Stuff Happens. Be There For Your Borrowers.
Life changes can come unexpectedly. And cash flow may change dramatically. When loan payments are due, what happens when the money’s not there? As the financial institution looking out for your borrowers, this is the scenario you’re trying to avoid.
Such events can easily lead to delinquencies or write-offs. That’s no good for anyone.
One answer is to offer a payment protection plan to your borrowers, reducing risk for all parties. These plans generally come in two forms:
Both forms settle claims directly with the lender. On a typical claim, your institution is made whole, while relieving your borrower of the loan payments.
Despite the same end-result, Credit Insurance and Debt Cancellation get there in unique ways. Let’s look at each to help you decide which makes the most sense for your institution and borrowers.
Credit Insurance vs. Debt Cancellation
Historically, financial institutions offer this type of protection to borrowers. The most popular forms are credit life (CL), credit disability (CD) and less frequently, involuntary unemployment (IU).
Credit Life Insurance
Credit life insurance was first offered around 1900. It began with 14 policies totaling $7573. As of 2017, there were 14 million policies with $77,787,000 in force.
What is it? Credit life is a type of decreasing term insurance offered as single or joint (spouse) coverage. It is directly tied to the outstanding loan balance. Premium payments cover the possible need to pay off the remainder of the loan upon death of the borrower (or spouse, if joint coverage).
The prior policy assists in case of death, but what if the borrower is simply unable to work or carry on a normal life? Sure, your borrower may have some form of health insurance to cover medical costs, but it may not pay off existing loans.
For these situations, you may offer credit disability. It pays monthly loan installments in the event of disability. Important note: Credit disability generally has a waiting period. Additionally, it applies only to the borrower for a specified term, rather than paying down the entire outstanding debt.
This is less common in institutions, more so for revolving credit card debt. It helps when a borrower is laid-off through no fault of their own. The benefits are paid in alignment with monthly loan installments, up to a stated maximum number of payments.
All forms of credit insurance are regulated insurance products. Depending on your state, there may be specific licensing requirements.
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The previous products fall under the Credit Insurance umbrella. Debt Cancellation is a newer option. What sets it apart is how the relationship works. With credit insurance, the contract is between the insured and their insurance company (your provider).
Debt Cancellation is a contractual agreement between the lender and the borrower. There are two primary state and Federally-regulated options:
- Debt Cancellation Contracts (DCCs)
- Debt Suspension Agreements (DSAs)
Neither require licensing to offer.
Additional Life Events
In both cases, the lender (that’s you) promises to cancel all or part of a borrower’s debt if they encounter eligible life events. Typically, these are the same situations as credit insurance, with a few more including military service, marriage, or divorce.
As you may notice, debt cancellation offers more flexibility than credit insurance. Depending on the plan, it can also extend protection to other members of the borrower’s household. From your institution’s perspective, depending on the state, you may be permitted to set your own pricing.
Lender Assumes Risk of Loss
If your institution promises to cancel debt, the next thought you have is correct. Yes, you, the lender, will be assuming associated risks of loss. Not to worry! There’s a magic shield to reduce your exposure!
Ok, it’s not magic. Institutions typically purchase a Contractual Liability Insurance Policy (CLIP). It’s a form of commercial insurance that can reimburse the institution for any paid claims. If that sounds familiar, it should. A CLIP is used for GAP.
Understanding Risk Management Options
Now you’ve got a better understanding of your risk management options, let’s look at how Payment Protection (regardless of the product you choose) benefits your institution and borrowers. If you want a deeper dive into each option, you can find the specifics in product-focused articles.
How Does Payment Protection Benefit the Lender?
Payment protection can benefit your institution in a number of ways. Here are some of the benefits you as a lender obtain:
- Non-interest (and sometimes interest) income from selling the coverage.
- Improved trust and goodwill.
- Reduction of delinquencies, foreclosures, and write-offs.
- Reduces the loan portfolio risk.
How Does Payment Protection Benefit the Borrower?
As you know, payment protection is an optional purchase. That means adding it to a loan will 1) raise the monthly payment or 2) extend the term. This makes it essential to educate your borrowers through a well-trained staff. Here are some of the perks they can share:
- Reduced financial (and emotional) stress. If something bad happens, they have enough to worry about. This coverage removes one financial challenge from the picture.
- Peace of mind knowing they reduced their risk of delinquency and possible foreclosure.
- Savings. Payment protection from your institution may cost less than if purchased elsewhere.
- Affordable, as costs are included in their monthly loan payment.
Which Borrowers Need Payment Protection?
Payment protection offers peace of mind to people in all life situations. Thus, we suggest introducing it to all your borrowers.
It is especially important for “family breadwinners” who do not carry life insurance. For those who do, encourage a closer look. Recent studies found large percentages of people (especially Millennials) have substantial knowledge gaps, leading to potential for no coverage or underinsurance.
Life insurance owners are more likely to understand basic product concepts, such as the relationship between a person’s health status and the cost of coverage.Source: 2019 Insurance Barometer – LIMRA
Borrowers who lack other assets to cover debt incurred after a crisis have a pressing need for payment protection. It’s about helping your borrowers!
Payment Protection and Community Institutions
Risk exists. Consider payment protection as part of your toolkit to manage that risk for your institution and borrowers. As a community institution, you look at everything offered from the perspective of, “how does this help our people?” Put simply, payment protection steps in when bad things happen.
And, yes, you’re also helping to generate non-interest income, providing the resources to further serve your membership or customer base.
Payment protection is a wide category of products with differing markets, benefits, and fits. To address this knowledge gap, we’ll share articles and videos answering our traditional 5 questions:
- What is it? (That’s this one!)
- Also: Credit Insurance: Benefits/Advantages (Coming soon!)
- Who offers it?
- How much does it cost?
- What’s involved in having it?
Armed with this information, you can make the best decision for your institution and borrowers!
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