The widely-used life insurance equation of ‘10 x annual earnings’ is not enough to secure a family’s long-term lifestyle, the latest underinsurance research from Rice Warner has revealed.
The consulting firm has released its annual ‘Underinsurance in Australia’ report, which found that in order for a family’s standard of living to be maintained in full, life insurance cover of an amount equal to 15 years’ income is required.
Similarly, TPD cover equivalent to 15 years’ annual earnings is required to ensure sufficient long-term finance for a family if one income-earner became permanently unable to work.
…in order for a family’s standard of living to be maintained in full… 15 years’ income is required
According to Rice Warner, cover of around 10 times the annual earnings of an average Australian couple aged 40, with children, would only extinguish debt and cover existing expenses, until the youngest child reaches the age of 21. It would not replace any savings that could be accumulated if the missing family member was still earning an income, or match their predicted superannuation benefits.
In addition, the researcher warned families that they should not rely on government benefits, such as the Family Tax Benefit, or childcare benefits, as these provide only a modest contribution towards overall living needs.
Co-author of the report, Thierry Bareau, also warned that the rising cost of insurance could lead consumers to question the need for cover.
Rice Warner’s study showed that the average cost of death and TPD insurance in employer-based superannuation funds increased by 10% between June 2012 and June 2013, with some superannuation funds raising prices significantly more.
“The underinsurance problem could grow over the next few years if the insurance affordability issues are not resolved,” Mr Bareau said.
“As the cost of insurance inside super increases, members may start to feel that premiums are eroding their retirement savings, and they may decide to opt-out of the cover. Similarly, super fund trustees may decide to reduce the amount of cover they offer to their members to reduce costs.”
The underinsurance problem could grow over the next few years if the insurance affordability issues are not resolved
He also highlighted the potential anti-selection issues which may be occurring within group insurance through superannuation, as members who may not be eligible for retail cover are taking advantage of introductory offers which enable them to top-up their cover without underwriting in the first 6 months of joining a fund.
Mr Bareau said one of the ways the industry could work to avoid this potential underinsurance crisis was to review the insurance benefits currently offered within superannuation, particularly in relation to the default level of life cover provided.
“The definitions around TPD may also need to be reviewed. TPD in super was originally intended to provide cover for people permanently unable to work in any role. But now, because of competitive market forces, these definitions have become looser, and people can receive benefits even if they can work in a different role than the one they originally performed. I think the industry definitely needs to take a look at this,” he said.
They haven’t done their homework here! Most underwriters would allow personal cover of 20 times income for a 40 year old person when considering Life and TPD cover! The replacement multiples are based on a sliding age scale and Rice Warer should either know this or should have asked. Does this jeopardise the rest of their report as well???
I don’t know if Rice Warner is making a point about underwriting limits here, Matt. They appear to be simply stating that the old rule – income times 10 – may not be enough now.
Affordability, if now suggested to be at 15 X income for both life and TPD (what about trauma as well), will obviously be an issue because at 10 times it already is/was.
Who is Rice Warner since I joined the industry in 1990 it has always been 20 times Rice Warner does not have CPI I guess.
It always amuses me how we have so many educated derelicts and not enough real planners in our industry, the Government the FPA etc all say we need to have a University degree to sell financial services, well this is the exact reason we have underinsurance they are not sales people.
10 Times Income well lets see Case study: My Client earns $235,000.00 a year as a GP, he also earns $20,000.00 a year in public service and he salary sacrifices all of that.
He has IP of $7,900.00 a month and $580,000.00 term life TPD and Trauma.
He is 40 with a wife 41 years and a son 5 years old, hi mortgage is 300k ten times earnings will give his estate 2.35 Million dollars is this enough yes I think it is. However lets say his income is only $50,000.00 then ten times does not become enough it wont last more that 8 years.
Rule of Thumb The income generated times 20 is a start, the cost then comes into play and what is enough also plays a major part, at 50 k income even 20 times may not be enough.
The child is 5 the wife has never worked, he dies today what does the family need? at 50K about 30 Times not 20 and ten well that just does not add up.
Risk Info before you publish such bad advice get a real expert like Michelle Gill from AMP or Chris Kirby to proof what has been written you will do so much better.
This is only a snap shot of the report so I don’t want to be to critical but I have always spoken of 10x (if no kids) plus debt less salable assets. If they take debt out of the 10x then yes it is likely to be insufficient.
If you read the article properly you’ll realise its aimed at life insurance within Superannuation, its not about selling a retail life policy to an individual. Life in super is a different scenario and unless you’re familiar with the rules and structures of superannuation you won’t fully appreciate the content of this article. It may not have been the best place to publish an article like this.
Hi I am from Rice Warner so I can answer some of the questions raised here:
1. The insurance multiplier of 15 x income is an average for all population. The actual report publishes the different multiplier according to the person’s age, income, number and age of children, as well as wether his partner works or not. However in such a short news article, we believe it should focus on highlighting the issue and our opinions instead of publishing a lot of information.
2. The replacement multiples are of a sliding scale as the person gets older or as his income increases.
3. According to the report, the multiplier for someone age 40 with 50k income, a child 5 years old and a wife who does not work, is 19 (or $0.95m). Considering the lifestyle of a family with only one income earner of 50k income, we believe this amount, in addition to the potential social security the wife and children can receive after he pass away, provides him with enough cover.
4. Yes affordability is an issue, especially that recently we do observe significant increases in TPD insurance premium. The key problem here, we believe, is that the TPD definition have become loose. It should only provide cover for people permanently unable to work, while people who temporary unable to work should be cover by income protection policies. It is not surprising that the premium go up if the insurance is easy to claim.
Surely advisers don’t actually use this method of calculating sums insured?
Interesting that the anti selection issues in super insurance are finally attracting some attention.
I remember a couple of years ago a potential client of mine said she had decided to go with Australian Super because she could get all her required insurances within the fund with no underwriting and only a one year PEC exclusion. This was hugely attractive to her as she’d had health issues in the past and would have been hit with significant exclusions/declines from any underwritten insurance.
At the time I said surely this can’t be true unless her employer had a group insurance arrangement. But no, I was wrong. It’s available to virtually anyone who joins Australian Super as an individual retail client as long as they’re working at the time and sign up for the insurance within 6 months of joining. I even rang the insurer (TAL) to check this was meant to be like this and they said yes. Since then I’ve been recommending this option to all my clients with “underwriting challenges”. Wonder how long it can last?
Our Business developed a program that looks at a clients assets, liabilities, income from all sources, personal and investment expenses, then calculates the cost of children up to them becoming independent, plus the capital required and earnings of the capital to provide an income stream for the clients up to their preferred age.
The program then calculates that if they need to claim on their income protection, what their cashflow position will be and the required levels of trauma and TPD to make up the shortfall to bring them to a neutral position if they can claim.
The multiples of Life insurance required are different for every person and can be much higher than 10 or 15 times income.
Dean, interesting what you say there.
trauma insurance cant be held inside super?…If this client gets diagnosed with breast cancer….aus super wont be helping her pay that bill. Why? well she hasnt died, she can go back to work after a month or so after an operation. and yes she might be able to claim on the income protection aus super has offered her but firstly its 75% of her income and its not goign to help her pay at $25000 medical bill as she wouldn’t have necessarily met the conditions of release.
And for those who are not aware..insurance companies and the like will tell you “no underwriting…” then when you come to claim they underwrite and then make up something as to why you dont deserve your payout.
TIPS
– seek professional advice on insurance
– MAKE SURE underwriting is done at the start of the process not at the end
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