What is Credit Life and Disability Insurance? Do You Really Need It?

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Credit life insurance is primarily sold by lenders and pays off the balance of a particular debt if you pass away. Similarly, credit disability or unemployment insurance can help to cover loan payments if you’re unable to work for a period of time.

Credit life insurance is typically a poor choice unless you have a pre-existing medical condition that would preclude you from purchasing term life insurance instead. Credit life policies are significantly more expensive for the same amount of coverage and don’t allow a family member to be the beneficiary. However, if you don’t qualify for term life insurance and can’t get sufficient coverage elsewhere, credit life insurance can play a valuable role by taking the burden of debt off of your family.

What is Credit Insurance?

Credit insurance is a term which applies to 4 different types of policy:

  • Credit life insurance - Pays off a debt if you pass away.
  • Credit disability insurance - Covers loan payments if you become disabled and unable to work. May be limited to a certain number of payments or total amount paid.
  • Credit unemployment insurance - Covers loan payments if you are laid off from your job. May be limited to a certain number of payments or total amount paid.
  • Credit property insurance - Covers property used to secure a loan, such as a boat or car. Coverage is only applicable if property is damaged or destroyed during the period of the loan.

Credit life insurance and credit disability insurance are the most commonly offered forms of coverage and may be referred to differently depending upon the loan. For example, a credit life insurance policy might be called “credit card payment protection insurance”, “mortgage protection insurance” or “auto loan protection insurance”.

Any of these types of credit insurance might be offered as a single policy (only you are covered) or joint policy (you and your spouse are covered). While joint insurance more expensive than single credit insurance, there’s a discount to having two people on the same policy.

Is Credit Life Insurance Necessary to Obtain a Loan?

You’re never required to purchase credit life insurance from a lender in order to obtain a loan. If a lender ever tells you this or tries to include the cost of credit insurance in your loan without properly disclosing it, you should report them to the Federal Trade Commission.

A lender may require that you have insurance on certain items that are used to secure a loan, such as your car or home, but you’re free to purchase this coverage elsewhere. In addition, if you may be required to pay for private mortgage insurance if you purchase a home and your down payment is less than 20% of its value. However, you can cancel this coverage once you’ve paid off 22% of the balance of the loan. Similarly, you may be required to purchase life insurance as a requirement of obtaining an SBA loan as an individual.

How Does Credit and Disability Life Insurance Work?

Group credit life insurance policies are generally sold to lenders, such as banks and credit unions, who offer you coverage when you obtain a loan. The policy’s benefit, or face value, will typically be tied to your outstanding balance, so it decreases over time as you pay off the loan.

Credit and disability life insurance premiums can be structured in one of two ways:

Payment StructureLevel Premiums?Details
Single PremiumYesSingle premiums policies can be particularly costly as you don’t actually pay a one-time fee. Instead, the total cost of coverage is added to your outstanding balance, meaning you pay interest on it.
Monthly PremiumNoYour policy has a “premium rate” which is essentially the cost per $100 of debt. As your balance changes each month, so do your premiums.

Auto loan life and disability insurance payments, for example, usually have a single premium payment structure. On the other hand, credit card payment protection insurance typically costs about 1% of your previous month’s balance.

Since credit and disability life insurance is usually offered when you obtain a loan, policies are either guaranteed acceptance or have incredibly limited underwriting. There’s no medical exam and the company has none of your health information, so they have to assume you’re high risk. This causes credit life insurance rates to be significantly higher than those you would find with fully underwritten term life insurance.

The one underwriting limitation is that credit and disability life insurance policies come with age limits. You may not be able to obtain coverage if you’re over 65 and, if you already have coverage, it may expire at this point.

Should I Buy Credit Life Insurance?

Whether you should purchase credit life insurance is dependent on two questions. First, if you passed away, would your family need to cover your debts? Second, do you qualify for a more cost-effective and flexible form of coverage, such as term life insurance?

After your death, a family member will typically only need to cover outstanding loans if:

  • They cosigned for the loan - The family member that cosigned the loan is responsible for any outstanding balance. In the case of credit cards, authorized users would not be responsible for an outstanding balance, only joint cardholders.
  • You were married and lived in a common property state - Even if your spouse didn’t cosign the loan, they would usually be responsible for your debt. There are currently only 9 community property states (Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin).
  • They want to keep the property securing the loan - If your estate’s value isn’t large enough to cover the outstanding loan on your car or home, your family would need to pay off the debt in order to keep the property.

If you want life insurance to cover a loan, we’d recommend getting term life insurance if you qualify for coverage. Term life insurance is the cheapest form of coverage, you can choose a death benefit that covers multiple loans or expenses, and you can choose your beneficiary. So, if there are more pressing costs when you pass away, such as funeral expenses or a child starting college, your family member can spend the death benefit as they best see fit.

CoverageTerm Life InsuranceNo Medical Exam Life InsuranceGuaranteed Acceptance Life InsuranceCredit Life Insurance
Maximum Death BenefitOver $1 million$250,000, varies by insurer$25,000, varies by insurerLoan amount
BeneficiaryYour choiceYour choiceYour choiceLender
UnderwritingHealth questions & medical examHealth questions, no medical examNo health questions, no medical examNo health questions, no medical exam
Length of CoverageFixed term, 5 to 35 yearsFixed term or lifelongLifelongLength of loan

Credit life insurance is similar to guaranteed acceptance life insurance in that all applicants of a qualifying age are accepted and premiums are significantly higher. Insurers aren’t able to screen for pre-existing conditions, such as heart disease or cancer, so they have to assume you’re high-risk. The one upside to credit life insurance is that the death benefit is equal to the loan amount. This is in contrast to guaranteed acceptance coverage which is typically limited to less than $25,000. So, for example, if you want coverage for a $200,000 outstanding mortgage balance and can’t qualify for term or no medical exam life insurance, credit life insurance would be your best (and only) option.

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