The U.S. Postal Service delivers all sorts of pleasant things, like handwritten notes from old friends and birthday gifts. One not-so-pleasant delivery is a notification from your lender telling you they intend to charge you for force-placed insurance.
Force-placed insurance is a policy that is purchased when a lender believes that a borrower has not adequately insured an asset. If you borrow money to make a purchase for anything that must be insured -- like a home, vehicle, boat, farm equipment, or commercial property -- your lender wants to know that the asset is fully covered. After all, until you pay for the property in full, the lender has the right to repossess if you stop making payments. If the asset is damaged and there is insufficient insurance to repair it, their investment is lost.
This type of insurance only applies to secured loans. Unlike an unsecured personal loan, which can usually be used to purchase anything you want, a secured loan requires collateral, which the lender then wants to protect.
Let's say you've always wanted a boat and borrow money to purchase a 2020 Sea Ray SPX for $60,000. You call your insurance agent to insure the new vessel, and set up monthly payments. Summertime gets busy, you spend most of your free time on the lake and forget to pay a couple of insurance premiums. Your policy is canceled the same week a storm tears through the marina, destroying your boat. You may be upset by the money you still owe, but now your lender is also concerned. It knows that if you miss payments, there is no longer an asset it can repossess and recoup some of its losses.
Here are some of the reasons a lender might choose to purchase force-placed insurance and send you the bill for it:
The lender's right to protect their investment by purchasing enough insurance to protect an asset is written into nearly every loan document. Rather than "force-placed insurance," a lender may instead refer to it as "creditor-placed," "lender-placed," or "collateral protection insurance."
If a lender thinks that you don't have the necessary insurance, it will take out forced-placed insurance on your behalf. Many lenders hire third parties to track their loans and flag any potential problems. Depending on the lender, the cost of force-placed insurance is added to your loan balance or incorporated into your monthly payment.
Holly Gillespie is an insurance processor with Southwest Business Corporation (SWBC), a third-party tracking company for banks and credit unions. Once a borrower takes out a loan, their lender sends the information to SWBC and the company's tracking system allows it to see when a loan is out of compliance.
Gillespie says that one of the first things her company does is to search for existing coverage. Borrowers often have an active policy that does not immediately show up on the system -- for example, a person may simply have refinanced a loan with a new lender.
"Our job is to protect the lender, but also to protect the borrower," Gillespie said.
Lenders -- or third-party operators like SWBC -- are required to send an initial notice within 30 to 45 days after a loan was originated (depending on the loan type) to any borrower who is uninsured or underinsured. A second notice is sent before the lender purchases force-placed insurance.
Force-placed insurance provides you with limited coverage. Your house might be rebuilt after a fire, but force-placed insurance does not generally provide coverage for owner liability or loss of personal items.
Here's why that matters: Let's say you are driving a car with force-placed insurance in place and hit another car. The force-placed insurance provides comprehensive coverage only, meaning the car will be repaired in order to protect the lender's investment, but you are on your own for liability, personal injury, or loss of use. That means if someone in the car you hit sues for damages, those damages would come out of your pocket because you would not be covered by liability insurance.
Forced-place policies tend to be a lot more expensive than traditional policies. However, that's not always the case. Gillespie says that the occasional customer will call and say they are happy with their new premium -- unaware that they have lost certain protections. "I have to explain to them that they may be paying less, but they no longer have the coverage they need to protect their own best interests."
"First of all, don't panic," Gillespie said. Although the notification letter may seem scary, it is a situation that can be remedied, often with a couple of simple phone calls.
"More often than not, we just need to know who their insurance company is," Gillespie said. "We are always happy to take care of the process. For example, we'll offer to call their agent, so all three of us are on the phone at the same time. That way, by the time the borrower hangs up, they know everything is taken care of."
If you receive a letter informing you that your lender intends to purchase force-placed insurance on your behalf, these steps will help you settle the issue:
Obviously, your best bet is to dodge force-placed insurance in the first place. One way to do this is to always open your mail, which Gillespie says is something a surprising number of people fail to do. They only notice the problem after the force-placed insurance has been put in place and are angry and frustrated by the time they call.
The easiest way to avoid force-placed insurance is to purchase insurance the day you take out a loan, make payments on time, and keep the policy active.
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