When businesses rely on only a few clients, and sell products or services with very small margins, the risk of non-payment can have devastating consequences. This is why credit insurance can be a very useful product: if your clients can’t pay, the insurance company will mitigate incurred losses so that business can keep on going more or less normally. Let’s learn the basic principle and benefits of this kind of insurance, how it works, and how much it may cost.
Principle and benefits of credit insurance
Credit insurance covers financial losses incurred by the non-payment of regular invoices sent for a service or product made by a company. This kind of receivables finance product has several benefits.
What is credit insurance?
Credit insurance, or trade credit insurance protects businesses from risks beyond its control, like commercial risk or political risk. If a client becomes insolvent, policyholders will still be able to extend credit to other customers, and the financial loss will be mitigated. Only short-term default, that is, failing to pay within a twelve-month period of time is usually covered. The insurer can even take charge of the risk monitoring and debt collection, very much as a factor would do, in a factoring arrangement.
What are the benefits?
This kind of insurance product brings several benefits to the policyholder:
- it supports sales expansion,
- it improves relationships between the policyholder and its bank, allowing further credit arrangements,
- it represents an all-inclusive protection against insolvency,
- it improves customer relationships.
Procedure and price
In order to know how much credit insurance can cost, it’s important to understand exactly how it works.
How does credit insurance work?
Debt arises when a client of a business cannot or will not pay its invoices or liabilities owed to this business, either temporarily, according to agreed terms and conditions - this is called “protracted default” - or indefinitely because this client has become insolvent. It’s therefore the de facto credit that’s been allowed to this client which is insured.
The insurer monitors the creditworthiness of each customer and assigns a credit grade, and then advises on the credit limit this customer can enjoy. If the customer cannot pay the business, the business will be indemnified according to its own credit grade. If it becomes necessary, the insurer will take charge of the debt collection process.
How much is it?
Suppose the company’s margin is 5% and the debt of the client amounts to £100,000. The business will therefore have to generate extra sales for £2,000,000 to cover the incurred loss, if the client cannot pay. The insurer will pay part of these £100,000, and another part if the client finally pays the debt, at no cost because the insurer received monthly premiums. Rates for these premiums are only provided following a quote request, and there are many providers to scoop. So the best way to quickly find the best rates is to use the services of such websites as the one you’re browsing now.