Loan repayment insurance could be unnecessary extra debt
You’ve taken a quick loan to buy a new car, to cover the cost of a trip overseas, or even to consolidate your other loans and the finance company asks, “Would you like insurance with that?”
The add-on purchase may not have crossed your mind but when you think about it, the extra security of an insurance that covers debt repayments may sound like a good idea.
The person selling you the loan may imply it is compulsory to buy insurance but what are your rights and what are their obligations?
Types of add-on insurances offered when you take out a loan
Payment protection insurance and consumer credit indemnity insurance
Two names are commonly used for insurances that can protect you from financial problems if you are unable to repay your loan, payment protection insurance (PPI) and consumer credit insurance (CCI). Both might provide cover if you can’t make repayments due to a range of insured events, including sickness, hospitalisation, accident, redundancy, bankruptcy, and death.
Buyer beware – what are the chances of these happening to you and when will the insurance kick in?
Guaranteed asset protection insurance
When you buy a car, you may take insurance to cover the cost of replacing or repairing the vehicle if you have an accident or it is stolen. However, if you arrange a loan to buy a vehicle, you may also be offered guaranteed asset protection (GAP) insurance. Should the worst happen and your vehicle is written off, GAP insurance literally fills the gap between the pay out from the regular vehicle insurance and any money you still owe on the vehicle. You wouldn’t have to continue making payments for a written-off vehicle you no longer own.
Buyer beware – check what your normal car insurance covers you for. Hopefully, it covers you for the value of the car and the loan would be less, so is GAP really necessary?
Mechanical breakdown insurance
If your vehicle breaks down due to an unforeseen mechanical or electrical fault, mechanical breakdown insurance can cover the cost of this.
Buyer beware – is this not already covered by the car’s standard warranty and the Consumer Guarantees Act?
Before you commit to buying any insurance when you take a loan there are some basic things that should be explained to you, and you should ask about.
All these add-on insurances incur interest as they are added on to the loan.
How much will the insurance cost?
You need to be told the monthly premiums for all insurances, including payment protection insurance, GAP insurance and mechanical breakdown insurance. You can do some maths and work out the annual or total cost for the duration of the insurance policy and decide if it is worth it. Sometimes the insurance can cost you more than the loan or the cost of the car, phone or washing machine you’ve borrowed money for.
What exclusions are there if you make a claim on the payment protection insurance?
You should know when and why the insurance company may not pay out on a claim you make. For example, if you have not declared that you had a pre-existing health condition when you arranged payment protection insurance and you make a claim for any reason – it could be declined.
Exactly what is included in the PPI, CCI, Gap or mechanical breakdown insurance?
You need the details of how much money the insurer will pay out and when. Some insurances cover loan repayments after a stand down period, for example, after you have been unemployed for 28 days the insurer will review your claim. If you are only out of work for 27 days you would not be able to make a claim. Your loan repayments may only be made for a limited time, such as approximately six months.
Are you actually eligible for the insurance and for how long?
There are some circumstances that could make you ineligible for PPI or CCI and you should be told these. For example, with some repayment insurances you are not covered when you are over a certain age, most commonly 65 years old. This exclusion is common for historic credit card repayment insurance policies, which were arranged when people opened their credit card account and continue for years. Credit card repayment insurance is considered ‘poor value for consumers’ by New Zealand’s Financial Markets Authority (FMA) and is no longer offered by most credit companies. You should check your credit card account to check if you are still paying this historic insurance.
Responsible credit‐related insurance providers will help you understand the terms of the insurance contract, check that the insurance is appropriate for your needs and appropriate for the loan and asset you are buying.
You can read more about the Financial Services Federation’s Responsible Credit-Related Insurance Code.
How do I pay for add-on insurances when I arrange a loan?
Once your loan is approved and you sign up for payment protection insurance the premiums can be added to your loan repayments. The total amount of repayments should be affordable for you.
When you arrange a loan to buy a vehicle or something like an awesome new phone, you will most likely talk with a salesperson, not the finance company. In New Zealand, the salesperson is likely to be an agent for the finance company and the same goes for any protection payment insurer.
“These insurers have all adopted a similar business model: add-on insurance is almost exclusively distributed through intermediaries such as motor vehicle dealers.” Motor vehicle financing and add-ons review, Commerce Commission New Zealand, 2021
The salesperson collects information for your loan application and loan repayment, GAP or motor breakdown insurances and in most cases, they receive commission for insurance they sell. The insurance companies should have provided the salesperson with initial and on-going training to ensure they are well informed about insurances and their responsibilities.
Will my PPI insurance cost more if my debt increases?
Payment protection insurance can cost more if premiums are calculated as a percentage of your outstanding debt. So, if you borrow more, miss some payments and penalties or interest are added to the total amount of your debt, the insurance premiums can increase.
This is common with credit card repayment insurance and that is another good reason to cancel these historic policies.
Will payment protection insurance and consumer credit insurance always cover my debt repayments if I can’t?
No. There are several reasons insurers may not pay out on a claim you make. Here are some potential reasons you may not be covered by PPI.
Pandemics, like Covid
Pregnancy
Mental illness
AIDs
Substance addiction
Elective medical treatment
Natural disasters
Doing hazardous sports or activities
Prior knowledge of a cause or condition
Sexually transmitted diseases
Vandalism
War, terrorism
Self-harm or suicide
The Motor vehicle financing and add-ons review identified that the most common reason claims were declined was that the person making the claim had not disclosed a pre-existing condition. This accounted for 57 per cent of the declined claims.
The following graph shows the difference between the amount of money people paid in premiums for CCI/PPI and how much was actually paid out in claims in New Zealand, from 2018 to 2020.
Is it compulsory to have add-on insurances for a loan?
No. However, some lenders will make it a condition of the loan and Debtfix questions if this is ethical.
Often your contents insurance will cover the cost of replacing or repairing accidentally damaged items you are paying off, for example a washing machine. However, if you have a high-interest loan you could still be left out of pocket because the establishment fees, interest and any late payment penalties mean you owe much more than the original price tag.
Do I have a cooling off period for any add-on insurances?
Yes, but ONLY if a cooling off period is included in the CCI/PPI, GAP or mechanical breakdown insurance contract. There is no statutory requirement for lenders or insurers to provide a cooling off period for add-ons under the Credit Contracts and Consumer Finance Act (CCCFA).
“However, under the CCCF Act, a statutory cooling off period applies during which the consumer can cancel the consumer credit contract. Separately, some lenders and insurers provide consumers with a contractual cooling off period for add-ons. Providing a cooling off period ensures that consumers can change their mind after the purchase.” Motor vehicle financing and add-ons review
Will a debt hardship application cover me if I can’t make loan repayments?
Maybe. If you have debts and you have unexpectedly been made redundant, experienced a serious accident or illness, relationship breakdown or another big life challenge you may be able to apply for debt hardship.
Ask yourself – do I really need this add-on?
Talk to Debtfix if you think you have unnecessary insurance or you have had a claim declined and you are worried about how to make loan repayments.
The Crew wants to ensure you are only paying for valid insurances that will benefit you when you need them. Debtfix will always review these and see if they can be cancelled – at any stage of the loan’s life.