Protection essential when going it alone

Clitheroe is a founding director of financial planning firm ipac, chairman of the Aus Govt Financial Literacy Board and chief commentator for Money Magazine.

TWO million Australians are living the dream of working for themselves. But running your own show can quickly become a financial nightmare if you become seriously ill or injured.

On one hand, self-employment has a lot going for it - the potential for flexible working hours and an opportunity to build a thriving long-term business.

However, working for yourself comes with a significant - and often overlooked - downside.

If you can't work for a prolonged period due to illness or injury, you don't have the luxury of employer-paid sick leave, and you may not be covered by workers' compensation insurance.

Soldiering on while you have a cold or flu is one thing. But if you're out of action for a lengthy period, you could face the double whammy of loss of income coupled with a deterioration in the value of your business.

It all highlights the need for self-employed workers to have income protection insurance. This type of cover pays a regular income stream, usually 75% of your normal income, if you can't work because of illness or injury.

Income insurance is sometimes bundled with the life cover offered by super funds. But self-employed workers tend to have low levels of super, and almost one in four (22%) have no super at all, which further reinforces the need for independently held income insurance.

If the cost of cover is an issue, opting for a longer waiting period (typically between 30 and 90 days) before payments kick in, or choosing a shorter benefit period, will reduce the premiums.

Be sure you're tailoring cover to suit your needs though rather than juggling numbers just to save a few dollars. If you choose a longer waiting period, for instance, be sure you have sufficient personal savings to tide you over until benefits kick in.

You'll also need to choose between an indemnity style of policy and an agreed value policy. Indemnity cover provides a payout based on your income over the previous 12 to 24 months. It can be a good option if your business income is stable from year to year.

If your income fluctuates between years - as is often the case for self-employed workers, an agreed value policy may be the better choice. It lets you lock in your payout based on the income you're earning at the time you take out cover.

On the upside, the premiums for income protection insurance are tax deductible. So while you're taking a sensible step to protect your financial wellbeing, you're also trimming your tax bill. And both matter when you work for yourself.

Originally published as Protection essential when going it alone