Overcharging on the Rise for Credit Life Insurance Coverage

A burgeoning number of Americans are buying credit life insurance--a product that promises to pay off a specific debt if you die--and they’re getting gouged more than ever before, according to an analysis released Wednesday.

Credit life insurance, an add-on service that’s sold to individuals who are financing cars, furniture and other consumer goods, has long been maligned for offering too little coverage for too great a cost. However, the annual analysis by the Consumer Federation of America revealed that overcharging for this product is getting worse--particularly in California.

Nationwide, borrowers who buy this type of insurance coverage are being gouged to the tune of $400 million annually--an amount roughly equivalent to $1 for every $6 spent on premiums. About $9 million of those overcharges were suffered by Californians, according to Linda Sherry, a spokeswoman for Consumer Action, a San Francisco-based consumer group that revealed the findings at a news conference in Los Angeles along with representatives from the California Public Interest Research Group and the Consumer Federation of America.

“In most states, credit life insurance is a rip-off,” said Stephen Brobeck, executive director of the Washington-based Consumer Federation of America. “Most people don’t need it, and the rates are too high for what you’re getting. The vast majority of consumers shouldn’t even consider purchasing it.”

To make matters worse, this type of insurance has recently regained popularity--or at least accounts for rising sales--among consumers. Americans paid roughly $2.4 billion in premiums for credit life insurance in 1995--the most recent year for which statistics are available--compared with $2.3 billion in 1994 and $1.9 billion in 1992.

However, that rise in sales is also partly why this type of insurance appears to be so overpriced, said William Burfeind, executive vice president of the Consumer Credit Insurance Assn., a Chicago-based trade group that represents credit life insurance companies.

The Consumer Federation of America based its analysis on loss ratios, which indicate what percentage of each premium dollar is needed to pay customer claims.

Some years ago, the National Assn. of Insurance Commissioners, a quasi-regulatory body made up of state insurance regulators, recommended that insurers price credit life assuming that they would pay out 60 cents of every premium dollar in claims. However, today, only about 42 cents on the dollar is being paid out, according to the consumer group, which compiles and analyzes the claims and premium data compiled by regulators.

However, that ratio differs markedly from state to state. In California, roughly 50 cents of each premium dollar is paid out in claims versus more than 57 cents paid in 1993. In Texas, only 39 cents on the premium dollar is paid in claims. It’s 82 cents in New York, 20 cents in Louisiana.

In any event, credit life representatives maintain that when the industry is growing relatively rapidly, as it is now, loss ratios are misleading. That’s simply because few people die--and consequently make credit life claims--in the first year. But loss ratios begin to rise on established business, says Burfeind.

Burfeind said many state regulators have acknowledged this and have begun to analyze rates based on a more sophisticated system that looks at a variety of cost components, including cost of selling policies, cost of premium taxes and other corporate expenses.

Brobeck counters that there are a number of reasons why a smaller percentage of premiums are being paid out in claims--including rising prices for credit life policies.

Still, no matter how you evaluate the overcharging question, credit life is often a poor deal, said consumer advocate Brobeck.

“The range of individuals who can benefit from this coverage is incredibly narrow,” he said. “Most people who buy this coverage are simply captive consumers. They’re sitting in the car dealer’s office, and the salesman says: ‘Would you like the insurance plan that protects your family from losing this car in the event that you die? It’s only $8 a month.’ Because it’s presented that way, they buy it.”

However, the bulk of consumers have adequate all-purpose life insurance--or adequate savings--to protect their families in the event of an untimely death, Brobeck said. Those who don’t should buy a simple term life policy, which will pay a set death benefit that can be used for any purpose, rather than a credit life policy, which will pay off just one loan.

Is credit life ever worth buying?

Yes. If you are old--or even on the mature end of middle age, or sickly and incapable of qualifying for an ordinary life insurance policy--credit life may allow you to buy insurance that would otherwise be unavailable or prohibitively expensive.

The price of ordinary life insurance policies varies based on your age and health at the time of purchase. The older and sicker you are, the more costly--and less available--the coverage becomes. However, credit life is generally sold at the same rate for each and every consumer, regardless of age and health. This rate is normally set by state law and will amount to so many dollars for each $1,000 in coverage.

Generally, that means an older person would pay less for credit life than for an ordinary life insurance policy, while a young person would pay comparatively more.

Moreover, if your insurance needs are exceptionally modest, credit life may allow you to buy just the right amount of coverage.

Why?

Ordinary life insurance policies are written in minimum denominations of $50,000 or more. Credit life policies, on the other hand, have no downward limit. If your debt amounts to $1,500, that’s what your policy would guarantee. Even though the cost per $100 of coverage may be higher with credit life in such an instance, you’re not spending money buying more insurance than you need.

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Credit Coverage

Credit life insurance, which pays off a loan if you die, has experienced a surge in popularity. A look at recent premium volume, in billions of dollars:

1995: $2.414

Source: National Assn. of Insurance Commissioners