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Introduction to Protection

Most of us hate paying for insurance (a.k.a. protection) on the basis you're paying out money for something you hope you'll never need.

However, some insurance is compulsory (e.g. motor) and other types such as home and life insurance will probably help you sleep more peacefully at night.

It can be foolish to ignore insurance altogether, but very wise to only buy those insurances that are actually worthwhile with the right amount of cover at a good price.

How does insurance work?

The concept is very simple. You give an insurance company some money, called a 'premium', in return for them agreeing to cover your costs should a specific event occur. So, for example, they could agree to reimburse you should your shiny new car be stolen.

The insurance company will estimate the chances of that event happening and then set a premium that should ensure they make a profit.

CandidExample Insurance company A insures 100 people who own a car, worth £5,000, from being stolen. The company believes the chances of a car being stolen over the next year are 1 in 100 (i.e. 1%), so it sets the premium at £100 per person. This generates £10,000 for the company and, because they only expect to payout £5,000, gives them an anticipated profit of £5,000.

The profit in the above example could be even higher if no cars are stolen, but if two cars are stolen the company makes no money and three or more will mean a loss. One of the key jobs for an insurance company is therefore to manage their risk to minimise the likelihood of a loss.

This is why insurance companies vary premiums based on how risky they view your business (known as 'underwriting'). For example, if you live in an area with high car crime you'll be charged a higher premium than someone who lives in a low crime area, all other things being equal.

Insurance companies also try to make money by investing some of your premium. The chances of all the money received from premiums having to be paid out in claims are slim, so the company might invest some in the hope it will boost profits. Obviously, they need to ensure there's still sufficient cash to pay claims, so must get the balance right. There are usually strict rules in this respect to protect customers.

The other key thing to understand is an insurance policy 'excess'. Some policies require you to pay the first part of a claim, typically ranging from a few pounds to hundreds. This is to discourage frivolous and fraudulent claims, in theory keeping the costs of premiums lower than they otherwise would be.

Types of insurance

The insurance industry is massive and, chances are, whatever you want to insure you can probably find someone willing to do so. However, in everyday life there are really two broad categories:

  • Insurances covering you against illness and death (e.g. life, critical illness, medical and travel insurance).
  • Insurances covering your possessions (e.g. home, motor and travel insurance).

Do I need it?

In an ideal world you'd be insured against everything bad that could happen to you, so at least you and your family wouldn't have financial worries if something bad does happen.

In practice the cost would be prohibitive, so you need to strike a balance between cover you feel necessary and cost. For some that still means quite a lot if insurance, for others it could mean almost none at all.

When deciding whether you need insurance it helps to think through the following points:

  • Is it a legal requirement? If so (e.g. motor insurance) then you've got no choice but to buy it.
  • Do you already have cover? Don't duplicate any cover you might already have. For example, some employers provide their employees with cover against illness and death.
  • Imagine worst case scenarios then think how you and your family would cope without insurance. If things would be difficult then you need to weigh up the cost of insurance versus the peace of mind it would give you.
  • Would it be cheaper to take out insurance now rather than wait until you're older when premiums might be higher? (by no means a cast iron argument, but worth bearing in mind).
  • Is the policy a long term commitment or can you cancel, without penalty, if your needs change in future?

Things to consider when buying insurance

How Much Cover?What's Covered & What's NotPolicy ExcessCost

Some policies let you choose an explicit level of cover (e.g. life and home insurance) while others provide pre-determined levels (e.g. medical and travel insurance). Either way, you need to be comfortable with the cover provided. There's no point paying money for extra cover you don't need but you also don't want to be underinsured.

Policies with pre-determined levels of cover often have the option to increase or decrease those levels (for example, policies might be marketed with 'bronze', 'silver' and 'gold' options, or something similar). If you're choosing a level of cover yourself then try to work out how much you might need. The calculators in this section can help you do this.

Candid Tip Beware of insurance salesmen and financial advisers who push insurance. While they should make you aware of insurances that might be appropriate, be very wary if you get the hard sell. Insurance companies tend to pay high sales commissions to advisers, so they may have their best interests at heart and not yours.

Ways to buy

InsurerInsurance BrokersComparison WebsitesFinancial AdvisersDiscount Brokers

While this might seem simple, there's a high chance you won't get the best deal unless you've shopped around extensively beforehand. However, this is an increasingly attractive route if you use Internet 'cash back' sites such as Quidco or Topcashback, as they receive and then refund to you the commission that might otherwise have been paid to a broker, comparison website or salesman.

