Director Income Protection

What is Directors Income Protection Insurance?

An insurance policy which makes a monthly payment when health issues prevent a company director from being able to work. This mitigates the financial risks a long-term illness or injury can cause to both the business and the director.

In 2024 there are various policies which are designed to achieve this. Some policy types focus on providing a comprehensive sick pay entitlement and others on replacing lost revenues.

Either approach can help to maintain business continuity by ensuring operational revenues are free to keep the business in good health.

Types of Income Protection for Directors

There are three main types of income protection that directors may wish to consider. In summary, these are:

• Executive Income Protection: Paid for by the company, the emphasis is on insuring the director’s salary and provides enhanced sick pay.
• Key Person Income Protection: Paid for by the company this type of policy protects a percentage of the gross profit attributable to the director.
• Personal Income Protection: Paid for by the director from their personal, post-tax income, personal plans focus on protecting the individual against a loss of income.

Executive Income Protection

This is the policy type most commonly discussed in the context of providing directors with income protection. The director is the individual whose health is insured, the company are the policyholder and pay the premiums.

Policies can protect up to 80% of the director’s gross salary including dividend income and P11D benefits. Cover can often be extended to include the cost of National Insurance and pension contributions made by the employer.

Any benefits from a claim are paid to the company, which then distributes the funds to the director through PAYE.

This approach can be tax-efficient if the premiums paid by the company are considered to be a legitimate business expense. However, this is a complicated area and policies covering directors with large shareholdings may not be tax-deductible.

For more detailed information on the potential tax benefits and coverage of dividends, directors can learn more by visiting the Executive Income Protection page.

Key Person Income Protection

If the core requirement is to safeguard business revenues and profits that result from a director’s input into the company, a Key Person Income Protection plan may be worth considering.

This type of policy can cover up to 75% of the gross profits attributed to the director’s efforts. This amount is capped at a maximum of £250,000 per year.

It is similar to Key Person Life Insurance which pays a lump sum if the insured employee dies or is diagnosed with a terminal illness. But instead, Key Person Income Protection provides the business with a monthly income while the insured employee is incapacitated. This is intended to maintain business continuity and service liabilities.

However, it’s important to note that these policies typically have a maximum benefit period of two years. If the intention of the policy is provide long-term income security for the director, this type of policy may not be suitable.

Personal Income Protection

As opposed to having the policy paid for and owned by the business, in many cases a personal policy may still prove to be the preferred option.

A personal income protection insurance policy will normally protect up to 65% of annual taxable income. While this headline figure is less than the 80% offered with an executive plan, any monies received monies received from a personal plan are tax free. Whereas monies received via an executive plan are subject to income tax and national insurance.

Another consideration is that a personal plan stays with the individual over time. Very often policies owned by a business cannot be transferred into a personal plan.

Where this is the case, directors leaving the employ of a company will need to set up a new plan. This could pose an issue if pre-existing medical conditions are excluded from the new policy. Additionally, if a business was making a long-term claim over a number of years, the limited company would have to be kept going to receive the benefit of any claim.

Why do Directors and Small Businesses need Income Protection?

The effort and investment required to build a successful business of any size is substantial. Profitable businesses are valuable assets and provide directors with both a salary and hopefully regular, healthy dividends.

But, relying on the continued good health of a director to keep the business running smoothly is a huge risk. Health issues that keep directors away from work can quickly cause major, simultaneous issues for both the business and the director.

The Business

Any size business can miss the input of a director. But, whereas large organisations can absorb the loss more easily, smaller businesses can be left extremely vulnerable.

Directors of small businesses are often the business owners too and responsible for a significant portion of the company’s profits. Without their skills and experience, businesses may struggle to meet contractual obligations, manage resources, or maintain client trust.

If there is no protection in place, the business may be unable to continue paying the director’s salary, business loans or monthly outgoings. Additionally, if revenues are highly dependent on the director, the funds to hire the temporary manpower to keep the business operating might not be available.

This can result in heavy financial losses and substantial damage to the value of the business. In a worse case scenario, the business could even be forced into liquidation.

The Director

More often than not, employee benefits that may come as standard in large enterprises such as enhanced sick pay are missing in small businesses.

If a health issue prevents a director from working, they may find themselves struggling to meet crucial financial commitments. For anyone with a mortgage, surviving on any UK state benefits is unlikely to be a viable option. This could leave many directors facing mounting debts or unable to meet basic living costs.

To make matters worse, the business issues that are a result of the director’s absence may remain theirs to try and solve. This could cause high levels of stress which is known to make many illnesses worse and increase recovery times.

Tax Treatments on Income Protection Plans paid for by a Limited Company

Prior to taking out any business protection policy companies should seek the advice of their accountant to advise on any tax related issues. While some policy premiums may have the potential to be a tax-deductible expense, there are additional factors which need to be considered.

Tax treatments can be effected if:

• The insured director named on the policy has a shareholding in the business.
• The director / shareholder is not considered a key person.
• The length of the insurance policy’s term.

For company owners who are not integral to the business, the monthly premiums of executive plans are unlikely to be considered an allowable business expense.

Short-term policies may be more likely to be seen as a business expense whereas long-term policies may be considered by HMRC to be a personal benefit.

Where premiums are tax deductible and reduce a company’s corporation tax bill, any monies paid by the insurer as a result of a claim will be treated as a trading receipt (and so be taxable revenue).

Likewise, where premiums are not tax-deductible, any monies will not be treated as a trading receipt and corporation tax would not be paid on the monies received.

IMPORTANT: The information provided on this page regarding insurance policies and their tax implications is intended for general informational purposes only and should not be construed as tax advice. Tax regulations are complex and subject to change. The impact of tax laws and regulations can vary based on individual circumstances and may differ based on various factors.

Before making any decisions related to business protection insurance it is essential to consult with a qualified tax advisor or accountant. Black Lion Insurance does not provide tax, legal, or accounting advice. All content is provided without any warranty, express or implied, regarding its accuracy, completeness, or applicability to your specific situation.