Loan repayment insurance, also known as payment protection insurance (PPI) or credit protection insurance, is an optional coverage designed to help borrowers stay current on loan payments during unexpected hardships. Typically offered by lenders at the time of loan approval—whether for mortgages, auto loans, or personal loans—this insurance kicks in when specific criteria outlined in the policy are met.
How Loan Repayment Insurance Works
When you opt for loan repayment insurance, you pay premiums either as a lump sum added to your loan principal (incurring interest charges) or as monthly fees. If a covered event such as involuntary job loss (like a layoff), a disabling illness or injury, or death occurs, you file a claim. Once approved, the insurer makes your loan payments for a set period (commonly 12 to 24 months) or pays off the remaining balance in cases of permanent disability or death. This helps prevent loan default, which can harm your credit score and jeopardize assets like your home or car.
Coverage Details and Exclusions
Commonly covered events include involuntary unemployment, disability, death, and sometimes critical illnesses such as cancer or heart attack. However, exclusions often apply to voluntary job loss, pre-existing conditions not disclosed upon purchase, self-inflicted injuries, normal retirement, and termination for cause. It is essential to carefully review your policy’s terms and limitations.
Who Should Consider Loan Repayment Insurance?
Borrowers without sufficient emergency savings (ideally 3-6 months of expenses), individuals in unstable employment sectors, those supporting dependents, or anyone seeking extra financial security during unforeseen income loss might find this insurance beneficial. However, alternatives like building an emergency fund, obtaining dedicated disability insurance, or having term life insurance may offer broader, more cost-effective protection.
Weighing the Pros and Cons
Pros: Provides peace of mind, helps protect credit scores, preserves assets by avoiding loan default, and keeps you financially afloat during tough times.
Cons: Can be costly with premiums sometimes added to your loan balance, limiting cost-effectiveness. Coverage is often narrowly defined with strict conditions and waiting periods. Lenders may promote it aggressively as a profitable add-on.
Important Considerations
Before purchasing, calculate total costs, scrutinize policy terms, explore alternatives such as disability insurance and a solid emergency fund, and remember that loan repayment insurance is always optional, never mandatory.
Common Misconceptions
This insurance is not a catch-all for all financial difficulties—it only covers specific situations. Lenders cannot require it to approve your loan, and it isn’t always the best financial decision depending on your personal circumstances.
For more details on protecting yourself from loan default, see our guide on loan default.
References
- Consumer Financial Protection Bureau, “What is credit insurance?” CFPB
- Investopedia, “Payment Protection Insurance (PPI)” Investopedia