What is Income Protection? – guide for limited company directors

What is income protection for company directors?

Income protection is an insurance policy designed to replace a portion of your income if you’re unable to work due to illness or injury. It pays a monthly benefit until you recover, retire, or your chosen benefit period ends.

It does not cover loss of contract, redundancy, or a lack of work.

For limited company directors, income protection is usually arranged as executive income protection (EIP), where the business pays for the policy and receives the benefit if a claim is made.

How income protection works

With income protection, you choose:

  • The benefit level: Executive plans can protect up to 80% of your pre-incapacity salary and dividends, with the amount often capped by the insurer. Personal policies usually protect a lower proportion of income.
  • Deferred period: The waiting period before benefits start can range from a week to a year. Longer deferred periods reduce premiums but mean you need savings to cover the gap – see how much income protection you might need.
  • Benefit term: You can choose a short-term or long-term policy depending on how long you want payments to continue.
  • Indexation: Some policies increase benefits in line with inflation, typically linked to the RPI.

For executive policies, the company pays the premiums. If you are unable to work and meet the policy definition of incapacity, the insurer pays the benefit to the company, which can then continue paying you. With personal policies, the benefit is paid directly to you.

Executive vs personal policies

Executive income protection (EIP) is taken out by a company to cover an employee, usually a director.

HMRC generally accepts that premiums can be treated as an allowable business expense (see BIM46035), provided the policy is set up correctly. This means the premiums may reduce the company’s Corporation Tax bill. The premiums are not normally treated as a benefit-in-kind, so there is no P11D reporting requirement.

If the company makes a claim, the monthly benefit is paid to the business and treated as income.

Personal income protection policies are paid from your own income after tax. Premiums are not tax-deductible, but any claims are usually paid tax-free. Personal plans typically cover a lower percentage of income.

What does executive income protection cover?

EIP can cover more than just your salary (which may be small). Depending on the insurer, cover may include:

  • Salary and dividends up to a proportion of pre-incapacity earnings.
  • P11D benefits.
  • Employer National Insurance and pension contributions (within limits).

When reviewing policies, check how incapacity is defined. An own-occupation definition means the policy pays out if you cannot perform your specific role, rather than any job.

Tax treatment

One of the main reasons directors use executive cover is the tax treatment. HMRC generally accepts that EIP premiums can be treated as a business expense where the policy is set up for a genuine employee and meets the “wholly and exclusively” test.

This typically means:

  • The company can deduct premiums when calculating Corporation Tax.
  • No benefit-in-kind arises on the premiums in most cases.
  • Any claim proceeds paid to the company are treated as income.

For personal policies, premiums are paid from taxed income, and any claim proceeds are usually tax-free.

Why income protection matters

If you run a limited company, there is usually no employer’s sick pay beyond what your business chooses to provide. If you are unable to work for a period, your income often reduces or stops entirely.

Executive income protection allows the company to maintain payments to you during that period, which can help stabilise both your personal finances and the business.

Freelancers and sole traders typically rely on personal policies instead – see income protection for contractors and freelancers.

Key considerations

When choosing a policy, consider:

  • How long could you manage without income before benefits start?
  • Whether you want short-term cover or payments that continue until retirement.
  • Whether inflation protection is important to you.
  • How incapacity is defined, particularly whether the policy uses an own-occupation definition.

If you are unsure, speak to a regulated adviser who understands director structures. You can also get a quote to compare options.