If you buy a policy over the phone or Internet, or from a salesman who visited your home or place of work, you normally have 14 days to change your mind (called a 'cooling off' period). If you buy insurance you then feel you don't need, check whether you have the right to cancel.

Problems when making a claim

Insurance is worthless unless you actually receive a full payout when you make a valid claim. While the majority of claims go smoothly, it's not always the case, the most common problems being:

Insurer doesn't pay the full amount of your claim

This can happen when the level of cover on your policy is insufficient or the insurer believes the value of your losses claimed is unrealistic. In the latter case there may be room for negotiation, especially if you can prove the amount claimed is accurate and realistic.

Insurer refuses to pay your claim

This can happen when the claim is not covered by your policy, you've broken the conditions of your policy or neglected to pay premiums.

If you believe that your insurer is behaving unfairly then you should send them a formal complaint in the first instance. If they do not resolve the issue you can take your complaint to the Financial Ombudsman Service.

Protection Jargon

Here's some of the more common protection jargon you might come across:

ABI Model DefinitionsA list produced by the Association of British Insurers that aims to standardise what is meant by 'critical' when applied to a specific illness.
All RisksContents insurance with all risks covers possessions such as a laptop or watches when taken outside the home.
Building InsuranceInsurance that intends to provide sufficient cover to totally rebuild your home if necessary.
Contents InsuranceInsurance that covers items that are not a fixed part of your home, e.g. TV, from damage or theft.
Convertible Term AssuranceA type of term assurance that allows you to convert into a whole of life policy.
Debt Payment ProtectionInsurance that's intended to help you manage your debts if unable to work through illness or injury.
Decreasing Term AssuranceA type of term assurance where the sum assured reduces over time, typically linked to a repayment mortgage.
Deferment PeriodPeriod of time that you must be unable to work for before you can claim on an income protection policy. The longer the period, the lower the premium is likely to be.
Employment & Support AllowanceState benefit intended to pay employees (and potentially the self-employed) unable to work through illness after Statutory Sick Pay ends.
EndowmentA type of life insurance policy that is also intended to provide investment returns. They have a very patchy track record.
ExcessThe amount of an insurance claim you agree to pay before an insurer pays the rest (for example, the first £50 of a claim).
ExclusionsInsurance policies often exclude certain risks or events. It's vital you check these before buying a policy.
Family Income BenefitA type of term assurance that pays out a regular tax-free income on death rather than a lump sum.
Full Medical UnderwritingWhen you buy private medical insurance the insurer asks for full details of your medical history and may also contact your doctor for more information.
Income ProtectionInsurance that pays out a monthly tax-free income if you're unable to work through illness or injury.
Increasing Term AssuranceA type of term assurance where the sum assured increases over time, usually inline with inflation.
Inpatient CostsThe costs of staying in a private hospital, usually covered by private medical insurance policies.
Loss AdjusterAn impartial claims specialist responsible for investigating claims on behalf of insurance companies.
Material FactInformation that would affect an insurance company's willingness to accept a policy, or the premium it would charge. Don't omit these when applying for cover as it could invalidate the policy.
Moratorium UnderwritingWhen you buy private medical insurance the insurer does not require details of your medical history. Any conditions that have existed over the last five years are not usually covered.
Outpatient CostsThe costs of private medical care when you're not admitted to hospital. Not always covered by private medical insurance policies.
Personal Accident PlansInsurance that pays out a lump sum in the event you have an accident and suffer a permanent or temporary disability.
PremiumThe money paid to an insurance company for an insurance policy.
Private Medical InsrancePMI, a type of insurance that pays for you to receive private health care.
Statutory Sick PayState benefit that pays employees if they're unable to work for at least four days in a row. Lasts for 28 weeks.
Sum InsuredThe maximum amount an insurance company will pay for a claim.
Term AssuranceSimple type of life insurance that offers cover for a fixed period of time for a (usually) fixed monthy premium.
UnderwritingThe process where an insurance company decides how risky it would be to insure you and how much to charge you for cover, assuming they're prepared to insure you.
Whole of LifeA type of life insurance that can run until you die, however old you might be. However, premiums tend to increase over time so it can become very expensive.