Financing an insurance premium: A dumb move?

Lori Johnston

Many Americans take out loans to buy a home or car. But some folks even go so far as to take out loans to pay insurance premiums for that home or car. Some consumer advocates warn against doing this, though, because of the interest and fees that pile up on top of your insurance premium.

Premiums for personal auto, life, home and health insurance (as well as any business insurance) can be financed, which can make insurance more affordable at the outset. However, that affordability soon can evaporate as you start paying off your financed premium.

‘Just know what you’re doing’

A premium finance company pays a portion of the premium on the behalf of the policyholder. The policyholder must make a down payment and repay the loan with interest, typically paying four to 10 installments throughout the year.

“If you use a premium finance company to pay for your insurance, the monthly payments may be easier, but the total of payments will be larger,” says Pat McConahay, a spokeswoman for the California Department of Insurance.

Financing an insurance premium could put a squeeze on your wallet.

The minute you finance your insurance premium, there’s an additional cost, says Tom Gallagher, president and CEO of the Better Business Bureau of Central Virginia. “It will change the cost dramatically. Just know what you’re doing,” he says.

There are two options for financing an insurance premium:

• Use a licensed premium financing company.

• Work with an insurance carrier to pay a premium in installments, with a small service charge typically ranging from a couple of dollars to less than $10 a month.

Because of the extra costs, some consumer advocacy organizations advise against financing an insurance premium.

“Like anything else, when you’re borrowing money, you will need to be careful,” says Robert Hunter, director of insurance for the Consumer Federation of America. “You’re much better off paying it upfront.”

Laws put restrictions on financing

Some people finance an insurance premium out of financial necessity; others do so because it’s convenient to roll the cost of insurance into a purchase, such as a car.

Some consumers who choose this route don’t realize how much they’re paying in interest, says Alexis Lambert, a spokeswoman for the Florida Department of Financial Services.

States allow the practice, but most require licensing of premium finance companies. Before signing a separate contract to finance premiums, it’s recommended that consumers contact their state’s department of insurance to check out the premium finance company being used.

State insurance departments are watching out for the consumers, so they regulate premium finance companies heavily, says Travis Finn, owner of Finco, an insurance premium finance company in Greensboro, N.C. Laws in many states put limits on interest rates, late fees and setup fees. Insurance regulators “don’t like excessive charges,” Finn says.

The nitty-gritty

Here is what happens when a consumer finances an insurance premium: A down payment is made to a lender, which pays the insurance company the balance of the premium. The contract is not between the consumer and the insurance company but between the consumer (as a borrower) and the third-party lender. The consumer must repay the lender in installments for the amount of the loan, the interest and approved fees, such as late fees and setup fees.

Be sure to review your financing arrangement before you sign on the dotted line, experts say, so you can keep an eye on the interest and related charges. “That’s just being a smart consumer,” McConahay says.

The interest rate varies by state. A typical cap is 12 percent (or an annual rate up to $12 per $100). Some states also designate a maximum setup (origination) fee of, say, $15. But that fee can be included in the interest rate, making your insurance coverage even more expensive.

For example, on a $1,000 homeowner’s policy with a $200 down payment, the annual finance charge for financing an insurance premium would be $63.50 if the consumer agrees to 10 installments. That’s based on a 12 percent interest rate, plus a $15 setup fee.

“You’re paying for the premium over an extended period of time, and you’re paying interest on it. You’re paying a lot more money. You would be much better off paying it 100 percent,” Gallagher says. “The convenience factor of being able to roll it into your payment is wonderful, but (the premium is) not for the length of the loan.”

Competition among premium finance companies means consumers could be offered an interest rate below the state maximum or a different number of installments.

The Consumer Federation of America’s Hunter says consumers need to know the interest rate, the amount they are borrowing and the number of installments before financing an insurance premium.

Recognizing policy essentials

Any insurance premium financing agreement should contain this information:

• The name of the bank or premium finance company lending the money.

• The policyholder’s (borrower’s) name, address and phone number.

• The loan number.

• A list of the insurance policies assigned to the loan agreement. (In some cases, more than one insurance premium can be financed in an agreement.)

The policy’s disclosure statement also should note:

• The amount financed.

• The dollar amount of finance charges.

• The annual percentage rate.

• The total number of payments.

• The amount of late payment charges.

• The amount of each monthly payment.

Beware of potential problems

If the consumer fails to repay the premium finance company as promised and defaults under the agreement, the lender can exercise power of attorney to cancel the insurance coverage, says Brian Appelt, executive director of the National Premium Finance Association.

Lambert, the Florida spokeswoman, says consumers often lodge complaints after canceling insurance coverage that was financed. If you’re owed any money in this scenario, the insurance company will issue a premium refund. The refund goes directly to the premium finance company, which will apply that amount to the total due, then send the remainder to you. Consumers frequently report delays in receiving refund checks.