Identity Theft Protection Plan
Credit protection insurance is a good example of a consumer rip-off
that affects millions of people, yet gets little attention in the financial media.
Simply stated, you should NEVER buy "credit protection insurance,"
or a "payment protection plan" or any other similar type of credit-related insurance. Let's take a look at how
these programs work and why they are a bad deal for the average consumer.
First, let's dispense with the scam version of this insurance. With
identity theft in the news so much lately, con artists have set up telemarketing boiler rooms to call people
and try to scare them into buying worthless credit insurance products.
Representatives will try to convince you that you're at risk
if someone gets hold of your card and starts making fraudulent purchases in your name. When they call, they
may even pretend to be from the "security department" of your bank. In fact, they may actually be part of an
identify theft ring, with the goal of getting you to disclose personal information over the phone.
Or they may simply be trying to make a fast buck by selling you an
insurance policy that you absolutely don't need.
Under Federal law, you are limited to a maximum of $50 liability
for unauthorized use of your credit card. If you didn't authorize a charge, don't pay it! Follow your credit
card bank's procedure for disputing bogus charges. You simply don't need insurance to protect yourself from a
situation that is already covered by Federal law!
Now, what about those "payment protection plans" offered directly
by the big credit card banks?
These are plans that promise to cover your minimum monthly payments
for an extended period of time (usually 12-24 months) if you get laid off from your job, become hospitalized
due to accident or illness, or become disabled. On the surface, a plan like this sounds like a pretty good
idea.
After all, how could you keep up with your payments if you suddenly
lost your job or became too ill to work?
Of course, you should not be carrying balances on your credit cards
anyway. If everyone paid their balances every month in full, then credit protection insurance would not even
exist in its current form.
You are charged for the insurance based on the amount of debt
you're carrying on the card, so if the balance is zero, then there is no fee. In fact, some bank
representatives use this as part of the sales pitch when trying to entice people to sign up for that "free
3-month trial" on their payment protection plan!
They attempt to talk you into adding the insurance now, while you
don't need it and when there is no cost, in the hope that one day you will start carrying a balance. By then,
you'll probably have forgotten you signed up, and you'll wonder what those mysterious charges are on your
statement every month.
If you do carry balances on your cards, credit protection insurance
is still a very bad deal. To see why, let's look at the math here. A typical loss protection plan costs $0.85
for every $100 of balance carried on the card.
So if you're carrying a debt of $5,000 on the credit card, it
will cost you $42.50 per month to buy the insurance. Over the course of 12 months, you will spend $510 under
this scenario. That's equivalent to paying an extra 10% in annual interest!
A light bulb should be shining over your head right about now. Why
not take that same $42.50 per month and use it to pay down the balance faster? Good question. When you
consider that most consumers who have credit protection carry it year after year, without ever becoming
eligible for a claim against the insurance policy, the amount of wasted money can add up to a truly staggering
sum.
Continuing with our $5,000 example, with a typical minimum payment
of $125/month, it will take more than 26 years to pay off the balance in full, at a cost of $7,115.42 in
interest.
By applying that extra $42.50 per month that would otherwise
go toward the insurance, for a total monthly payment of $167.50, you'll have the debt paid off in only 40
months! And you'll have saved $5,435.22 in interest charges. It simply makes no sense to waste this money ,
especially when you consider that the credit protection plan is normally only good for 12-24 months
anyway.
There's another important factor involved here. Credit protection
is also a bad deal because the eligibility requirements are so very restrictive. When you read the fine print,
you'll realize that there are all kinds of situations that aren't covered.
Let's say, for example, that you've been fighting a medical
condition for some time. So you buy the insurance thinking it's a good idea. Eventually, you end up in the
hospital for treatment and recovery. Can you breathe a little easier knowing your credit card payments are
covered? Nope.
Most of these policies have exclusions for pre-existing
conditions. And there are numerous other loopholes that allow the bank to deny your claim under the
policy.
In view of the lousy math and the restrictive nature of this type
of insurance, these programs should really be named "bank profit protection" instead of "credit protection
insurance." Instead of spending good money on an insurance plan that you will probably never use, you're far
better off applying that same amount toward paying off the debt early.
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