Loan Insurance: Know its Meaning, Types, and Benefits

Things have changed drastically since the pandemic. Many people lost their high-paying jobs during this period, and even successful entrepreneurs suffered significant losses. This unforeseen  scenario further contributed to increasing loan defaults and missed EMIs. It was under these conditions that people realised the value of loan insurance. The loan insurance policy helps borrowers to keep their credit scores intact regardless of their financial situation. Continue reading if you want to learn more about loan insurance policy.
 

What is loan insurance?

Loan insurance is a type of financial product that assists with loan repayment in the event of an unforeseen occurrence such as job loss, partial or permanent disability, or  sudden death. In such cases, a loan insurance helps you in avoiding loan default and protects your family from the burden of loan repayment. The concept of loan insurance is identical to that of life insurance. The latter protects your family by paying a lump sum in the event of death or disability, whereas the former pays monthly EMIs on your behalf in similar circumstances, up to a certain period.
 
This type of insurance is available in the market for various loan products. You can purchase it to cover personal loans, home loans, car loans, credit card bills, and mortgage loans, among other things. The premium for your policy is determined by the coverage you select, the loan amount, your occupation, age, and medical condition.

Different types of loan insurance

You will find two types of personal loan insurance in India, as described below.

• Reducing cover insurance

In this type of policy, the premium amount is linked to the loan amount. As time passes, the total outstanding debt balance decreases, as does the policy premium. When compared to level insurance, reducing cover is less expensive.
 

• Level insurance

Level insurance premium does not change as the outstanding balance decreases. The premium remains constant throughout the policy's term.
 

What factors influence the premium of your loan insurance?

Premiums for loan insurance, like any other insurance, are determined by multiple factors. Simply put, anything that increases the likelihood of a claim filing and adds to the insurer's liability affects the policy cost. These factors are –

• Loan amount

From the insurer's perspective, the higher the loan amount, the greater the risk of default. Managing large EMIs is not always possible in times of financial turmoil or monetary crisis. Hence, insurers charge high premiums to mitigate their risk.
 

• Repayment tenure

Choosing a longer repayment term will undoubtedly lower your EMI, but there is a drawback when it comes to loan insurance. As job and health uncertainty increases over time, insurers raise premiums to cover their liability for potential claims.
 

• Age

People tend to lose their earning potential as they get older. This is especially true once you reach the age of 50 years. However, once you reach 60 years, you retire from your job. Even if you receive a pension in this situation, managing your debt may become impossible at some point. Hence, the premium for older people is slightly higher than for young ones.
 

• Health condition

Your repayment potential is directly related to your health. If a person has multiple diseases, including chronic or life-threatening ones, the chances of losing their potential earning are high. As a result, the premium for a healthy person will be much lower than for someone suffering from a critical illness.
 

Things to consider before purchasing insurance for a personal loan

Buying loan insurance while ignoring various critical parameters is a big NO. You must evaluate the following things to make an informed decision.
 

• Total insurance cost

When purchasing loan insurance, consider the total cost rather than the monthly premium. The monthly premium may appear very small initially, but it leaves a significant dent in your wallet when you add up the total cost over the loan term.
 

• Policy wordings

Pay close attention to the policy wordings available on the insurer's website. It includes detailed information on what is and is not covered. If you are suffering from an illness that is not covered by the policy, purchasing insurance on a loan amount with that insurer is a complete waste of money. Policy wordings further aid in the comparison of various insurers. 
 

• Claim settlement process

Check if the insurer allows you to file a claim online. Review the list of documents needed for the claim settlement process. Even though loan insurance is new in India, you should still look at the claim settlement ratio to make an informed decision.
 

• Payment method

Some insurers require you to pay the entire premium upfront, while others charge you monthly. Some policies add the insurance premium to your EMI and require you to pay the principal outstanding, interest amount, and insurance cost in the EMI over time. It is important to  know the details of your premium payment method before buying insurance.

Benefits of Loan Insurance

Having a loan insurance cover can offer several advantages. Some of the most notable advantages are–

• In case of an unfortunate event, such as job loss or disability, the policy will pay the remaining EMIs, depending on the policy coverage.

• In the event of the policyholder's sudden demise, the loan protection policy relieves family members of the burden that they would have faced if they were required to pay the EMI immediately.

• You will find various loan protection policies in the market that offer tax benefits under section 80C of the Income Tax Act.  

• Various loan insurance policies include a money-back feature. It means that if you do not file a claim during the policy period, the insurer will provide you with a certain amount of money as cashback offer.

Also Read: What are the Consequences of Defaulting on a Personal Loan?
 

To conclude

Because of the uncertainties of life and livelihood in current times, loan insurance has become a very crucial financial tool. This policy pays your loan EMIs for a certain period, thus reducing your financial burden during tough times. If you have borrowed a large sum of amount as loan, you must consider purchasing insurance coverage for it. This is especially true for a mortgage loan where your property is at risk or a personal loan that has a high monthly EMI.