Should I Have Insurance in Super? A Guide to Protecting Your Long-Term Plan
Insurance is a necessary component of a holistic financial plan. Protecting yourself from unexpected, life-altering events is crucial to maintaining your long-term wealth strategy.
In Australia, there are three primary approaches to holding insurance:
Inside superannuation with a group policy.
Outside superannuation with a retail, individual policy.
Self-insurance (which requires large sums of readily available capital and is not feasible for most people).
This article will focus on the differences, advantages, and limitations of the first two options. The types of insurance that focus on life-altering events and are commonly discussed include:
Life insurance: Provides a lump sum payment upon death, or sometimes earlier in the case of a terminal illness.
Total and Permanent Disability (TPD) insurance: Pays out if the claimant has experienced an event that leaves them totally and permanently disabled and unable to work.
Income Protection Insurance (IP): Provides an income stream to help cover unexpected accidents or illness that prevent you from working.
Trauma Insurance (TI): Offers a lump sum payment if you suffer a critical illness or injury.
It is important to note that Trauma Insurance (TI) is generally not available through superannuation; it must be held outside of the fund.
Costs and Premiums
Cost is a large consideration for insurance. As seen in the table below, premiums are often lower inside super, but retail policies offer specific tailoring.
Key Financial Differences:
Price: Super fund policies are typically lower cost because they operate on a group insurance rate.
Tax Effectiveness: Premiums inside super are paid from your pre-tax super balance, which is often tax-effective. Retail policies are generally paid with post-tax income, though Income Protection premiums are usually tax-deductible when held as a retail policy.
Cash Flow: Paying premiums from your super balance can assist with immediate personal cash flow but reduces your overall retirement savings and compound growth potential.
Policy Features: Group vs. Retail
There are crucial differences in coverage when comparing a group policy (inside super) to a retail policy (outside super).
Group Policies (Inside Super)
Group insurance policies usually do not require medical underwriting. This is a major advantage for individuals with pre-existing conditions who may find it difficult or impossible to secure retail cover.
However, group policies often do not exactly meet the nuanced needs of the individual. For instance, with TPD insurance, most group policies will only cover 'any' occupation. This means the claimant must be unable to perform any role to qualify. If a highly specialised professional is injured and can no longer perform their usual duties, but is still capable of working in a lower-paid consulting role, they may not be eligible to claim.
Furthermore, claims submission can take an extended period to process and pay out. This is often due to the multiple layers of approval required, as the superannuation trustee must also approve the claim before funds are released. This time delay is a crucial consideration if you or your beneficiaries do not have emergency funds available for a long runway.
Retail Policies (Outside Super)
Retail policies are highly customisable and offer specific cover tailored to the individual. This flexibility leads to broader and deeper coverage, which significantly increases the chance of a successful claim if the circumstance arises.
For example, retail TPD policies often allow for 'own' occupation coverage. If you are unable to perform your usual duties in your specific role, you are eligible to claim.
With Income Protection, many group policies are limited to a two-year benefit period. Retail policies can offer protection up to 65 years of age. This offers greater peace of mind in the event of a critical injury that may prevent a return to work for an extended period. Retail policies also frequently offer extra features, such as rehabilitation support and wider inclusions for health conditions.
Since there is no superannuation trustee involved, claimants usually experience a faster approval and payment process as the funds are paid directly to the individual.
Tax Implications Upon Payment
It is vital to understand the tax implications of the benefit payments themselves:
Group Policies (Super): Life and TPD payments from a super fund may be partially taxable depending on whether the beneficiaries are classified as a tax-dependent under superannuation law. The benefits are split into taxable and tax-free components.
Retail Policies (Outside Super): Generally, Life insurance and TPD policies held via retail agreements are not taxable.
Income Protection: Any income stream received from Income Protection payments will be taxed as regular income, regardless of whether the policy is held inside or outside of super.
Long-Term Considerations
The decision of where to hold your insurance is not an all-or-nothing choice. A balanced financial plan may involve a mix of super and retail policies. For example, using super for basic TPD cover, but supplementing with a retail Income Protection policy for broader protection. Insurance in super might also be the only option for individuals with pre-existing conditions who cannot obtain retail cover.
One critical point, especially for younger Australians, is the opportunity cost of taking premiums out of their super balance. Premiums reduce the overall capital base, which has a significant long-term impact on compounded earnings and growth over several decades.
If insurance within superannuation is the preferred option, it is a sound strategy to consider replacing the cost of the premium amounts through additional contributions (such as concessional or non-concessional contributions).
To start your process, assess your current insurance situation and needs. Resources are available to help you estimate the necessary level of cover, but for complex needs, always seek professional advice. Your superannuation fund can provide customized quotes for their group cover options.
Source: https://www.morningstar.com.au/personal-finance/should-i-have-insurance-in-super
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General Advice Warning:The information on this website is intended to be general in nature and is not personal financial product advice. It does not take into account your objectives, financial situation or needs. Before acting on any information, you should consider the appropriateness of the information provided and the nature of the relevant financial product having regard to your objectives, financial situation and needs. In particular, you should seek independent financial advice and read the relevant product disclosure statement (PDS) or other offer document prior to making an investment decision in relation to a financial product.