What is Loan Insurance?

Overseas education loan has both its merits and demerits. While it helps a student pursue his or her dream to study abroad, it also puts the student under tremendous pressure to do well so as to be able to repay the loan with interest. But what happens if a student is unable to repay the student loan?

If the loan was taken against collateral such as land or property, the lender, reserves the right to auction that mortgaged asset to recover the remaining dues. But if it is an unsecured loan things become very complicated as the lender doesn’t have the luxury of selling the borrower’s assets.

In this blog, Student Cover explains the concept of loan insurance and how it helps lenders to mitigate the risk in case the borrower is unable to repay loan.

What is Loan Insurance?

Also called loan protection insurance, the loan insurance like any other insurance product provides financial support to the borrower (in this case, a student) under certain specified circumstances, if he or she is unable to repay the loan. Those circumstances may range from the student’s inability to work due to disability arising out of sickness or injury or due to untimely death.

The nomenclature of loan insurance varies from one country to another. In countries like the US, they are called payment protection insurance while in UK, they are referred to as accident sickness insurance, redundancy insurance or unemployment insurance. However, the basic purpose of the insurance remains the same, to help the borrower meet his or her loan commitment.

Who purchases loan insurance?

In India, lending institutions such as Banks and Non-Banking Financial Companies (NBFCs) that offer unsecured loans to students often require the borrowers to purchase the loan insurance. The cost of premium is usually added to the borrower amount by the lender. So, if a borrower needs Rs. 40 Lakhs for a four year degree course in the US, and the cost of premium for insuring that loan amount is Rs. 4 lakhs (Loan insurance premium are very high), then the student is required to borrow Rs. 44 lakhs. Out of that Rs. 44 lakhs, Rs. 4 lakhs go towards payment of premium for loan insurance.

Who is the beneficiary of insurance payout?

As in the case of similar to secured loan, the lenders require the borrower to hypothecate the insurance payout to the lending institution. Therefore, if the student is unable to repay the loan due to disability or death, the lending institution can claim the insurance amount from the insurance provider.

What factors determine the loan insurance premium?

Since the loan insurance’s job is to provide financial support in case of inability to repay due to unemployment, the insurance premium takes several factors into account. The most important factor for deciding the premium is the credit history of the borrower. If the borrower has an impressive credit history and a good credit score, his or her premium would be moderate. However, if the credit history is bad, the premium will be on the higher side. The other factors that determine loan premium include, the job prospect for the chosen discipline; the ranking of the academic institution that the student is admitted to or any pre-existing disease that the student is suffering from which could affect his or her ability to find a job in future. In some countries, the employment scenario is also taken into account while deciding the insurance premium.

What is the coverage period of loan insurance?

The insurance period for loan insurance varies from country to country. While in some countries it is restricted to the period of 1 year, in others the insurance period extends to 3 years. In India, the coverage period can extend up to 10 years. If the student is unable to repay the loan during that time due to the above mentioned reasons, the insurance company will pay the EMI on student’s behalf up to the sum insured.

Let’s Wrap up!

Like health insurance, loan insurance is an insurance against the borrower’s possible inability to repay the loan in future. It is taken to ensure that in-case the borrower (student) dies or is unable to repay loan due to disability or some other specified factors, he or she is still able to meet repayment commitment. The loan insurance premium depends upon several factors such as the borrower’s credit history, health, job prospect and employment scenario among other things. The coverage of loan insurance ranges from 1 year to 10 years depending on the region.

Disclaimer: The content of this blog is based on personal research of the writer. Reader’s discretion is advised. Neither Student Cover nor the writer will be held responsible for any wrongful interpretation of the content of this blog.