FOOL'S EYE VIEW
Beware Over-Priced Loan Protection!

By Cliff D'Arcy
August 5, 2003

Here at the Fool, we're not big fans of payment protection insurance (PPI). This cover is sold to you when you arrange a mortgage, personal loan, credit or store card or other financial commitment. Essentially, it covers your monthly repayments if you are unable to work because of accident, sickness or unemployment (it's often known as 'ASU' cover). For personal loans and credit cards, life cover is also included, which pays off your debt if you die.

However, there are countless problems with this cover, which is why I always refuse PPI when it's offered to me (note that it's always optional). I'll explain, using personal loan protection (PLP) as an example.

1. PLP is much too pricey

According to independent financial website Moneyfacts, typical monthly repayments for a loan of £5,000 over three years without PLP would be just short of £160. With this loan, you'd pay back a total of 160 x 36 = £5,760. (That's your advance of £5,000, plus £760 in interest, which means that the interest bill is 760/5,000 = 15.2% of the advance.)

Now take a look at the same loan, but with PLP included. The monthly repayments increase to £184, making the total repayable 184 x 36 = £6,624. The interest and insurance premium has cost you £1,624, which is 32.5% of your loan of £5,000.

So, adding PLP to a personal loan typically increases the cost by £864, which is more than a sixth (17.3%) of the original £5,000 loan.

2. Why is PLP such poor value for money?

Of course, any insurance policy is worth having if you receive more in benefits than you've paid in premiums. Using the above example, a typical PLP policy would be good value if you claimed back more than £864 during the course of your loan.

This sum is roughly five monthly repayments so, in order to make money out of your loan, you'd need to be off work for at least five months over three years. That's roughly one month in seven (call it two months every year). Ask yourself, how many months a year do you normally spend out of work because of accident, sickness and injury? If it's fewer than two, give PLP a miss.

Of course, lenders and insurers all know that most people will never do these calculations, so they charge as much as they possibly can for PLP, and call it 'competitive market pricing'! The real killer is that for every £100 they collect in premiums, they pay us back £20 (often even less) in benefits, which works out at a profit margin of 80%.

To put it another way, most PLP is at least five times as expensive as a not-for-profit product! (For an example of how cheap ASU cover can be, read this article about Market Harborough BS.)

3. Are there any decent PLP policies around?

Certainly not on the high street: most mainstream lenders flog PLP relentlessly, while charging us an insurance premium of anything from 15% to 25% for the privilege of being ripped off!

According to Moneyfacts, the cheapest loan with PLP comes from telephone and online lender Lombard Direct, which charges £169.11 with PLP and £153.03 without. So, PLP adds 10.5% to the cost of its unprotected loan, which is still way over the odds, no matter how generous its policy. Also, Lombard Direct claims its typical interest rate is 6.6% APR, but you could be charged a lot more if you're not a first-class customer.

There are a few brokers and websites offering stand-alone ASU cover, which you can use to cover all your debts with a single policy: mortgage, loan and cards. Expect to pay around 4% to 5% for these policies, but watch out for lengthy qualifying periods before benefits begin to be paid.

Incidentally, the cheapest mortgage ASU policy I've found is from Fool partner helpupay, which is marketed by a leading supplier of PPI, Pinnacle Insurance. The premium varies according to your personal circumstances, but it quoted me £10.10 for £500 of cover – that's just over 2%!

4. What about the cover – is it any good?

Most people reaching this point would have already decided that PLP is a bad buy. However, the problems with PLP extend beyond its price:

• Although PLP is optional, don't expect to be told this vital fact. High-pressure sales techniques worthy of timeshare touts are used to force PLP on unsuspecting borrowers. This should tell you everything you need to know about the value of the cover.
• There is no government benchmark for PLP (although there is one for mortgage PPI), so every policy is different. Without CAT Standards, it's impossible to make like-for-like comparisons – only industry insiders (I served 11 years!) can understand all the variations and varieties of cover.
• PLP policies are usually packed with small print and exclusions, which makes it fiendishly hard to figure out if you have a valid claim. Don't expect your claim to be successful if you're claiming for an existing medical condition, or you suspected you would lose your job when you bought your policy.
• Worryingly, most of the salespeople selling PLP don't fully understand the products they are selling. If you don't understand what you're being offered and how it meets your needs, please don't buy it.
• If you absolutely must have PLP (why, oh why, oh why?), shop around for the best deal and don't automatically buy your lender's policy (learn how captive audiences always get ripped off).

More: Beware The Hidden Costs Of Borrowing | Personal Loans Don't Come Much Cheaper | Find a better Personal Loan.