One of my clients in the Frisco / McKinney area emailed me last week. Beth (not her real name) asked me if I write credit life policies because she was looking into it. I replied to her email letting her know I don’t and then asked her what she was trying to accomplish. Beth is a single mom with three kids. Her goal is to pay off her home and leave it to her children in the event of her death.
Most people are familiar with term life insurance but may not be familiar with credit life, so let’s outline what it is and then contrast it with a term life policy.
- Credit life is a life policy that’s sold to someone who’s borrowed money to buy a house, a car, or some other item such as a large appliance.
- The purpose of credit life is to pay off the unpaid balance of the home or car in the event the borrower dies before paying off the loan.
- The benefit to the borrower’s survivors is the loan will be paid off and they won’t have to worry about making future payments on the home or car considering the loss of the loved one’s income.
- Some early versions of credit life policies would end at 20 years on a 30 year mortgage.
The benefit of credit life sounds like it would accomplish Beth’s goals until we look at two conditions of credit life.
- Credit life only pays off the loan; the beneficiary is the bank or finance company that wrote the home or car loan, not the family.
- Credit life operates on a declining balance basis; the amount of the death benefit decreases as the loan decreases. Once the loan is paid off, the credit life policy goes away.
I discussed credit life with Jim Shaughnessy, a mortgage loan officer with the Dallas office of PrimeLending (https://lo.primelending.com/jshaughnessy) on Thursday after a lunch meeting we both attended. He observed where a claim for credit life was declined after a husband had died because the loan was paid off early. In this family’s case, no loan meant no credit life policy.
Term life, on the other hand, is a true life insurance policy that has the following characteristics and benefits:
- It runs for a period of time ranging from 1 year up to 30 years.
- Most term policies pay a flat amount (face value) that is determined by the person buying the policy such as $250,000, $500,000, etc.
- The face amount is usually guaranteed for the life of the policy.
- The beneficiaries can be one’s spouse, significant other, children, charity, or even a business partner.
- The benefit (the amount that’s paid upon the death of the insured) can be used on anything for which the money is needed (final expenses, medical bills, college education, grandchildren needs, etc.).
In Beth’s case, credit life would accomplish her goal of paying the home off, but all it would do is leave her children a home with no mortgage. Her children would still be liable for utilities, property taxes, upkeep and more and may not be in a position financially to even handle that. In addition, we only have to look back over the last seven years to see how real estate values soared, then tanked and appear to be on the rebound.
There are two questions that need to be answered by anyone evaluating the same issues Beth is contemplating.
- Is a paid off asset, home, car, etc., ultimately in the survivors best financial interests?
- Could there possibly be other issues or options, not to mention a need for financial liquidity one’s survivors may have?
As discussed with Beth, her desire is for her children to have a home of their own. But it quickly grew beyond that as our discussion continued and began to encompass:
- Money that could be used to pay off the home
- College education for her children
- Funds to pay for a wedding or grandbabies education
Beth quickly saw the advantages a term life policy would provide for her children in the event she’s not there to provide for them. I outlined two sets of term life quotes for her to review and compare to the credit life option she was evaluating. In Beth’s case, the two options I provided her were:
- A 30 year term policy with a death benefit of $250,000 for as little as $21.10 a month.
- A 30 year term policy with a death benefit of $500,000 for as little as $36.98 a month.
I’m currently working with her on an application for the $500,000 option and that will give her children the kind of options she dreams of for them.
I believe a term life policy is the better choice when compared to credit life in virtually all situations. The only exception I would possibly consider where credit life would be the preferred solution would be a home buyer who either would not qualify, either medically or due to their age (65 and older), for a life policy. In one of these two cases, some relief may be better than none.
What do you think? Share your thoughts, suggestions, and comments with me in the comments section of our blog or on our Google + and Facebook pages. I’d love to hear from you!