Lenders: Managing Loans Backed with Credit Insurance

After giving a presentation to the lending team at a bank recently, I was asked “What do we need to watch out for when using credit insurance on a loan?” Great question!

In my last post, I described how a business can use credit insurance to access more financing. As lenders rely on a policy to advance more money and provide borrowers with more financing, there are four steps to remember to safely manage a loan backed by credit insurance.

Always be the beneficiary

Like all other insurance policies, trade credit insurance policies can be assigned. When loaning money, the lender should always be the policy beneficiary, which means that they essentially co-own the policy. This gives them rights that extend beyond simply being the loss-payee. Specifically:

1. The lender can access policy information online to manage exposure. (More on that below.)
2. The lender has the right to file claims to liquidate their collateral.
3. If the borrower fails to take maintain enough coverage, the lender has the right to manage coverage. (Again, more on that below.)
4. All claims are paid to the beneficiary so the lender controls the cash directly.

I have seen situations where banks did not require that they be the policy beneficiary. Instead, they simply required the borrower to have a credit insurance policy. While it’s perfectly fine to do this, the bank must know that it is giving up the controls that credit insurance offers. For this reason, I always recommend that any lender be the policy beneficiary.

Monitor coverage each month

With access to the online policy management portal (Cofanet is Coface’s online portal), lenders can manage the coverage levels and avoid having more outstanding a/r than is protected by the credit insurance policy. This is particularly true in a borrowing base line of credit.

I recommend that every time a borrowing base report is submitted, the lender should look at the coverage for each account debtor and confirm that the outstanding accounts receivable balance is at, or below the coverage limit. Monitoring in this way adds a few minutes to the monitoring process but helps in these ways:

1. In the event of a payment default, the balance owed is fully protected by the policy. If the balance is $100,000 but the credit insurance coverage limit is only $50,000, there is a gap in protection.
2. If the advance rate is tied to the insurance limit, it’s easy to be sure the line isn’t over-advanced.
3. This monitoring gives the lender direct visibility into the borrowing base eligibility and the protection on each account.
4. Watching the account balances and insurance coverage limits helps the lender spot sales trends and become a more valued partner to the borrower.

There are also situations where the borrower hasn’t managed the coverage and has allowed the outstanding balance to far exceed the insurance limit. Regular monitoring by the lender prevents these problems from happening.

Be sure the borrower manages the policy

Sometimes the borrower forgets to monitor their insurance limits. Not only do I recommend that the lender monitor the insurance and borrowing base, I also recommend that the borrower do the same.

By keeping enough coverage, the borrower doesn’t become exposed. They also don’t over-insure by having coverage they don’t need. They key is to “keep it between the lines” and maintain coverage on all the accounts for the right amounts. This is a very easy process for the borrower to add to their regular routine.

Besides, properly managing coverage limits helps the borrower maintain their borrowing availability and maximize access to working capital.

Remember claim filing deadlines

The only deadlines a lender or policyholder must remember are the claim filing deadlines. There’s nothing worse than simply forgetting to file a claim. I spoke with a client yesterday who called to talk about possibly filing a claim. “How old is the balance?”, I asked. “Two years,” they said. Oops!

For slow-paying accounts (those that are not bankrupt or insolvent), claims must be filed within 180 days. While most companies take action long before then, the lender (and borrower) should remember not to let a balance get that old.

In a bankruptcy or insolvency, the borrower should file the claim as soon as notified about the filing. There’s no reason to wait.

Conclusion

Trade credit insurance helps lenders increase borrowing availability to clients while reducing risk. The policies become secondary repayment sources and if managed well, can provide exactly the benefits both the lender and the borrower need!