What Is Credit Life Insurance?

Credit life insurance is a policy designed to pay a borrower's outstanding debts if the borrower dies. The  face value  of the policy declines proportionally with the outstanding loan balance as the loan is repaid, until both reach zero.

How Credit Life Insurance Works

Credit life insurance is generally offered when you borrow money: at a mortgage closing, when applying for an auto loan, or when opening a line of credit. It repays the loan if the borrower dies. If your spouse or someone else co-signs your mortgage, credit life insurance would protect them from making payments after your death. 

Such policies are worth considering if you are the primary breadwinner and the co-signer would struggle to make payments if you died.

In most cases, heirs who are not co-borrowers are not required to repay your loans after your death; debts generally are not inherited. Exceptions include the few community property states, but even there, only a spouse—not your children—could be responsible for your debts.

When banks lend money, part of the accepted risk is that the borrower may die before repayment. Credit life insurance actually protects the lender, not your heirs. The payout goes directly to the lender rather than your heirs.

Credit Life Insurance Protects a Joint Borrower

If your goal is to protect your spouse from repaying your debts after death, conventional term life insurance may make more sense. Your spouse would receive the policy's value tax-free at your death and could use some or all of it to repay the debt. Term coverage from a life insurer is usually cheaper than credit life insurance for the same coverage amount.

Credit life insurance also loses value over the policy's life because it covers only the outstanding loan balance. A term policy's value stays the same.

No Medical Exam Required

One advantage of credit life insurance is that it often requires less stringent health screening and, in many cases, no medical exam. This is known as guaranteed-issue life insurance . Term life insurance, by contrast, almost always depends on a medical exam. Even if you are healthy, premiums will be higher when you are older.

Credit Life Insurance Is Voluntary

Requiring credit life insurance for a loan violates federal law, as does basing lending decisions on acceptance of the coverage. However, it is sometimes built into a loan, increasing monthly payments, so ask your lender about it.

Key Takeaways

Credit life insurance repays a borrower's debts if the borrower dies. You can generally buy it from a bank at a mortgage closing, when opening a line of credit, or when taking out an auto loan. It is particularly important if a spouse or someone else co-signs, protecting them from repaying the debt. It also protects spouses or heirs in states where heirs are not protected from parents' outstanding debts.

Do You Need Credit Insurance?

Although credit life insurance is sometimes included in a loan, requiring it violates federal law. Basing lending decisions on acceptance of credit life insurance is also prohibited.

What Is the Purpose of Credit Life Insurance?

Its main purpose is to protect heirs from outstanding loan payments if you die. It is particularly important if a spouse or another person co-signs the loan, protecting them from repaying the debt. It also protects spouses or heirs in states where heirs are not protected from parents' outstanding debts.

Sources and References

1. Consumer Financial Protection Bureau. " Can I Be Responsible for Paying My Deceased Spouse's Debts? " Accessed September 13, 2021.
2. Washington State Office of the Insurance Commissioner. " Credit Insurance: Do You Really Need It?" Accessed September 13, 2021.