You won’t have missed the headlines that UK inflation has reached a 40-year high.
The Office for National Statistics (ONS) reports that the cost of living rose by 9.4% in the year to June 2022, primarily driven by soaring fuel, food, and energy prices.
High inflation affects your clients in a range of ways. Many will have found their household budget stretched as bills rise sharply. Others will see margins squeezed in their business because of the high costs of raw materials and distribution.
However, one often overlooked aspect of high inflation is the tricky position it could leave your clients in when it comes to their protection.
While it may not be at the forefront of their mind now, reminding them of how the rising cost of living could leave them underinsured could be genuinely vital for their long-term security. Read on to find out more.
High inflation means life insurance policies might not provide the amount a client’s beneficiaries need
Imagine that a client took a life insurance policy out in 2011. They took a £200,000 term insurance over a term of 25 years in order to provide a lump sum to their beneficiaries if they were to die while their children were young.
At that time, a £200,000 sum assured was sufficient to cover any expenses and for the family to maintain their standard of living.
Using the Bank of England (BoE) inflation calculator, to have the same spending power as £200,000 in 2011, the client would need £238,828 in 2021.
So, if your client had died in 2021, their payout would potentially have been almost £40,000 short of what their family might have needed to maintain their lifestyle.
This example was during a period where inflation only averaged 1.8% a year. So, you can imagine how underinsured a client might be if inflation remains at its current level for an extended period.
If you go back even further and consider a £200,000 term insurance policy taken out in 2001, this would have to be worth £303,200 now to have the same spending power as two decades ago.
So, if your clients have protection that isn’t rising in line with inflation (more about this below), they may need to urgently review their cover to ensure they have enough protection in place.
The situation with income protection could be even worse
Protection such as family income benefit and income protection can be in place for an extended period. In the case of income protection, it can be in place throughout someone’s whole working life.
If the sum assured doesn’t increase, then the value, if there was a claim, could result in a shortfall.
Imagine a client took out income protection in 2011 based on providing an income of £2,000 a month. According to the BoE, they would have needed almost £2,400 a month by 2021 to have the same spending power.
Older income protection policies may now have a sum assured that is much lower than your client’s current requirement. If they were to be off work for an extended period due to illness or injury, this could leave them with significant financial problems.
2 ways to deal with inflation and protection
There are two easy ways for your clients to tackle this issue.
- Indexation
When clients take out new protection, many insurers offer an “indexation” option.
With an index-linked policy, the sum assured rises each year to keep it in line with inflation. Most customers choose the Retail Price Index (RPI) as the measure of inflation, but some select to increase their cover by a fixed amount, typically between 1% and 5% a year.
Choosing this option at the outset can help to keep the level of cover at the same rate as the real cost of living. Each year, a nominal rise in premium increases the potential pay out, ensuring it keeps pace with higher living costs or salary.
Jennifer Gilchrist, protection specialist at insurer Royal London, says: “It’s concerning the rate at which costs are going up, but it shows how important it is to consider opting for cover that factors that in and increases in line with inflation.
“Making that decision ensures that an individual’s level of cover keeps pace with the real cost of living, further strengthening the security of their financial safety net.”
- Reviewing their existing cover
If your clients have protection in place and don’t have an indexation option, it’s advisable to review the cover they have in line with their current and future needs.
Their circumstances may not have changed, so the protection they have is still sufficient for their needs. However, there may be gaps in their cover that it would be beneficial to fill.
Get in touch
We can look at your client’s overall financial situation and make recommendations about their protection needs.
With high inflation likely to affect the amount of cover they need – you could argue that they need around 9% more protection now than a year ago – we can establish if any protection gaps exist.
If you have clients who would benefit from advice, or you’re interested in how you can work more closely with us, please get in touch. Email hello@sovereign-ifa.co.uk or call 01454 416653.
