Most of us are familiar with homeowners and auto insurance policies that allow us to make a small down payment and then pay the rest of the insurance premium in monthly installments – it’s just how it works.
The reality of this type of agreement is that the insurance company is financing your premium for you. For example, if you owe $1,200 for the policy, you must pay $100 per month. Just like borrowing $1,200 from your bank and paying them back over the course of one year.
If you don’t pay, they simply cancel your policy and revoke their promise to pay. They don’t have to send a repo man to your house to collect your policy!
Most personal lines insurers (homeowners and auto policies) are willing to put up with the paperwork and be your financing company – however, you pay for this in the form of a higher premium.
But the odds are you’re purchasing a commercial insurance policy if you’re reading this post, a commercial general liability policy for example.
Why Premium Financing?
Many commercial insurance companies simply do not want to be in the business of financing your premium and allowing you to pay them over time. They want all of the money up front.
Ultimately, they are in the insurance business and don’t want to act as a lender.
But most people cannot afford to pay an entire year’s premium in one lump sum – or simply don’t want to cough up all the money right away. After all, commercial insurance policies can cost several thousand dollars or MUCH more.
This is where premium finance companies enter the insurance picture. These companies act identically to how a bank or credit union operates. Your “premium finance company” loans you the money to pay the insurance premium and you pay them back over time via monthly installment payments.
Note: You are typically required to put up at least 25% of the total premium as a down payment on a policy. It is very rare to get a policy issued without putting up the down payment.
Is it Difficult to Get Financing?
Your agent will likely have a few premium finance partners he or she normally works with, so you won’t have to shop around in the open market to find a loan.
The process is relatively simple, as the agent will prepare the paperwork for financing at the same time he/she is preparing your application for coverage.
You do not have to worry about your credit score or the standard approval process to obtain this type of financing, which differs from asking for money from your bank.
Why? Well, the insurance company is selling you a promise of coverage on a piece of paper – they are not lending you any money or giving you an asset that you might not pay for and try to keep.
If you fail to pay future installments, they simply cancel the promise and you don’t have coverage any more. The insurance company then sends a refund check to the premium finance company if your policy cancels for any reason – minus their fees!
How Much Does Premium Financing Cost?
Don’t be fooled; premium finance companies are out to make a buck, so you will be paying interest on this “loan.” Also, as alluded to above, there are certain fees you must pay that are not refundable. Be sure to calculate the interest expense on your loan when determining your total insurance expense.
Since premium finance companies are not federally regulated banks, they can charge just about whatever they want. The good news is there are hundreds of them out there, so the competition keeps them “honest” when it comes to your interest rate.
Interest rates may range anywhere from 10-20% of the amount being financed. Remember to keep an eye on the fees as well. Your insurance agent may charge a flat fee for the financing, which may simply be added to the amount of money you finance.
And premium finance companies can “hide” this fee by simply allowing the agent to increase your interest rate. For example, the finance company may have an interest rate of 12%. Your agent may “tack on” an additional 2-3% above that, making your final interest rate 14-15%. This additional interest is simply paid to the agent.
Keep in mind that your insurer is out of the loop as far as payment goes when you opt for premium financing.
Just like a loan from your bank, you will get a coupon payment book, or have the option of paying online (if the premium finance company offers this).
Also, you must continue to make monthly installment payments according to the terms of the agreement even if you have a disagreement with your insurance company over a claim or coverage.