Credit life insurance and matters arising
In recent times, some financial institutions have had to grapple with the challenge of how to recover loans they have given out to borrowers. What is making a bad situation worse is the fact that some of these financial institutions have recently alleged that some of their own employees are colluding with borrowers to have loans written off as a result of failure to pay back loans. The ‘colluders’ then go back to share the ‘booty’ to the detriment of their employers.
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Imagine an economy where loans are given to individuals and companies, and after deliberately failing to repay the loans, insurers are called upon to settle this indebtedness? Certainly we would be confronted with an economic quandary that would bear semblance with the economic depression that hit the western world about a decade ago.
The cry for loan default policies
I occasionally come across Officers of some lending institutions requesting cover for ‘planned’ loan default as part of the components of a credit life policy. Much as I tried to explain to them that, that will only open the floodgates for more deliberate loan defaults, some of them still struggled to get the understanding, especially with respect to the complexities involved.
Thankfully, I am yet to know of any insurer in Ghana willing to underwrite loan default policy, as this is an unacceptably high risk area. Meanwhile, a typical Credit Life Insurance policy will provide insurance cover for loan default, resulting from such factors as death, terminal illness and / or job loss.
Loan Default Rate
The primary reason most lending institutions would request a cover for general loan default is not far-fetched. Indeed, lending institutions often have to grapple with the challenge of recovering loans owed them by individuals and organizations, as some individuals/organizations deliberately orchestrate conditions to avoid the loan repayment. Currently, the loan default rate in Ghana is hovering around 25% to 30%.
To mitigate this, however, insurance policies are in place to ensure that some avoidable defaults are well taken care of through the risk transfer mechanism of credit life insurance.
Credit Life Insurance
Credit life insurance is a specific-purpose insurance product, designed to protect financial institutions against the risk of UNPLANNED default. It provides an automatic cover for persons taking loan facilities either individually or in groups, to cover default arising from either of the following:
- Death
- Terminal / Critical Illness
- Loss of job (only for a period usually not lasting more than 6 months)
Limit of Cover
In the unfortunate event of death (i.e. accidental or natural), permanent disability or loss of job, the limit of cover for credit life, in most cases, includes the outstanding principal balance PLUS one month interest. Some of the policies, especially individual beneficiaries, apart from paying the outstanding loan amount to the issuing financial institution also pay a lump sum benefit not exceeding GHS1,000.00, in lieu of death, to the next of kin of the deceased loan beneficiary. Sad to say though, that the rather high rate of loan default in Ghana has placed some financial institutions in such dire situation that there is no motivation to even contemplate extending the basic credit life insurance cover to general default - an area that is absolutely undesirable. In fact, the trend is akin to sitting on the branch of a tree and cutting that same branch off!
Meanwhile, below are some of the reasons underwriting a general loan default policy may be undesirable to insurers:
- Individuals and/or organizations may take higher loan amounts, once they know that, in default, their insurers will settle their indebtedness without recourse to them.
- The phenomenon of deliberate collusions between some employees of financial institutions may also be widespread and further deepened, once they know that an insurer will settle their client’s indebtedness, when they default.
- Individuals / organizations may also seek loans with the prior intension not to repay, having foreknowledge that their insurers would pay their outstanding loan balances. This situation may therefore make insurers vulnerable to exploitation by the insuring public; thereby creating conditions for the total collapse of the insurance industry.
The nature of credit life insurance
The policy is often designed as a blanket policy, where anyone who accesses a facility from the financial institution is automatically put on the policy; hence, in the unfortunate event of deaths, terminal illnesses or job losses relating to the loan beneficiaries, the insurer will pay the outstanding loan balances.
The premium payable by the loan beneficiary is often a percentage of the loan amount, usually between 1% and 2%. In some other jurisdictions, the lending institution takes up the responsibility of premium payment, making them more attractive to their clients / loan beneficiaries, especially in a competitive marketing environment. This therefore relieves the beneficiary of the responsibility to have the premiums deducted from the loan amount before the granting of the loan.
The Way Forward
Financial institutions must, as a matter of necessity, make it a policy to have all their loans insured, as the risk of death, disability and perhaps job losses come in when least expected. However, the risk of default could be largely minimized or managed through an effective loan appraisal process. All stakeholders must also ensure that the public is adequately educated on the essence of this policy in order that individuals / organizations will desist from deliberately not honouring their loan repayments.
Conducting effective background checks on employees before engaging them is useful in curbing the menace of in-organisation crime, as job-seekers are often considered on the bases of their competence and character / integrity. Unfortunately, given the fact that after recruitment, some individuals, who believe in the “everybody eats from his workplace” cliché, tend to acquire criminal tendencies, which often leads them into committing various crimes against the organisations that put food on their tables, mostly by exploiting the obvious weaknesses in the organization’s control systems. Perhaps engaging some of the State security agencies at the point of giving out loans and during the loan repayment tenor will help in drastically reducing the menace.
As I have always maintained, technically, there is nothing un-insurable in the business of insurance, once the required terms and conditions are met. In this regard, though may sound weird, insurers could still consider underwriting loan default policies, provided the premium payable would be 100% of the loan amount so long as it does not contravene any regulations of the National Insurance Commission (NIC).
Until next week, “This is Insurance from the eyes of my mind”