Did you ever heard about credit life insurance? Many people confuse credit life insurance with standard or whole life term insurance policy, but credit life insurance is slightly different from general policies. It’s a life insurance policy designed to waive off a borrower’s loan if the borrower dies. In a simpler term, your life insurance policy will protect your family after your death while in credit life insurance your family is secured from loan repayment or EMIs to be paid after borrower’s death.
Around 40 million Americans have mortgage, auto, car and student loans while there is an increase in credit debt by 3.4% from last year. In total, Americans owe $11.62 trillion in debt. Hence, credit insurance seems a vital option for people in debt. Including credit insurance with your loan can be beneficial because it safeguards your family from due loan amount after your death.
Credit insurance is optional which may or may not be included in your loan amount. However, many lenders add credit insurance in your agreement. As per Federal Trade Commission law, it’s against law if a lender includes credit insurance in the loan without the permission of a borrower. Bankers are salespeople and this is the policy banks will try to sell when a customer takes a loan. However, credit insurance has its own pros and cons and its advantages vary from one borrower to the other.
There are four main types of credit insurance:-
Apart from credit life insurance, there are three other credit insurances. Credit disability insurance works with your respective accident or health insurance, makes loan payments if you are injured or ill and can’t work. Credit property insurance insures personal property used to assure loan if damaged by thefts, accident or natural calamities. Involuntary unemployment insurance makes your loan payments if you lose your job due to your fault such as layoff.
Credit Life Insurance= Decreasing term insurance
Credit insurance is same as decreasing term insurance.
- A credit life policy is issued to amount equal to how much you borrowed.
- As your loan amount decreases, the face value of the credit policy also decreases.
- If you die before the loan amount is repaid, the policy pays the remaining to the lender.
However, as compared to general life policies the credit life insurance is more expensive providing little benefits.
Is it costlier?
The price of a policy will depend on the loan amount, but the credit insurance policies will cost you more. It’s little more because credit policy is a matter of greater risk which makes for higher premiums. The higher risk is incurred because your eligibility is completely based on your status as a borrower.
Unlike health insurance, the applicant won’t have to give medical check-ups or disclose health details because the balance of the loan is insured then the borrower’s life. Many lenders under-the-hood charge very high premium on credit insurance and this insurance is often added in your loan EMI. This makes it harder for borrower to determine the actual cost. Hence, it is advisable to review your insurance and look out for charges added in the loan amount other than your EMI.
How Insurance premium is calculated?
Companies will charge premium on two methods i.e. single premium method and monthly outstanding method.
Single Premium Method: – The premium is calculated at the time of the loan and added to the loan amount. Thus, the borrower is liable for the entire premium agreed at the time of the policy. The original loan amount includes both loan EMI and the insurance hence; the monthly loan payment would increase.
Monthly Outstanding Balance: – This method is generally used in home equity loans and similar debts. Here is the breakdown of this type of MOB charges-
Open End Accounts- the debt amount will increase month to month. The premium is charged on monthly debt by calculating either on the average daily balance or end of the month balance on the policy terms. The amount will be deducted as a separate charge from the lender. The monthly insurance premium is a part of every month’s required minimum payment and will differ in cost.
Closed End Accounts- In this, the premium amount is stable and a fixed amount is deducted every month. It is advisable to maintain certain amount in the account, failure to pay due premiums will result in cancellation of the policy and additional charges are added at the loan maturity date.
If your loan amount is $20,000 for 36 months, the insurance premium is calculated on the basis of the interest rate and payment frequency. The insurance premium is charged on the 1% of your loan EMI. For example on $20,000 loan, the personal loan monthly payment would be $700.49 while insurance premium would end up to $7.49 (15 of your actual premium).
Should you buy credit life insurance?
The premiums for the credit insurance policy are often rolled under the loan amount, so you are hardly paying for something separate. If the borrower has no survivor mentioned at the time of the policy, in the event of the death his loan is waved off from the insurance company. However, credit life insurance is in favor of lender, not the consumer. You are paying premium to secure lender’s money, not your own. Moreover, these plans expire before the loan is repaid. So, you pay for several years but you can never able to make any claim.
Well, there are three factors you must consider before buying credit life insurance.
- When you die, the debts incurred on you die with you. This applies same for credit cards’ unsecured debts. Your family is not responsible for any debt payments as long as they are not mentioned on the bills or any loan policy. This also works for mortgages but with slight caution. Your successors are not responsible for any payments of mortgage, but if the mortgage is not paid off, the bank will take ownership of the home. It is the product you don’t need it but your lender won’t let you know.
- In credit life insurance, your family does not receive anything but your lenders do. The policy definitely pays off your debts but before you die you might want to pass off some cash for your next generation. Credit insurance will not achieve that, but if the mortgage is paid off before you bid adieu, your children will have a house to live in. However, if you belong to young crowd then you must ignore taking credit insurance, in which case you will waste $40 a month unknowingly. If you can save $40 per month then you can put $40 toward prepaying your home loan. When you make overpayment to the original principal amount, there is less principal amount left to calculate the interest. Let’s say your mortgage loan is left for next 10 years at the interest of 7%, by making $40 extra payment every month, you can save $1,870 and your loan is waived off 13 months early.
- The idea of credit life is usually a burden for borrower. The premium for credit life insurance is generally much higher than those of regular policies. Credit life is a real-life situation but it is often misunderstood and overpriced. It’s great to shop for better life insurance policy than opting for anything offered from lender.
- You have right to cancel your policy within 30 days of purchase.
- 65 or older age people are not eligible for credit insurance.
- Make sure you know how your coverage works, premium amount, start and end and what is not covered.
- As per law, lender cannot include credit insurance in your loan without your consent. Before you sign loan agreement, make sure to ask creditor for any additional charges.
- Well, many lenders force borrower to take credit insurance as a part of loan procedure. If you fall into this trap, you can report to it State Insurance Commission.
Finally, make sure that your insurance company is legitimate. Taking credit insurance involves many ifs and buts, but the final decision is left to you. You must ask yourself two key questions- why do you want this protection? & what benefits will it give? Ask yourself and take decision wisely. You can share us your views or questions regarding this concept in the comments section below.