Income protection deferred periods – what should company directors choose?

The deferred period is the length of time you have to be unable to work before an income protection policy starts paying out.

A shorter wait gives you financial support sooner, but usually costs more. A longer deferred period can reduce the premium, but means you or your company will need to fund your income for longer.

What is a deferred period?

An income protection policy does not normally start paying as soon as you become ill or injured.

You must remain unable to work for an agreed period before benefit payments begin. This is known as the deferred period.

For example, with a 13-week deferred period, you would normally need to meet the insurer’s definition of incapacity throughout those 13 weeks before payments could start.

The deferred period is chosen when you arrange the policy.

What deferred periods are available?

The exact options depend on the insurer, but typical deferred periods include:

These are broad examples. Check the deferred periods offered by the insurer and exactly when a claim would start paying before taking out cover.

How does the deferred period affect the cost?

The longer the deferred period, the lower the premium will usually be.

An insurer is more likely to have to pay a claim under a policy that starts paying after four weeks than one with a six or twelve-month wait. This is why longer deferred periods generally cost less.

For example, the same director might receive quotes along these lines:

These figures are illustrative rather than quotations. Actual premiums depend on your age, occupation, health, benefit level, policy term and the insurer you use.

For more information on the other factors that determine the premium, read our guide to how much executive income protection costs.

How should a company director choose a deferred period?

Work out how long you could continue meeting your normal household costs without receiving anything from the insurer.

For an employee, this often depends on the sick pay provided by their employer. Company directors are in a different position because they may have more control over how long their company continues paying them.

Take into account:

• Cash held by the company.
• Your personal savings.
• Whether the business would continue generating income without you.
• How long the company could continue paying your salary.
• Your regular household expenditure.
• Any other income protection or insurance you already have.

There’s little point paying extra for a four-week deferred period if you could comfortably manage for three months. Equally, a long deferred period could leave you short of money if your savings and company funds wouldn’t last that long.

Example: choosing between 4 and 13 weeks

Take a director who needs £3,000 per month to cover their normal household costs.

If the company has little spare cash and the director has only £5,000 in accessible savings, waiting 13 weeks for an insurance payment could put their finances under pressure. A four-week deferred period may be worth the higher premium.

Now take a director with £50,000 of cash in the business and substantial personal savings. Paying extra for benefits to start after four weeks may make little sense if they could comfortably manage for three or six months.

In that case, a 13 or 26-week deferred period could be more appropriate.

What if your company continues paying you?

Many owner-managed companies can continue paying a director for at least part of an absence.

If the business has other employees generating revenue, recurring income or substantial reserves, there may be no immediate interruption to the director’s remuneration. This can make a longer deferred period practical.

But think about what would happen during a serious illness rather than just a few weeks off work. A company that can comfortably continue paying you for a month may be in a very different position after six months, particularly if you generate most of its income.

What happens to salary and dividends during the deferred period?

The deferred period determines when the insurer starts paying a claim. It does not determine how your company pays you while you’re waiting.

Your company may be able to continue paying salary if it has sufficient funds.

Dividends are different. They can only be paid where the company has sufficient distributable profits and the normal company law requirements are met.

Don’t assume that your usual salary and dividend payments can continue throughout a long period when you’re unable to work. This is particularly important for one-person companies where the director generates most or all of the revenue.

For more information on how the two forms of remuneration are treated, read our guide to salary vs dividends for income protection.

Does the deferred period start again if you return to work?

Not necessarily. It depends on the policy and the circumstances of the claim.

Income protection policies can include provisions for someone who returns to work and then becomes unable to work again because of the same or a related condition.

If the two periods are close enough together, the insurer may treat them as a linked claim rather than requiring you to complete the full deferred period again.

The rules and time limits vary between insurers, so check how linked claims are treated when comparing policies.

Does a shorter deferred period mean better cover?

No. It means the policy can start paying sooner, but that doesn’t necessarily make it better for you.

If you have enough money to cover the first three months yourself, paying a higher premium throughout the policy for a four-week deferred period may offer little extra value.

At the other extreme, choosing a 52-week deferred period just to get the cheapest premium could leave you with a large gap to fund if you became seriously ill.

Choose a period based on how long you could genuinely afford to manage without a claim payment, rather than simply choosing the shortest or cheapest option.

Deferred period and benefit period are different

These two terms refer to different parts of a claim.

The deferred period is how long you wait before payments begin.

The benefit period is how long payments can continue once the insurer starts paying the claim.

For example, you could have a policy with a 13-week deferred period and a two-year benefit period. If you remained unable to work, payments could start after 13 weeks and continue for up to two years.

Long-term income protection may be able to pay for considerably longer.

For more information on benefit periods, read our guide to how long income protection can pay you for.

Can you change the deferred period later?

Possibly, but don’t assume you can change it whenever you want.

Reducing the deferred period increases the insurer’s potential liability and may require further underwriting. Increasing it may be easier, depending on the insurer and policy.

It’s worth reviewing the deferred period if your finances change significantly. You might, for example, build up larger company reserves or personal savings, or change the way you take income from the business.

Which deferred period should you choose?

Your deferred period needs to be long enough to keep the premium sensible, but not so long that you would struggle financially while waiting for a claim to start paying.

Before choosing, work out how many months you could maintain your household finances if you were unable to work and your company’s income fell sharply.

You can then compare that period with the deferred periods and premiums offered by different insurers.

A specialist IFA can help you compare deferred periods, benefit levels and premiums from leading providers, and answer any questions about how the cover would work for your company.

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