What is Credit Insurance
Akin to other forms of insurance, credit insurance is generally taken by a
company in order to protect itself against certain types of
losses which could damage its performance. In Credit Insurance,
the supplier is safeguarded against the risk of the debtor becoming
insolvent or due to payment getting delayed or non-payment which
is protracted default. Besides, in case of export risks, the
unilateral cancellation of contract which is known as repudiation
as also multitude of political risks.
credit insurance constitutes an insurance policy related with a specific loan or a line of credit that pays back some or all of the amounts owed in case of eventuality of death, disability or unemployment. The costs known as a premium in case of credit insurance have to be paid monthly depending in the balance owed. Besides, depending on the usage of loan , it could be nearly double the cost. The sale of credit insurance is a little contentious since it has been observed that it becomes always cheaper in case of an individual not to have credit insurance, and instead take a term life insurance or disability insurance policy in order to cover the credit balance. The reason behind it is that, credit insurance is an assured matter, regardless of the fact that a person would be insurable or otherwise.
How does it work
Credit Insurance constitutes an important instrument intended for managing a companys accounts receivable. credit insurance protects businesses from bad debt in case of clients defaulting payment. It permits one to extend open credit terms to new accounts without taxing the credit risk department. Availing the benefits of export credit and political risk insurance can help businesses trade in a more effective manner across the globe. Besides, credit insurance might also provide credit enhancement by helping one in getting better financing terms.
Benefits of Credit Insurance:
Commercial credit insurance can prove to be an important instrument for managing
ones trade receivables. In current dynamic business scenario,
companies remain under continuous threat from the loss affected
because of the insolvency of a vital customer. By taking recourse
to the best credit management, payment cannot be always be guaranteed.
It is only through insurance of accounts that the payments are
covered. By taking a credit insurance policy one can:
(i) Safeguard the accounts receivable arising from loss because of insolvency or non-payment
(ii) Lower the reserves by creating a safety-net against write-offs of bad-debt which could affect bottom-line earnings and equity.
(iii) Improve the receivables to make lending-insured collateral a crucial aspect for banks
(iv) Augment credit management with third party evaluations of ones customers credit risk and monitoring the markets of the nation and industries in which one is trading.
While putting in money to buy a credit insurance policy, the factors to be considered are: (i) type of policies (ii) policy structures (iii) additional policy features
Types of Credit Insurance:
Broadly credit insurance policies come under two categories. They are
(i) Domestic and (ii) Export. Domestic policies : Domestic policies
cover the entire receivables portfolio or only the largest customers.
Users make insurance against catastrophic loss because of bankruptcies
or prolonged default of covered buyers. Coverage for insolvencies
normally include (i) Bankruptcies (ii) Non-payment (iii) Bulk
transfer of assets (iv) Receivership (v) Unsatisfied judgments
(vi) Bank assignments and (vii) Liquidations. Besides comprehensive
credit insurance programs are there that enable one to cover
the whole accounts receivable portfolio. Export Programs: In
global trade, businesses might encounter more threats to the
accounts receivable programs. Export credit insurance programs
are sometimes offered with political risk which cover apart
from insolvency, protection from default of a longer duration.
The various political risks that are covered include (i) Contracted
frustration (ii) Embargo (iii) Inconvertibility of currency
(iv) Insurgency or war (v) Natural disasters. Hence taking up
an export insurance policy can be of help to not only a business,
but also its clients to save precious time and money by eliminating
the necessity for letters of credit.
Customized Credit Insurance Policies:
In order to cope up with the ever changing requirements of the present business world, insurance companies have devised specialized credit insurance policies. These are (i) Commercial : Commercial credit insurance policies are aimed at the domestic market only, or a mixture of domestic and export, this category of policy covers loss related with insolvency and prolonged default.
International: This has been created mainly in order to cover exports even though it is able to include domestic accounts also, this policy includes loss connected with bankruptcy and extended default
Multinational: Under multinational credit insurance policy, it is customized to cover subsidiaries across the world which matches terms and conditions in any location. Besides, language and currency choices are also there.
What to look for during buying Credit Insurance:
Prior to taking a decision to buy credit insurance from a lender, one must consider about the needs, options and the rates one should be paying. Before taking a credit insurance, one must ascertain a lot of things: (i) How much is going to be the premium (ii) Is the premium going to be financed by loan If the answer is yes, will it increase the loan amount and interest is required to be paid and more for points. (iii) Can it be paid monthly in place of financing the whole premium as part of the loan. (iv) How much lower the monthly loan payment will be in the absence of credit insurance (v) Is the insurance going to cover the complete tenure prior to the coverage becoming effective. (vi) In case there is also a co-borrower what is the coverage which he/she has and at what cost. (vii) Is the insurance cancelable at the behest of the policy holder. If so what is the kind of refund is available.
Prior to putting ones signature on the loan papers, the lender has to be
enquired whether the loan includes any charges in case of voluntary
credit insurance. In case credit insurance is not needed by
you, the lender can be intimated about the same.
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