Advantages and Disadvantages of Purchasing Credit Insurance

Purchasing business credit insurance can substantially reduce the risk of exposure to customer non-payment, and an accompanying bad debt write off. Credit insurance can cover a company's entire customer base, or it may be targeted to cover only certain specific customers or types of customers. A domestic credit insurance policy covers only "commercial risks."  Commercial risks can be thought of as events generally within the control of buyers and may include:

• The buyer's insolvency or bankruptcy,
• Its inability to pay for financial reasons,
• Protracted payment default,
• An unwillingness to pay for goods received,
• Repudiation of the shipment meaning what happens when the buyer fails to take delivery of goods,
• Pre-credit risk; which is the risk related to losses caused by a buyer's insolvency during the manufacturing period but before delivery of the goods or completion of contract.

Some of the disadvantages of commercial credit insurance include:

• Typically, certain customer accounts will have specific coverage limits assigned to them by the insurer, and these limits may be far less than the dollar amount requested by the creditor company.
• Policies typically come with annual deductibles; as well as per loss deductibles...in other words commercial credit insurance is not a first dollar loss policy.
• There are usually other exclusions and limitations on coverage.
• Often, losses under a certain dollar amount are not covered losses.
• Foreign [export] accounts are usually excluded from coverage.
• The insurer may require detailed periodic reports from the creditor about the status of customers covered by the policy.
• The credit insurance policy is a contract in which the creditor company is required to comply with very specific requirements in order for bad debt losses to be covered. Therefore, failure to comply with any of the terms of the contract may invalidate the coverage.
• Credit insurance policies will usually not pay the creditor company if the debtor asserts that the balance due is in dispute...and customers in serious financial trouble often claim the balance due is disputed in order to delay collection or legal action.
• The narrower the "spread" of risk being submitted to the insurer, the more difficult it will be to find the right coverage at an acceptable price.
• Credit insurance involves risk sharing.  This includes in addition to the policy premium annual deductibles, specific account exclusions, per loss deductibles, the annual dollar cap on total paid losses, and a low dollar loss exclusions.
• Usually, the insurer will decline to offer coverage on certain customers identified as high risk.

One final thought: The more account exclusions, the more coverage limitations in the policy, the more restrictions, and the more terms and conditions in the policy the more difficult it will be for a creditor to determine the value of a credit insurance policy to a company.

© 2011.  Michael C. Dennis.  All Rights Reserved