Article-Maya Fisher French
The biggest risk for the self-employed is being unable to work due to illness or trauma.
The growth in the so-called “gig economy” is one of the biggest labour trends globally. This is where individuals with a specific skill set leave mainstream employment to offer their services on a freelance basis. This is partly driven by a desire for more flexibility but mostly it is due to the reality that many companies are becoming more reluctant to hire permanent staff. Instead of being paid a regular salary, workers are self-employed and are paid for each “gig” they do.
Personally, I have been self-employed and working “gigs” for 14 years. My biggest risk is being unable to work if I become ill or have an accident. While risk cover is important for everyone, when you work for yourself there is no sick pay or employee benefits. If I cannot bill my hours, I don’t get paid. The starting point is having an emergency fund that covers up to three months of expenses, or at the very least, having at least one month of expenses covered.
The next step is to take out income protection, however, this is not as simple for a self-employed person as it is for someone who receives a regular income. Sadly, it appears that few South African insurers are bringing products to market that are relevant to self-employed individuals. As a simple example, insurers do not provide the ability to pay lump-sum premiums, yet I should be able to purchase my insurance during good billing months and still be covered during poor billing months.
What I have also discovered is that if you have a variable income, it is a real challenge to figure out what you will actually get paid if you have to make a claim. One of the rules of income protection or disability cover is that you cannot be in a better financial position after the claim than you were before – but how does that work when your income is variable and how is that income determined?
How much of your income will be paid out?
When you initially take out cover, it will be based on your income at the time. However, according to Jaco Gouws, Protection Product Head at Old Mutual, the payout will be based on the client’s income at the time of their illness or injury, not necessarily the income that was insured (assuming that the amount insured was equal or higher).
In other words, if I was insured ‒ and paying a premium ‒ based on a R40 000 income per month, but I had a bad year before my claim, earning on average only R20 000 per month, I may only be paid out based on the last 12 months of income.
This is very important to remember if you are leaving salaried employment to start your own business, and your cover is based on your corporate salary. Say for example your income when you were fully employed was R50 000 per month and you had income and disability cover based on this amount. It may take you a year or two to build up to those income levels, but if you get injured or chronically ill, your claim will be based on your new income level, according to both Old Mutual and Discovery Life.
Like Old Mutual, Discovery Life recommends that on changing occupation, a client should notify Discovery Life such that their benefits and premium are based on the new occupation and salary that they earn. Insurer BrightRock, however, has a different approach. CEO Schalk Malan says clients can maintain their full cover while in a lower-paying job, or even if they go on extended leave or become unemployed.
“Self-employed individuals will have to let us know when they stop working, and the cover will remain in place for up to 12 months, regardless of the form of employment,” says Malan who adds that in the case of a permanent disability, after 12 months of not working or earning less, clients’ permanent expenses cover (and pay-outs on claim) can maintain the higher levels, provided proof of income was received for the original income. “If a client submitted proof of income at the inception of the policy and lodges a permanent claim, we are not concerned with the income at claims stage, as the client has been paying premiums for the higher cover amount.”
Malan says in the event of temporary disability claims, payments made after the year of special leave cannot exceed the income at the time of illness or injury. This is to prevent over-insurance. Malan adds that at the time of the claim on temporary expenses, although BrightRock requires proof of income, they do not require proof of loss of income – in other words, the client does not need to prove that they have lost any income as a result of being temporarily disabled.
“Imagine how hard this is for someone who has a fluctuating income, or for clients where there’s quite a lag between the work having been done and the income being received. The compounding effect of this is that when they aren’t working because of an illness or injury, they still get the funds for work done a few months before, so they can’t prove a loss of income, and so can’t get paid out from their insurer. Then, when they return to work, there’s no income for the work that they would have done during the period that they were booked off. There’s now a serious gap in their income until they can get paid for the work that they only do after their recovery, which might be quite a few months. At BrightRock we try to avoid putting clients in this type of situation.”
How is your income calculated?
As you cannot provide a payslip, insurers calculate your income both at application stage and at claims stage based on your financial statements, SARS returns or bank statements. Old Mutual considers the share of average monthly sales/fees earned, less share of cost of sales and less share of business overhead expenses, averaged over a period, at Old Mutual’s discretion, of 12 months. If earnings are of a fluctuating nature, at Old Mutual’s discretion, it may be averaged over a period of at most 36 months.
According to Andrew McCurrie, Head of Market Insights at Discovery Life, if the income is of a variable nature, Discovery Life may determine a period other than 12 months to calculate average monthly income. Whether you are a sole proprietor, partner, member of a close corporation or director of a private company, Discovery will calculate the monthly share of fees for services rendered and gross profit from trading activities, less the individual’s monthly share of the business overhead expenses and tax.
As benefits are tax free, deducting tax is not an issue, however, the critical point here is that “overhead expenses” are deducted from the income calculation. The problem is that overhead expenses do not disappear when you are unable to work. There may still be rent, connectivity costs, website management, insurance and car finance expenses. Moreover, some of the overhead expenses that a self-employed person may deduct form part of day-to-day expenses. For example, if you work from home you can deduct up to 20% of your mortgage interest and household running costs as overheads. Gouws says in this case they take into account 17.5% for fringe benefits, but this may be insufficient.
Financial planner Markus Bauriedl, says one could consider covering the business overheads of an individual, especially for a professional or sole proprietor through an overhead expense benefit. “These are typically overheads that would continue being incurred even when the individual is unable to work. The overhead expense benefits are normally only applicable to businesses where the insured is essential to the ongoing generation of income of the business, such as a doctor, attorney or business consultant. A case where it would not apply is in the case of a shop owner who could employ someone else in the interim to continue the operation of the business. However, only certain overhead expenses would qualify, which is dependent on the occupation of the individual. What is taken into account in the evaluation is the nature of the work performed, as well as the expertise of the insured. Furthermore, it is important to note that an overhead expense can also only be taken as a temporary benefit and does not apply as a permanent expense benefit.”
What if you are incorporated?
If you have incorporated your business into a (Pty)Ltd then the income is deemed to belong to the company and your income is calculated on the salary or dividends you withdraw. If you chose to keep some of the income in the business, then this may not be included in your income calculation, even though it is actually income you have generated.
What is clear is that firstly it is best to get good advice and ask a lot of questions before taking out cover. Secondly, the industry needs to start focusing on this growing market for which insurance is equally ‒ if not more ‒ important, by creating relevant products.
Additional cover to consider
Bauriedl recommends a severe illness benefit in conjunction with an income protection benefit, as it is triggered upon either a recognised trauma event or the diagnosis of an illness covered under the additional health benefit, without it necessarily resulting in the inability to work.
“In my experience, many lower-severity illness claims are triggered with clients still being able to work, such as in the event of cancer, mild heart attacks, mild strokes and trauma events where they can return to work either immediately or soon. In this case income protection will not kick in but they are not able to work optimally and their income is affected. Some products, like BrightRock’s trauma IQ benefit, focus on trauma events, making them particularly relevant to the younger and more active market, that may be more exposed to trauma-related claims.”
Financial planner Sylvia Walker argues that good medical cover is equally important. “Many self-employed people cannot afford the full spectrum of cover needed in case of illness, so a more practical approach would be to belong to a good medical aid, so medical costs are taken care of, and then the access to cash, in the form of critical illness cover, that can be used in whatever way it is needed. That’s what is so great about this cover – the flexibility it provides. It’s not just for medical expenses, or loss of income, etc. It buys time to heal, a very important consideration for someone who is working for themselves.”
