If the loan is pre-paid the term cover is not of much use
When someone applies for a big-ticket home loan, lenders try to sell him a term plan to cover the loan. In case something untoward happens to the borrower before the loan is repaid, the insurance company will pay the outstanding loan to the lender.
Loan cover plans are single-premium policies, but the borrower does not have to shell out the amount at one go.
The premium is added to the loan amount and repaid in EMIs.
Before you think this is a good way to cover liabilities, take a closer look at how such plans work. Firstly, the cover is linked to the outstanding home loan and progressively comes down over time. This means if a loan is pre-paid, the cover will not be of any use. Statistics show that most borrowers tend to prepay their home loans as incomes go up. A 20-year home loan is usually foreclosed in 12-14 years.
In case the loan is foreclosed, the insurance company is supposed to refund the premium as per a pre-defined formula (see graphic). However, some insurers fob off policyholders citing vague rules and clauses. If your insurer is also making excuses, you can approach the IRDAI for redressal of your grievance.
Another problem is when you switch lenders or refinance your loan. You might be asked to terminate the existing policy and buy a fresh one through the new lender. This is hogwash. You can continue with your existing home loan cover even if you have changed your lender. All this requires is an endorsement in the policy which will remove the previous lender and name the new lender as the beneficiary. The insured person has to inform the master policyholder (lender) and get the insurer to pass the endorsement in the name of the new lender. Many borrowers buy the cover out of fear that their loan application might be rejected. The sales staff push insurance products once it becomes difficult for the customer to move to another lender or when the customer is in a hurry to get the loan.
Covering a big-ticket loan is advisable because your dependents will not have to repay the loan if you are no more. A lender may take over the asset if your family is unable to repay the loan. However, a regular term plan that is not linked to the outstanding loan is a better way to cover this liability. It can continue even after the loan is repaid.
If your bank forces you to take the loan, deal with it firmly. Ask the lender to give in writing that a home loan cover is a pre-condition for the loan getting approved. This usually works, as no representative can give this in writing.
Finally, if you have been sold such a policy without your explicit consent, you can take it up with the various grievance redressal channels. Home loan insurance is a solicited product and not mandatory by law. If you are forced to buy a bundled loan cover, you can take up the matter in writing with the senior management of the lender. If this doesn't yield a resolution, you can the matter to the banking ombudsmen and IRDAI Grievance Redressal cell.
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