If you have a credit card or some other type of loan, chances are you’ve been offered access to a service that would suspend your payments if you experienced an unexpected loss of income such as a job loss. While such products can protect your credit rating and provide relief in an emergency, it’s important to make sure you know exactly what you’re getting – and how much it will ultimately cost you.
In cases of financial hardship, “these products can protect you from having to service debt during that period,” says Kevin McKechnie, executive director of the American Bankers Insurance Association. While the types of events covered vary depending on the service, a consumer might get a temporary reprieve from paying a monthly credit card bill or loan payment in cases like unemployment, disability, military deployment or divorce.
Consumers may be offered either a debt protection service or a credit insurance product in conjunction with a loan or a credit card, although credit card issuers increasingly are steering their customers toward debt protection services.
Debt protection services, the more popular of the two, are offered to consumers directly from banks. Credit insurance is offered to consumers through a third-party insurance company. Federal banking regulators oversee debt protection products, while state insurance regulators oversee credit insurance products.
According to the National Association of Insurance Commissioners, there are four types of credit insurance:
• Credit life insurance -- Pays off all or some of your loan if you die during the coverage period.
• Credit disability insurance -- Makes a limited number of monthly payments on a loan if you become ill or injured and can't work during the coverage period.
• Credit involuntary unemployment insurance -- Makes a certain number of monthly loan payments if you lose your job because of a layoff or another circumstance that's not your fault.
• Credit property insurance -- Protects personal property used to secure a loan if the property is destroyed by events like theft, accidents or natural disasters during the coverage period.
Consider the costs
While the benefits for a family facing economic struggles can be vast, the costs of debt protection services and credit insurance can be steep. According to a report issued in March 2011 by the U.S. Government Accountability Office (GAO), “fees for these products can be substantial, with the annual cost often exceeding 10 percent of the cardholder’s average monthly balance,” the report says.
Consumers typically pay a monthly fee based on the outstanding balance, so the more you owe, the more you pay. For debt protection services, fees range from 80 cents to $1.35 a month for every $100 owed, the GAO report found. So if you owed $2,000, you might pay up to $27 a month for the service. Credit insurance premiums averaged slightly less at 65 cents to 75 cents for every $100 owed, although the report points out that debt protection products tend to cover more scenarios than credit insurance does.
“The major criticism of (the GAO report) was that the products cost money, but everything costs money,” McKechnie says.
Debt protection service providers point out that peace of mind can be worth the cost for some. Plus, the products are not mandatory.
For instance, “Chase Payment Protector" is an optional product available for purchase by Chase cardholders, according to Gail Hurdis, a spokeswoman for Chase Card Services. Qualifying events that would suspend payments include job loss, hospitalization, business hardship, and life occurrences such as divorce, marriage and adoption. The amount of time payments would be suspended varies by incident. For example, Chase cardholders who pay for the service would be eligible for up to two years of suspended payments for a job loss and up to four months for a divorce.
Another benefit of the services is that consumers aren’t locked into the product, so they can cancel at any time, McKechnie says. “You’re paying on a monthly basis for the benefit in that month," he says. "To the extent that you no longer feel you need it or you changed your mind about the value proposition, you can turn it off.”
Get the facts
If you’re thinking about signing up for a debt protection or credit insurance product, it’s important to know what you’re getting, says Dorothy Barrick, group manager and financial counselor for GreenPath Debt Solutions, a nonprofit debt counseling organization.
One GreenPath client was relieved that she had been paying a $40 monthly credit insurance premium when she was severely injured in a car accident. Thinking her payments would be stopped automatically, “it was not as easy as she had hoped for,” Barrick says. The woman was required to visit her doctor and complete pages and pages of paperwork, a task that she had to repeat each time a payment was due.
The client, who had paid $1,200 in insurance premiums for $270 in payouts, later wondered whether it all was worth it, Barrick says.
Another potential wrinkle: Many consumers think credit insurance or debt protection services will wipe away their debts, when in reality they simply cover minimum payments for a given period of time.
Furthermore, some consumers may find that they already have the benefits that credit insurance product offers, says Bruce McClary, a spokesman for ClearPoint Credit Counseling Solutions, a nonprofit debt management organization. “For example, credit life insurance may offer to pay off the balance if you die during the term of the loan. You may have a clause in your existing life insurance policy that does the same thing for all of your debt, up to a certain limit,” McClary says.
An alternative to credit insurance or debt protection is depositing the money you'd pay for those services into an emergency fund. “The best advantage of the emergency cash reserve is that there's no claim to file or any fine print,” McClary says. “If you have an emergency, the money is there.”
Credit insurance and debt protection tips
If you’re sold on credit insurance or debt protection, take heed of the following tips:
• Call the bank or the insurance company and ask it to define the service it's providing.
• Ask what steps you would have to take to make a claim and what proof you would need to show that your financial circumstances have changed.
• Find out how long payments would be suspended and whether interest would be added to the balance in the interim.
• Consider whether the minimum monthly payment is enough to make the service worth it. “The bigger the payment, the better sense this might make,” Barrick says.
“You have to look at the price versus the benefit,” McKechnie says. “Every consumer should be aware of what they’re buying and why they’re buying it.”