Concerns about the sale of critical illness insurance surfaced this week after the chief financial regulator said it feared thousands of policyholders had little idea how their policies worked or what they covered.
The Financial Services Authority said an investigation found that providers, including banks, insurers, supermarkets and financial advisers often made no effort to discover if the cover was appropriate and gave customers little explanation of how they work. While most firms were working to comply with higher standards, others continued to offer a poor service.
Critical illness cover pays a lump sum in the event that cancer, heart disease or other specified life-threatening illnesses strike. Policies are often sold to people who take out loans or mortgages, who are worried about paying off the debts should the worst happen.
There are two types: those with a guaranteed fixed monthly premium and those that increase monthly payments over time. In all, there are more than 5m policies covering 12m people, according to figures from the Association of British Insurers (ABI). A typical policy will pay out £67,000.
These "protection" policies have proved controversial. While they can be beneficial, critics allege that few people make claims. There are no figures to show the level of claims against the total premiums paid. But the FSA review showed that on average, a quarter of the claims made are turned down.
In one recent case, a claimant was diagnosed with cancer but doctors were unable to specify which one. The policyholder was told it was unlikely doctors would know for sure until he was dead.
His insurance company refused to pay out until a diagnosis was available. Family members appealed, knowing that the critical illness policy, worth more than £80,000 would be superseded by a life insurance policy worth £15,000 should he die. Only one policy can pay out. The wrangle was also a further burden to the claimant. After a public fight, the insurer conceded and paid the critical illness policy.
Which?, formerly the Consumers' Association, said it believes the situation is much worse than the FSA claims and critical illness sales are at the heart of a widespread mis-selling scandal.
Principal policy adviser Mick McAteer, says commission-hungry advisers, brokers and finance companies saw an opportunity to generate huge profits: "We predicted that the mis-selling we saw in the pensions industry would be displaced into the protection business.
"Protection policies, by their nature, are complicated and the advisers selling them are often putting their commission before the needs of their clients."
His comments follow complaints in parliament about the mis-selling of protection policies. Liberal Democrat Lorely Burt, the MP for Solihull, says the FSA study shows there is a high risk that policies are sold to people who either don't need them or don't understand what they are buying. She has called for rule changes that would restrict sales to financial advisers operating under strict guidelines.
The industry argues that it has already reacted to much of the recent criticism with new guidelines. A review by the ABI led to more rigorous standards, with clearer headings on brochures and standard wording to present a clearer picture.
Some providers have also cut the number of people they turn down - to 15%, in the case of Standard Life, or 11% at Scottish Provident. Scottish Provident paid a total of £45.5m in claims in the first half of last year, with cancer being the most common trigger. It will take the amount paid by the insurer since 1996 to £344m. In the same period Standard Life paid out 5,047 death and health claims to the value of £134m.
Most people whose claims are refused, are turned away because they failed to declare a pre-existing condition. Others lose out because their illness falls out of the scope of the policy. This mistake is easy to understand. What constitutes a critical illness to one insurer is excluded by another.
Take out a loan with Sainsbury's Bank and you will be asked if you want to buy its creditcare protection insurance. The most expensive "gold level" includes critical illness insurance. But what you buy will be very different to the cover on offer from Standard Life.
At Sainsbury's it covers heart attacks, kidney failure, quadriplegia and paraplegia, stroke and open heart surgery. Cancer is also on the list though there are exclusions, including skin cancer, all but the most serious prostate cancers and lymphoma.
Standard Life includes 30 different complaints including the seven stipulated by Sainsbury's. They range from bacterial meningitis and Parkinson's disease to the human form of mad cow disease and third degree burns. Standard Life's definition of cancer contains the same exclusions as Sainsbury's.
Insurance broker Simon Burgess says he won't sell critical illness cover because too often it fails to pay out or policyholders never claim. "You see adverts which say one in three people will get cancer and how a critical illness policy will help. But these policies are cancelled when people reach retirement age and that's when most people get cancer. The figures for cancer are nearer one in 40 before 70 years of age, but the adverts don't tell you this."
Mr Burgess also accuses the financial advice industry of churning policies. He argues that advisers will recommend clients review their non-guaranteed policies every five years to get a better deal. "This has a profitable side effect for the financial adviser because each new policy comes with commission, sometimes equivalent to two years' policy payments from the client."
What it costs
Life insurance including critical illness cover, based on a married couple aged 30 and 32, living in Chester (CH3), who are non-smokers. Prices quoted are for £100,000 cover over 25 years.
Torquil Clark £34.22
More Th>n £49.63
Standard Life £59.00
The AA £60.01
Halifax £60.51
Critical choice: Why there may be better options
Why buy critical illness cover? Even some of the biggest providers of this type of insurance argue that alternatives could make a better job of paying the mortgage or providing an income when life-threatening illnesses prevent you from working.
Mick James of Standard Life says more people should consider other insurance options before ticking the box marked "critical illness".
People are often confused about why they want the policy, he says. "Too often, they just look at the potential for a lump sum payout and say 'that's the product for me'. They should be asking what they need it for, because with lots of illnesses these days, and especially many types of cancer, the person can be fighting it for years, unable to work while undergoing treatment and recovering from the effects."
That means the money could run out quite quickly. The policyholder could be better off with an income protection policy, or family income benefit that is often cheaper and can pay out for a longer period.
"An income protection policy will also pay out for a bad back if it prevents someone from working. A critical illness policy won't," he says. "For every income protection policy sold, people buy four to five critical illness policies.
"That's better than it was a few years ago when the ratio was 10 to one. But, as an industry, we still need to do more to present alternatives to people so they make the most appropriate decision."
If you are worried about NHS delays in treatment following a diagnosis for cancer or heart disease and want private medical treatment then private medical insurance (PMI) is often a better bet.
