Loan and credit insurance, otherwise known as “loan protection insurance” or “debt insurance” can be used to pay off the balance of a loan in the event of a sudden illness, accident, disability, or death. So, if you should pass away or become unable to work due to one of these circumstances, your insurance provider will help cover what you owe to your lenders or creditors.
However, it’s important to know that loan protection insurance varies from loan to loan, meaning you need to open a separate insurance policy for each loan that you have. The terms of a mortgage loan insurance policy will be different from the one you’d receive for say, credit card balance insurance. So, before applying for whatever loan insurance you might need, it’s important to understand your options.
What Is Loan Protection Insurance?
Loan protection insurance provides coverage for some or all of your loan payments if you’re unable to continue paying due to a covered illness, injury, disability, or in the event of death.
Your premiums will be added to your loan amount when you add loan insurance. Every time you make a loan payment, part of the amount goes toward your premium to keep you protected in case an unexpected event happens.
How Does Loan Protection Insurance Work?
Depending on the lender you work with the loan protection policy will vary. The contract will state how long you must have the insurance before they will make said payments. It will also detail how long the agency will pay on your behalf. So it’s important to review the contract and understand how it works before you sign.
There are two main options for payment. The first is to pay the premium in full when you take out the loan. Alternatively, you can make recurring payments at the same time you make your loan payments
Types Of Coverage
Because life throws different circumstances your way, there are different types of loan insurance. The categories include:
- Life Insurance – The type that kicks in in the event of a loan holder’s death.
- Critical Illness – The type that takes effect when the loan holder takes ill and offers a tax-free chunk of money following diagnosis — provided it’s a covered ailment.
- Disability Insurance – This type of insurance is for when the loan holder is no longer able to work due to disability and provides regular income to cover payments.
Payment When Claimed
If you are unable to pay the loan balance due to an eligible reason, you will be paid out in one of the two ways:
- Lump-Sum Coverage – If you suffer a critical illness or pass away at any point throughout your loan term, your loan balance can be entirely covered with loan insurance. The amount you’re covered will be outlined in your Certificate of Insurance — with a lump sum payment from your insurer.
- Monthly Payment Coverage – If your income is significantly reduced as a result of a disability, labour strike, or involuntary job loss, your policy will cover your monthly payments toward repaying your insured debt for a specific time period.
The industry standard for the policy to be in effect is no less than 60 days prior to signing the contract. Basically, you need to wait two months before the insurance becomes active. This is standard for many loan protection insurance policies since it prevents consumers from taking advantage of the system.
Duration Of Coverage
To stay profitable, insurance companies need to put a cap on the coverage duration. It would get pretty expensive to pay a client’s mortgage endlessly. As such, any standard insurance contract will last for no longer than 24 months. In essence, you cap out at two years of insurance payouts.
Types Of Loan Protection Insurance
There are a few different kinds of loan insurance to consider, including the following:
Credit Card Balance Insurance
When you’re approved for a new credit card, the company you’ve signed up with will offer you credit card balance insurance. If you should lose your job, fall ill, or have any other type of injury that prevents you from working, this type of insurance will usually cover all or a percentage of your monthly balance on your credit card bill for 10-24 months.
If you should become physically disabled or pass away, the insurance will then cover the entirety of your outstanding balance or up to a specified amount. Talk to your credit card company to see if you qualify for credit card balance insurance.
Critical illness insurance will help cover the remainder of your loan and credit payments in the event that you are stricken with a serious illness that prevents you from working. The full list of illnesses will be specified within the terms of your insurance policy.
However, there are several specific illnesses that are typically not covered if you have them before you qualify for this type of insurance.
Disability insurance, on the other hand, will not necessarily cover the entire cost of your loan and credit bills. Instead, the minimum balance of each payment will be taken care of in the event of a sudden sickness or accident that physically disables you and makes you unable to earn an income.
This policy will also only last a certain length of time, and once the coverage period has ended or you recover fully from the disability, you will again be responsible for the remaining balance on your loan or credit line. As it would be with other forms of insurance, your ability to qualify will vary depending on the terms set by the insurance provider.
Life Insurance (For Loans and Credit)
Not to be mistaken with typical life insurance, in the event of an insured borrower’s death, the insurance provider will use part of, or the total value of the “death benefit” towards paying the remaining balance of their loan or credit product. The premium you would pay to your insurance provider will fluctuate in accordance with the type of loan that needs to be paid. However, the amount that would be taken from the death benefit will decrease as you continue to make payments and reduce what remains of your loan debt.
Because of this, it’s very important to note here that your family or beneficiaries will not receive the full death benefit if your loan has not been paid by the time of your death. So, if you want to leave a separate amount aside for your loved ones in the unfortunate event of your passing, you’ll need to purchase a separate life insurance policy to go with it.
Mortgage Loan Insurance
When potential homebuyers can’t afford to make a down payment of more than 20% of the initial asking price of a house, which is common, lenders will require them to qualify for and then purchase Mortgage Default Insurance.
In Canada, the minimum down payment on a house costing $500,000 or less is 5%. The insurance costs will help cover any payments that are defaulted by the borrower, protecting the investment made by the lender and allowing them to offer the client lower interest rates.
