Life insurance vs income protection insurance

It’s easy to assume all types of insurance fundamentally do the same thing: provide a financial safety net that can step in if something goes wrong. But not all types of cover work the same way.

Life insurance and income protection insurance are two of the most common insurance types you might encounter. While they both offer financial support, the scenarios they cover and the type of benefits on offer can be very different.

Let’s dive into the key differences between income protection insurance and life insurance, from how benefits are structured to the tax implications of each policy, to help you secure the right type and level of cover for your needs.

What is life insurance?

Life insurance helps you protect the people you care about. If you pass away (or get diagnosed with a terminal illness, depending on your policy), your insurer pays out a lump sum to your nominated beneficiary, usually a partner, child, or family member or to yourself (in the event of a terminal illness).

That money can be used in any way, such as:

• to pay off the mortgage,
• to cover funeral or legal expenses,
• to keep up with everyday costs and/or,
• to plan for the future, like your kids’ education.

The goal of life insurance is simple: to help the people you love stay financially stable during a really difficult, emotional time.

What is income protection insurance?

Income protection insurance helps you to keep your life running if you’re sick or injured and not able to work.

Let’s say you injure your back and your doctor signs you off work for three months. You can’t work, but everyday expenses like rent and bills don’t stop. That’s where income protection insurance can step in — it pays you a monthly amount (usually up to 70-90% of your pre-tax monthly income) while you focus on your recovery.

This benefit is paid directly to you, and it helps cover your regular living costs, such as:

• rent or mortgage repayments,
• groceries and bills
• childcare costs and/or,
• medical expenses.

There’s usually a waiting period before payments kick in, and they’ll continue for a set amount of time (like six months, two years, or even longer, depending on your cover).

This kind of insurance may be especially helpful if you’re self-employed or a casual employee who doesn’t accrue certain types of paid leave. Additionally, if you have multiple family members financially dependent on your salary, income protection insurance may offer valuable peace of mind in the event of the unexpected.

When are benefits paid?

Life insurance is typically paid out when you pass away, or in some cases, if you’re diagnosed with a terminal illness. It’s a one-time lump sum payment designed to support your loved ones.

Income protection insurance works differently. It can provide ongoing monthly payments to help cover your everyday expenses while you recover. There’s usually a waiting period, and how long you receive payments for depends on your policy.

Who receives the benefits?

When a life insurance claim is made, the benefit goes to whoever you’ve nominated as your beneficiaries, often a partner, child, or other dependent.

With income protection insurance, the benefit is paid directly to you. You’re the one who receives the ongoing monthly benefit payments, helping you stay on top of things while you recover.

How are benefits structured?

Life insurance benefits are usually paid as a single lump sum. The amount is agreed when you take out your policy, and it’s designed to help cover major costs, like debts, funeral expenses, or long-term family support.

Income protection insurance is structured as a regular monthly payment, and it replaces a portion of your income (typically up to 70%, depending on the terms of your policy). You receive these payments for as long as you’re unable to work, up to a maximum benefit period outlined in your policy. That could be six months, two years, or longer, depending on your cover.

How long does your cover last?

Life insurance is often set up to last until a certain age, commonly 70 or 80, or until you decide to cancel your policy. As long as you keep up with your premiums, your cover will stay in place.

Income protection insurance is slightly more flexible. You can generally renew your cover up to a certain age (usually 65 or 70), and your benefit period which is how long you’ll keep receiving payments if you make a claim is something you choose when setting up your policy.

What are the tax implications?

Life insurance payouts are generally tax-free if they go to someone who depends on you financially, like a spouse or child. So, if the worst does happen, your loved ones likely won’t have to worry about the ATO taking a slice.

Income protection insurance benefits are usually treated as taxable income, since they’re designed to replace your salary while you’re off work. The upside is that in many cases, your premiums might be tax-deductible, but it’s worth chatting to a financial adviser or tax agent to see how this applies to your situation.

Keep Reading: Discover the tax benefits of having income protection insurance.

Do you need both life insurance and income protection insurance?

Life insurance and income protection insurance serve different purposes, and depending on your situation, one or a combination of both can provide valuable peace of mind.

While both offer different types of protection, many people consider having a mix of the two, especially if they’re juggling dependents, debts, or living expenses. It all comes down to your personal circumstances, financial goals, and how much security you’d like to build into your future.

You can also receive both types of cover through your super fund, so it’s handy to check whether a standalone policy or insurance through your superannuation is best for you and your family.

How to choose the right cover and policy for you

There’s no one-size-fits-all when it comes to insurance. The right type of cover depends on your lifestyle, your financial commitments, and the kind of support you’d want if life took an unexpected turn.

Whatever stage of life you’re in, it’s worth taking a moment to check in: what would you want protected?

At Choosi, we’re here to help you protect what matters - from your income to your loved ones. Compare insurance options from its approved product list today and get cover that fits your future.