Payment protection insurance

Payment Protection Insurance, (also known as PPI, Credit Protection Insurance, Loan Repayment Insurance) (NOT to be confused with Income Protection or Credit Card Cover) is an insurance product that is designed to cover a debt that is currently outstanding. This debt is typically in the form of a loan or an overdraft, and is most widely sold by banks and other credit providers as an add-on to the loan or overdraft product. Though there are minor variations depending on the supplier of the insurance, it typically covers a person against an accident, sickness, unemployment or death, each of which are circumstances that may prevent them from earning a salary/wage by which they can service their debt.

If the appropriate criteria are met, the insurance covers minimum repayments against the loan or overdraft for a finite period (typically 12 months). After this point the person must find other means to repay the debt, though the period covered by insurance is typically long enough for most people to start working again and therefore start earning a salary with which to service their debt. PPI is different from other types of insurance such as home insurance, in that it can be quite difficult to determine if it is right for a person or not. Careful assessment of what would happen if a person became unemployed would need to be considered, as payments in lieu of notice (for example) may render a claim ineligible despite the insured person being genuinely unemployed. In this case, the approach taken by PPI insurers is consistent with that taken by the Benefits Agency in respect of unemployment benefits.

Controversy

In all types of insurance some claims are accepted and some are rejected, however in the case of PPI the number of rejected claims is high compared to other types of insurance. A primary reason for this is that the insurance is not underwritten at the sales stage, and is taken out by customers without careful assessment as to whether it is right for their circumstances and without careful attention to the policy eligibility conditions. In the case of individuals who seek out and purchase a policy without advice, it can be considered that it was the responsibility of that person to ensure what they were purchasing was right for them. However most PPI policies were not sought out by consumers, and in some cases consumers are not aware that they even have the insurance.

As PPI is designed to cover repayments on loans and overdrafts, it is not surprising that most loans and credit card companies have sold the product at the same time as selling the credit product. There is nothing particularly wrong with this if the provider ensures the product is right for their customers, and additionally ensures that the customer understands the insurance is optional and does not affect their ability to get the loan or overdraft. It has been the case however that PPI has been widely mis-sold, with this mis-selling being carried out by not only the bank or provider but also by third party brokers.

The sale of such policies was typically encouraged by large commissions , as the insurance would commonly make the bank/provider more money than the interest on the original loan. Indeed, many mainstream personal loan providers made no profit on the loans themselves; all or almost all profit was derived from PPI commission and profit shares. Sales scripts were developed and employed by certain companies, so that they would not even mention the aspect of the insurance but instead state that the loan was “protected”, without advising that there was an extra cost for this. When challenged by the customer, they would sometimes incorrectly state that this insurance improves their chances of getting the loan or that it was mandatory. A consumer in a desperate financial situation may not wish to risk their chances of getting the loan, so in this vulnerable state they would not further question the policy.

Several high-profile companies have now been fined by the Financial Services Authority for the widespread mis-selling of Payment Protection Insurance. Claims against mis-sold PPI have been slowly increasing and may approach the levels seen during 2006-07 period, when thousands of bank customers were claiming against what they claimed were unfair bank charges.

Calculations

The price paid for payment protection insurance can vary quite significantly, however typically the price falls between 25-30% of the amount that the consumer wishes to borrow. This can be charged on a monthly basis, or the full amount can be borrowed from the provider up-front to cover the cost of the policy; these are known as a “Single Premium Policy”. In these circumstances, as the money is borrowed from the provider to pay for the insurance policy, they charge additional interest for providing this funding, typically at the same APR as is being charged for the original sum borrowed. This further increases the effective total cost of the policy to the customer.

Payment protection insurance on credit cards is calculated differently, as initially there is no sum outstanding and it is unknown if the customer will ever use their card facility. However, in the event that the credit facility is used and the balance is not paid in full each month, a customer will be charged typically 1% of their card balance on a monthly basis as the premium for the insurance.