all of this in the background? We might go through their income and expenditure and see they’re eating six takeaway pizzas a week. That’s probably going to lead to that heart attack on the critical illness policy. By looking at the budget we can decide what’s affordable.
Not everybody has a great amount of disposable income, especially not with the cost of living being as it is. The most important question to ask yourself is not ‘can I afford this?’, but ‘can I afford not to have this?’
Something is always better than nothing. What can you afford? What can you cut? It might be that you’ve got a car loan, but in three years’ time that will disappear. So then you can sit down and decide whether you can afford more cover.
You can always go back and review your mortgage protection and increase or decrease the cover – whatever you need to do at the time. Your advisor will deal with all of that for you.
What final advice do you have on mortgage protection?
My advice to everybody is to have an open mind. Listen intently. A mortgage is your most important asset – it’s the roof over your head. You don’t really want anything to happen to that. In an ever changing world, especially with things like global pandemics, you really need to decide what’s important. If there are children involved, it’s massively important.
Something else I see quite often is that siblings buy property together to get on the property ladder. What’s overlooked is the fact that they own 50% of it each. If your brother or sister has an unfortunate episode and can no longer work because of an illness, is it fair that you have to support them for the rest of their life? Or end up making them and yourself homeless?
Things can be overlooked through eagerness to get on the property ladder. But if you’re going to get on that ladder, make sure you stay on it.
Your home may be repossessed if you do not keep up with your mortgage repayments.