Do's and Don'ts of Debt Protection
Five Tips on Creating a Money-Making Program
By John F. Kilgore
Banking Lending Services, CSC
Ask lenders if they've heard of debt protection, and they often respond, "It's just like credit insurance." But while debt protection may look and feel like simplified credit insurance, it's actually a component of a loan - and ignoring that connection can create legal and service exposures.
Debt protection plans require banks to create additional business processes and, to be effective, integration with the loan system. Lenders need to understand how debt protection impacts loan servicing.
1. Debt Protection Can Affect Interest Income
Banks with self-insured debt protection programs must consider the cost of potential loss associated with the application of benefit payments. The impact of lost interest is one consideration in building procedures for a new debt protection program. Unlike credit insurance, the money paid for benefit activation is the bank's own money. Potentially, the bank can pay the benefit and lose interest income in the same transaction. For a positive financial outcome, due diligence is essential in developing the debt protection product and its interactions with the loan system.
2. Debt Protection Coverage Changes when Loan Payments Change
Payment amounts can change over time, and the amount of the benefit must change accordingly. With credit insurance, that does not matter, as policies are computed based on the loan's original payment schedule. However, with debt protection, a change in a loan payment schedule affects the monthly fee and the ultimate benefit activation payments.
3. Payment Allocations Affect Benefit Status/Fee Income
Most loan systems will not support a negative or early fee payment. So what happens when a debt protection benefit is more than the current amount due? Since the fee cannot be accrued into the future, the benefit typically is applied to the customer's loan rather than to fee income due the bank. This is both a potential lost-interest issue and a misapplication of fee income.
One solution is to post the benefit, or the portion of the benefit, to the payment period it applies to. This takes a sophisticated benefit adjudication system with access to all payment history. But the outcome is the correct application of fees, interest and benefit - the stated value of debt protection.
4. Flexible Debt Protection Benefits Require Complex Management
Benefit activation for credit insurance is simple - the benefit is either some portion of the monthly payment or the loan payoff. But debt protection benefits are affected by many variables. For instance, what if a borrower took an advance on a home equity line of credit (HELOC) 15 days prior to the incurred date, locked part of the balance into a fixed loan 30 days after the incurred date, and at the same time the rate changed and the minimum payment went up?
Debt protection should be deployed on a sophisticated system tailored to handle complexity. A true debt protection system minimizes manual intervention and maximizes profitability.
5. Knowledge of Both Loans and Debt Protection Ensures Customer Satisfaction
Since debt protection is a loan product, knowledge of loans and debt protection products is essential to providing effective customer service. Customers generally request information on how to file a benefit, how it's calculated and how the payment will be applied to the loan.
About the Author
John F. Kilgore is vice president of Banking Lending Services for CSC. He is the architect of industry benchmark systems for consumer lending, financial insurance products, debt protection, service contracts and warranties, and internet sales tools. His experience makes him a sought-after industry speaker.
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