Definition of Credit Insurance
Credit insurance is a kind of insurance product that provides protection to the borrowers being businesses and the businessmen against the business risks that may impact the business finances and cause losses to the business due to non-repayment of outstanding debt obligations in certain uncontrollable events.The insurance provides coverage to policyholders by paying off their debts or indemnifying for the losses in case of death, disability, and even in the loss of employment.
As financial protection is the topmost important thing for any business, many businessmen gets their businesses insured with credit insurance which makes the insurance company obligated to pay the debts on their behalf in case of certain unforeseen incidents such as death, disability, or loss of employment occurs. The insurance coverage also includes indemnification against the losses that occurred due to the non-receipt of payments from the clients on account of the sale of goods or services by the policyholder.
The protection provided by the insurance company has multifold benefits for businesses since such insurance coverage help businesses to enhance their business performance by providing financial aid in certain cases. The benefits are not just limited here as credit insurance is also useful for the export houses as it provides insurance coverage on the losses that export houses might encounter during the process of export of goods or services.
Purpose of Credit Insurance
Credit insurance serves a number of purposes for businesses and the main ones are enumerated below:
- Protection Against Financial Losses: It protects businesses from the financial losses which could happen in almost any business irrespective of their scale of operation, due to several reasons which are usually beyond the control of businesses such as death, disability, and so on.
- Protection Against Non-Collection from Clients: It is very important for businesses to get a timely collection of their receivables. If businesses are unable to recover amounts from their clients and the payments become non-recoverable, credit insurance protects businesses by providing financial aid.
- Providing aid in Repaying Debts: If due to the occurrence of any unforeseen events such as death or disability or unemployment, a businessman is not able to repay the existing debts, then credit insurance comes to the rescue and repay the debts.
How Does It Work?
At the commencement of the credit insurance policy the insurance company access the creditworthiness and financial position of the policyholder and assign the policyholder a credit limit up to which the insurance company shall provide indemnification against loss caused due to non-receipt of money from clients or non-payment of debt. The renewal of the limit gets done yearly. The policy mentions scenarios under which the indemnification shall be provided. When the policyholder encounters any scenario as listed in the policy, a claim can be filed with the insurance company which shall then process the claim subject to the credit limit. The policyholders have to pay the premiums of the insurance as agreed upon.
Example of Credit Insurance
Suppose Mr.X, a policyholder took trade credit insurance of amount $20,000 which secured the debts due to the creditor. Unfortunately, Mr. X found himself in a circumstance where he is short of $8,000 due to one of the conditions covered by the policy terms. Mr.X approached the insurance company for the same issue and asked for a claim of $8,000. The insurance company asked for proof of debt and once the company verified the proof provided by the policyholder, they cross-checked it with the creditor through original bills. When the insurance company got satisfied it made the payment of $8,000 to the creditor on behalf of the policyholder.
Types of Credit Insurance
Following are the types are given below:
- Credit Disability Insurance: If the policyholder gets any disability that is covered by the terms and conditions of the policy, then the insurance company makes the payment to the creditors after proper verification.
- Credit Life Insurance: In case of death of the policyholder, the insurance company makes the payment of all the outstanding debts of the deceased policyholder.
- Credit Unemployment Insurance: If the policyholder remains unemployed for a specific period, then the insurance company makes the payment for that period after verifying the unemployment status.
- Trade Credit Insurance: It protects the business from the customers who are unable to pay because of any reason by indemnifying against such nonpayments from clients.
- Credit Property Insurance: It protects the personal property of the policyholder from being destroyed or theft.
What Credit Insurance Covers?
The insurance company for credit insurance will cover two types of risks namely commercial and political risks.
- Commercial Risks: It covers the risks of insolvency of the buyer or when the buyer is unable to make the payment.
- Political Risks: It covers the risks of cancellation of license to import by the government, any unforeseen events like political, economic difficulties, revolution, civil war, riot, or when the government is unable to make the payment.
Document Required for Credit Insurance Claim Process
The following documents are essential for the claim process:
- FIR report
- ID proofs
- Filled and signed claim form
- Account books and reports
- Policyholder’s Bank details
- Documents asked by the insurance company if any.
Some of the advantages are given below:
- Protection of Important Assets: The insurance company safeguards the account receivables or business sales which can be converted into cash and thereby safeguard the most important assets of the business.
- Increase in the Sale: Due to increased credibility, the market position of the policyholder becomes better and more customers get connected. This is because due to credit insurance, the policyholder is able to offer better credit terms.
- Low Risk: The insurance company will take care of any unforeseen losses which reduce the risk.
- Strengthen the Relationship: Due to the help of credit insurance, the relationship between the customer and creditor as well as the relationship between the policyholder and the insurance company strengthens.
Some of the disadvantages are given below:
- Limited Coverage: The insurance company provides coverage only as per the circumstances and events mentioned in the policy terms and conditions.
- Lots of Formalities: There are many formalities in granting the amount and a lot of verification process is done before providing the amount.
- Doesn’t Cover Every Amount: The insurance company will take responsibility for the types of amounts mentioned in the policy terms and conditions.
Credit insurance is much beneficial for the business and the creditors as it safeguards them from many types of risks which helps the business to grow and increase the credibility. There are many types of credit insurance provided by the insurance company to choose from. It has many advantages yet because of the requirement of documents and verification process it does have some limitations.
This is a guide to Credit Insurance. Here we also discuss the definition and what credit insurance covers? along with advantages and disadvantages. You may also have a look at the following articles to learn more –