Financial and Legal Costs/Insurance Premiums
|Unit 4.8-Financial and Legal Costs|
In general terms, insurance is a transfer of risk from one party to another (an insured to a carrier) for a consideration referred to as a premium. A credit insurance policy specifically insures the extension of credit from one company to another by guaranteeing, according to the terms and conditions of the policy, that a seller will be paid either by a buyer or an insurance company.
Policies can be tailored to meet specific needs. A general coverage policy can cover shipments to buyers through various combinations of coverage:
- blanket limits on all customers
- coverage on specific customers for specific amounts
- protection for larger accounts only where these customers represent a significant concentration of risk
- for businesses with large numbers of small balance accounts
Preset limits are structured around the credit rating of the Governing Mercantile Agency named in the policy (usually the credit rating agency used in the credit department or industry). This method demonstrates the flexibility of contemporary insurance policies by associating a table of ratings from the "governing agency" with predetermined limits of exposure. These agencies are either non-industry specific such as Dun & Bradstreet or industry specific such as Lyon's Furniture, Lumberman's Credit Association or Jewelers Board of Trade.
Costs of Insurance
Insurance costs depend on many factors: policy structure, creditworthiness of the risks involved, and the amount of retention of risk assumed by the insured. Typically a policy of domestic credit insurance would range between 1/10% of sales to 4/10% of sales. Additional considerations include the degree of risk (or quality of the customers and countries); historical loss experience in the organization; current credit extension and collection operating procedures; level of experience or expertise (as evaluated by the insurer); and the concentration or distribution of risk throughout the customer base. However, as with any insurance product, the quality of what is being insured will have a bearing on the cost of the insurance. Thus the insurance supplier should be viewed as a partner in the credit management objective. Consequently, the better job the company is doing, the more economical the insurance is in protecting the company against a catastrophic loss.