In Canada, there are three companies that provide mortgage default insurance: CMHC (Canada Mortgage and Housing Corporation), Genworth Financial Canada, and Canada Guaranty. Depending on the size of the down payment, the mortgage default insurance you have to pay will vary.
Mortgage Default Insurance Rates
|Down Payment Size||Premium Charged|
|5%||4.00%(for a traditional down payment)|
Watch Out For Loan Protection Insurance Scams
When you’re thinking about applying for a loan and getting insurance with it. You need to be able to distinguish between an official policy and the fake ones dealt out by scam artists posing as lenders.
Many fake lenders will claim that loan insurance is mandatory in order for you to get the loan. However, loan insurance is not mandatory and no legitimate lender will ever ask for a payment upfront. In fact, asking for any kind of insurance or security deposit before a borrower receives their loan is illegal.
This is such a pervasive issue, in fact, that a recent
ACORN study found that as many as 12% of participants were deceived regarding loan insurance. By not being informed about optional products until the money was taken from their account, they were effectively duped into getting the insurance. A similar research project by Loans Canada indicated that 28% of respondents were debited loan insurance fees without having given their explicit consent either.
Know Your Rights
First and foremost, understand that this type of insurance is in no way mandatory. It is entirely optional. To gain loan approval or activate a credit card, you do not need loan insurance. In fact, there are consumer protection laws that are designed to prevent loan holders from getting taken advantage of.
Financial institutions which are federally regulated are legally barred from a practice called coercive tied selling. Prohibited in Canada, this is when a bank or other financial company pressures you into getting insurance through an affiliate partner. Calling it a requirement for getting loan approval.
In order to sign up for loan insurance, you must offer explicit consent. That means that you must agree to enroll in loan or credit insurance prior to being charged for the product. You must be informed of the terms of the agreement, including the waiting period and the cost. Provided you agree, then you can get the insurance benefits.
Should You Get Loan Protection Insurance?
Loan insurance is optional, so why should you consider paying a little extra for it? Here are a couple of reasons:
Job loss is among the leading causes of insolvency. With loan insurance, you can protect your financial future in the event that you can’t keep up with your loan payments due to involuntary unemployment.
Credit Score Protection
Loan insurance can also protect your credit score, in a roundabout way. If you find yourself going through a difficult financial situation. With loan insurance, you won’t miss any payments. As such, your credit score won’t be negatively affected by a missed payment.
Provides Peace of Mind
Whether you lose your job due to layoffs, a disability or some illness, you won’t have to worry about keeping up with your debt payments.
Drawbacks Of Loans Insurance
Nothing in life is without its risks; and, ironically, insurance is no exception. The name of the game is managing that risk so that you maximize the benefits while minimizing the likelihood of drawbacks. Potential issues with loan insurance include:
You’re already paying the regular loan payments. Insurance is an added cost. Whether you pay it all upfront or each month, it means there is more money leaving your account. Yes, it adds a level of security, but only if your situation matches the fine print.
Underwriters are industry experts in making insurance companies profitable. The text is structured to minimize the chances of you being able to make a claim. Consider disability insurance. The disability must be approved by the insurance agreement in order to be covered. And, if you instead chose critical illness insurance, and your issue has been deemed a disability or you’ve violated your coverage terms, you may not see a payout at all. Because these caveats are included in the underwriting, you have no recourse.
How To File A Loan Insurance Claim?
Follow these steps to file an insurance claim:
Step 1: Call Your Insurer
Your first step is to get in touch with your insurance provider right away to inform them of your situation. The name of your provider should be listed in your Certificate of Insurance.
Step 2: Fill Out A Claim Form
You will be required to complete specific claims forms. Be sure to include as much information as possible. This will help the insurer make an accurate decision about how much you’re eligible for. Depending on your situation, you may also be required to undergo a medical exam.
Step 3: Submit Your Claim Form
Be mindful of when you complete and submit your claims form and the date of your injury, diagnosis, or disability. Most insurance policies require that claims be made within a specific timeframe. This can range anywhere from 90 days to up to a year.
Step 4: Get Paid
If your claim is approved, the insurance provider will pay out your benefit. Keep in mind, however, that you will not receive the funds yourself.
Instead, the insurance benefit will be paid to your creditor or lender to pay down your debt. For instance, if you still have an outstanding credit card balance, the benefit will be paid to your credit card provider to pay off your balance.
Things To Review Before Agreeing To Loan Protection Insurance
Before you sign up for loan protection insurance on a credit card or loan. Be sure to review the details written in the certificate of insurance. There you’ll be able to find information regarding:
- The cost
- The coverage
- What is the requirement to make a claim
- The limitations and restrictions (i.e, what is not covered and are there any circumstances that can deny you coverage)
Not all types of insurance are absolute requirements. But it can be very beneficial to both you and your loved ones to consider them. While you’re in good physical, mental and financial health, it can seem like loan insurance is not a necessary thing. However, paying a premium for any kind of insurance is the same principle as having a rainy-day fund set up.