What Is Unemployment Protection on a Loan?
Definition, Examples of Unemployment Protection on a Loan
Unemployment protection is a type of insurance you can buy when you get a mortgage or personal loan. It kicks in if you lose your job to make payments on your behalf so you don’t end up missing any.
Having unemployment protection can give peace of mind, as well as protect your credit score, because it prevents you from missing payments. However, unemployment protection can be expensive. On top of that, if you add the insurance to your loan, you’ll likely pay interest on the insurance premium, increasing the overall cost of the loan. As a result, unemployment protection isn’t right for everyone.
Let’s take a look at how unemployment protection works on a loan, and when it might make sense to use it.
What Is Unemployment Protection on a Loan?
Unemployment protection is an insurance policy you can buy when you get a loan. It’s designed to make payments on your behalf if you lose your job and can’t afford them.
Be aware, though, that this type of mortgage protection insurance (MPI) purchased with a home loan is different from private mortgage insurance (PMI) in that PMI is designed to reimburse a lender, not you the borrower, if you default on your loan and your house isn't worth enough to fully repay the debt. PMI doesn’t apply to job loss, disability, or death and it won’t pay your mortgage if one of those things happens to you.
Also, mortgage protection insurance often costs more than term life insurance, especially for healthy adults. The premium may be a percentage of total insured loan payments, paid at the time of the loan, and amortized into the borrower’s monthly loan installments. Other policies may not lock in the same price over the term of coverage, which can stretch as long as a 30-year mortgage.
Sometimes, unemployment protection is also referred to as credit insurance. There are four main types of credit insurance for consumers, depending on the type of difficulty that prevents you from making payments on your loan:
- Involuntary unemployment insurance: Makes payments on your loan if you lose your job.
- Credit life insurance: Pays off your loan if you die.
- Credit disability insurance: Makes payments on your loan if you’re too ill or injured to work for a time.
- Credit property insurance: Covers property that you’ve used to secure a loan if they are damaged or destroyed.
It’s important to note that unemployment protection, or involuntary unemployment insurance, is only meant to make payments on your loan if you lose your job due to layoffs, general strikes, lockout, or a union dispute. You must be able to show that your job loss is involuntary, through no fault of your own.
IMPORTANT: Quitting your job won’t allow you to file an unemployment protection insurance claim.
Note that self-employed people, including independent contractors, are not eligible for this coverage in most states. Also, you must qualify for state unemployment payments to receive this benefit in most cases.
How Does Unemployment Protection on a Loan Work?
Unemployment protection, or involuntary unemployment insurance, might be offered on a loan when you first get it. It’s an optional coverage, and you can choose to turn it down. In addition, a lender can’t add it to your loan without your consent. Credit insurance, including unemployment protection, must be disclosed as part of your loan offer.
Once you have it, you pay a premium, and if you lose your job, you can file a claim.
In many cases, unemployment protection is designed to make a certain number of payments on your loan on your behalf if you become unemployed through no fault of your own.
For example, you might get a personal loan and purchase unemployment loan protection with it. After a few months, you get laid off. As a result, you don’t have income, so you can’t make your loan payments. The next step would be to file a claim with the insurance company providing the protection. Your lender might be able to help you file the claim paperwork, so it might make sense to find out what services they offer.
Once your claim is verified, your loan payments will be made on your behalf for the period covered by the policy, which typically lasts anywhere from several months, up to around five years. This will keep you from missing payments and possibly suffering damage to your credit score.
Do I Need Unemployment Protection on a Loan?
Some lenders offer credit insurance as part of a loan package. However, they can’t make it a condition of your loan. Borrowers who are unduly pressured into choosing optional credit insurance can complain to theirstate attorney general, their state insurance commissioner, or the Federal Trade Commission (FTC).
Depending on your situation, though, it might make sense. If you’re a high earner who has more income to lose, or if you have a larger loan and you’re concerned about what happens if you can’t make payments, unemployment protection could provide some peace of mind.
However, there are other ways to protect your finances without purchasing involuntary unemployment insurance with your loan. For example, you can build up an emergency fund designed to pay off the loan in the event of job loss. It’s also possible to turn to other resources, such as government unemployment benefits (if you qualify) to help you replace income.
Finally, there are some lenders that offer a level of unemployment protection without the need for insurance. For example, SoFi will allow you to pause student or personal loan payments while you look for a new job, as long as you meet certain requirements. It might also be possible to talk to your lender and work out a hardship plan or forbearance during unemployment.
- Unemployment protection is an insurance policy that can be purchased with a loan that’s designed to make payments on your behalf if you lose your job.
- In order to receive the benefit, you must lose your job through no fault of your own—you can’t retire or leave the job voluntarily.
- You aren’t required to purchase this insurance, but some lenders offer it when you get a loan.
- It’s not always cost-effective for lower earners or those who don’t want to increase the overall cost of their loan.