In my last blog I talked about how “inertia” was an active decision. One of the biggest aspects of inertia in personal finance is protection. As a society, we don’t seem to be very clever (sorry but it is true). Statistics tells us that most people choose to insure their Iphones rather than their lives ; that really is a shocking stat and makes me a little sad. Protection is often underused particularly by the entrepreneurial community which is daft really as this is probably the sector where “human capital” is usually high;
"The collective skills, knowledge, or other intangible assets of individuals that can be used to create economic value for the individuals, their employers, or their community:”
In basic terms, the concept of human capital really is about how much an individual is worth both to themselves and their family and is a forward looking measurement. The last bit ; “the family” is where most entrepreneurs go wrong though. Most entrepreneurs I come across have a huge amount invested in their human capital through many years of hard work and grind and most haven’t protected it.
Why I protected my Human Capital
Take my situation for instance; I am 33, I have invested lots of time and effort to get to the point I am at in life. I have a shareholding in Xentum and I have just launched nextgen planners. I have taken 14 exams to become a fellow of the Personal Finance Society and a Chartered Financial Planner. This is not about bragging about where I am, I believe that I am just about to hit the point where it all pays off. The next 5-10 years will probably define my family’s financial situation for the future.
So, imagine the scenario where my progress is cut short, by illness or death. I lost my father to cancer at 52 so I am not naive to the possibility. Imagine all that time and effort wasted if I didn’t protect my human capital. It is not just about me, my wife has been supporting my career for nearly 12 years now. She deserves to know that it is protected. It wasn’t that expensive to just make sure all my hard work both up to today and in the future was insured, less than my Sky Bill every month in fact.
How do you calculate how much your human capital is worth?
This is pretty hard to predict although I believe that entrepreneurs should be overly optimistic when arranging life cover. I have done some videos on this previously but the best place to start is probably a calculator such as this. If you work out the likely amount needed after tax and times it be the number of years you will likely have dependents, then you won’t be far off. If you envisaged a figure of £50k per year after tax needed for 20 years than £50k x 20 = £1m - not a bad rule of thumb to start with
If you have a spouse, have the conversation and maybe ask the question about how much you need. A decent financial adviser would be able to help you with this conversation.
What type of Protection should you take?
There are lots of different types of protection although the main types are term assurance, family income benefit and critical illness. Usually a combination may be best dependent on your circumstances and it usually makes sense to have a higher element of life cover and some form of critical illness.
Tax Efficient Life Cover for Business Owners
There is a pretty cool way to take out life cover through the business. It is called a Relevant Life Plan and I have just taken one out personally. I am not going to go into all the details but the life cover is purely for your family’ benefit , however the premiums are paid by your business and are tax deductible for corporation tax purposes. In some cases, this means that the premiums could be up to 49% cheaper than paying out of after tax income. It is a great policy and we are also starting to see some companies offering Critical Illness cover built into this policy. It is not a policy you will find on the open market and is only for business owners really, but not enough people know about it.
So there we go. I have told you that you need to protect your human capital, particularly if you have family. I have told you how to calculate it and I have even mentioned a pretty cool way of doing it that reduces the amount you pay to the tax man. What are you waiting for or are you still making that active decision of inertia.