What Is Credit Insurance?
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Credit insurance is an insurance policy offered by lenders or creditors that covers your loan or credit card payments if you cannot pay due to unemployment, illness, disability or death.
Though it sounds like life or disability insurance, there is a crucial difference: credit insurance does not pay you or your family. Instead, credit insurance directly pays the lender, ensuring the loan avoids default and protecting your credit score.
Do I need credit insurance?
Generally, most borrowers don’t need credit insurance if they have other life or health insurance policies in place.
Lenders may offer you the option to buy credit insurance when applying for an auto loan, an unsecured personal loan or a credit card. A lender cannot require you to purchase credit insurance.
Also called “payment protection insurance,” borrowers can often opt for credit insurance on loans at banks and credit unions. Debt cancellation or suspension plans work similarly; all these products ensure the lender receives payments if you can’t make them.
NerdWallet does not recommend taking credit insurance if you already have a traditional life or health insurance policy that will cover your obligations when something goes wrong. Research by the Center for Economic Justice has shown that credit insurance premiums are typically more expensive than traditional insurance, and payouts are smaller when claims are filed.
Types of credit insurance
There are three major types of credit insurance coverage:
Credit life: Makes the remaining loan payments to the lender in the event of your death.
Credit involuntary unemployment: Makes a limited number of monthly payments to the lender if you lose your job through no fault of your own. Policies typically require you to be unemployed for a set amount of time before payments start.
Credit disability (also known as credit accident and health insurance): Makes a limited number of monthly payments to the lender if you become disabled or ill.
A lender may bundle different types of credit insurance into a single offering.
How much does credit insurance cost?
The cost of credit insurance is based on the type of loan, the type of insurance, the loan amount and the state you live in. The price is influenced to a large degree by the commission that insurers pay lenders, making credit insurance premiums typically more expensive than regular insurance premiums.
For example, the state of Wisconsin estimates credit life insurance on a loan for a 40-year-old borrower can have an approximate annual cost of $370. In contrast, a term life insurance policy with coverage of $50,000 would only cost $92 annually.
If you choose to get credit insurance, your monthly loan payment will increase because you will pay interest on your loan amount and the added insurance premium. The premium is added to the monthly statement for revolving loans like credit cards and varies according to your balance.
Is credit insurance right for me?
We do not recommend credit insurance if you already have life or disability insurance coverage. Traditional coverage is cheaper and will pay your family, not the lender, if anything happens.
Instead, use the money you would have paid for credit insurance to build an emergency fund. Even a little money saved can enable you to make payments during a gap in employment or if you face an unexpected shortfall.
If you are considering it, here are a few things to remember about taking credit insurance:
It’s optional. Lenders cannot force you to purchase credit insurance to get a loan, but they may require you to insure your car or assets as collateral. If denied a loan for not signing up for credit insurance, you can file complaints with the Consumer Financial Protection Bureau, Federal Trade Commission, or your state attorney general.
It’s not included in the cost of your loan. Lenders will disclose the cost of insurance separately from the annual percentage rate. (Military members will see the cost included in the loan APR.) Insurance premiums could dramatically increase the APR.
It could make your loan unaffordable. Lenders often market credit insurance to consumers who have low credit scores. Unscrupulous lenders may aggressively target bad-credit consumers to increase the loan cost.
8 questions to ask before getting credit insurance
The Federal Trade Commission suggests you ask these questions before choosing to buy credit insurance:
How much is the premium?
Will the premium be financed as part of the loan?
Can you pay monthly instead of financing the entire premium as part of your loan?
How much lower would your monthly loan payment be without credit insurance?
Will the insurance cover the entire length of your loan and the full loan amount?
What exactly is covered? What exactly is not covered?
Is there a waiting period before the coverage becomes effective?
Can you cancel the insurance? Can you get a refund?
