What Is Credit Life Insurance?
Credit life insurance is a type of life insurance policy designed to pay off a borrower's outstanding debts if the borrower dies. The face value of a credit life insurance policy decreases proportionately with the outstanding loan amount as the loan is paid off over time, until both reach zero value.
How Credit Life Insurance Works
Credit life insurance is typically offered when you borrow money—at a mortgage closing, when taking out a car loan or opening a line of credit. The policy pays off the loan in the event the borrower dies. If your spouse or someone else is a co-signer on your mortgage, credit life insurance would protect them from making loan payments after your death. Such policies are worth considering if you're the primary breadwinner and the loan co-signer would struggle to make payments if you pass away.
In most cases, heirs who aren't co-signers on your loans aren't obligated to pay off your loans when you die; debts are not generally inherited. The exceptions are the few states that recognize community property, but even then only a spouse could be liable for your debts—not your children. When banks loan money, part of their accepted risk is that the borrower might die before the loan is repaid. In reality, credit life insurance is protecting the lender, not your heirs. In fact, the payout on a credit life insurance policy goes straight to the lender, not to your heirs.
- Credit life insurance is a specialized type of policy intended to pay off specific outstanding debts in case the borrower dies before the debt is fully repaid.
- It may be required in certain situations.
- Credit life policies feature a term that corresponds with the loan maturity and decreasing death benefits, which in turn corresponds with the reduced debt outstanding over time.
- Credit life policies, due to their specific nature, often have less stringent underwriting requirements.
Credit Life Insurance Is One Way to Protect a Joint Borrower
If your goal is to protect a spouse from paying off your debts after you die, conventional term life insurance may make the most sense. In that case, the value of the policy will be paid to your spouse, tax-free, upon your death. Some or all of the proceeds can be used to pay off debt. Term coverage from a life insurance company is usually cheaper than credit life insurance for the same coverage amount.
Moreover, credit life insurance drops in value over the course of the policy, since it only covers the outstanding balance on the loan; the value of a term life insurance policy stays the same.
No Medical Exam Needed
One advantage of a credit life insurance policy is that it often requires less stringent health screening, and in many cases no medical exam at all. This is known as guaranteed issue life insurance. By contrast, term life insurance is almost always contingent on a medical exam; even if you're in good health, the premium price will be higher if you are older.
Credit Life Insurance Is Voluntary
Requiring credit life insurance in a loan is against federal law, as is basing loan decisions on the acceptance of credit life insurance. Nevertheless, credit life insurance is sometimes built into a loan, which makes your monthly payments higher, so it’s important to ask your lender about it.
The Bottom Line
Credit life insurance pays off a borrower's debts if the borrower dies. You can generally purchase it from a bank at a mortgage closing, when you take out a line of credit or get a car loan. This type of insurance is especially important if your spouse or someone else is a co-signer on the loan in order to protect them from having to repay the debt. It also protects your spouse or heirs in states where heirs aren't protected from a parent's outstanding debts.
Do you need credit insurance?
While credit life insurance is sometimes built into a loan, requiring it is against federal law. Basing loan decisions on acceptance of credit life insurance is also banned.
What is the aim of credit life insurance?
Protection of heirs from being saddled with outstanding loan payments in the event of your death is the main goal. It's especially important if your spouse or someone else is a co-signer on the loan in order to protect them from having to repay the debt. It also protects your spouse or heirs in states where heirs aren't protected from a parent's outstanding debts.