Magazine article Business Credit

Understanding Cancelable vs. Non-Cancelable Limits under Trade Credit Insurance Policies

Magazine article Business Credit

Understanding Cancelable vs. Non-Cancelable Limits under Trade Credit Insurance Policies

Article excerpt

There's been a lot of discussion lately within the U.S. trade credit insurance market about the difference between so-called "cancelable" and "non-cancelable" trade credit limits. Trade credit insurance, of course, is the protection provided by an insurance company against a loss that may be suffered by the policyholder when, having sold a product or service on credit terms, the policyholder's customer defaults in its repayment obligation. The trade credit limit is the amount of loss that the insurer will reimburse to the policyholder (prior to any coinsurance or deductible) for a specific customer.

Long viewed as separate yet ordinary features of the trade credit insurance landscape, the distinction between cancelable and non-cancelable forms of coverage hit center stage during the financial crisis several years ago. Throughout that period, some policyholders with cancelable limit-type policies experienced withdrawals of some of their trade credit limits. Although withdrawals had always been a possibility under the terms of these policies, and while some policyholders had previously seen isolated withdrawals, the relatively large number of withdrawals that took place during the crisis was unusual.

Among the reactions to this credit limit withdrawal exercise was a decision by some to investigate coverage options under a non-cancelable format. Reasonable enough. But a business decision of this sort merits careful consideration of the differences between the products and why some limits are withdrawn in the first place.

An important point to know is that a number of trade credit insurance companies offer both cancelable and non-cancelable limit-type products. So, the distinction is not necessarily one of insurance company but of product offering. Both products have been sold successfully in the United States for many years and, in a sense, each tends to serve a different constituency. Another fact is that while some insurers went through a credit limit withdrawal exercise for some of their cancelable limits during the financial crisis, not all insurers that offer cancelable limits took the same approach. Generally, the magnitude and frequency of the withdrawals, if any, were driven by each insurer's risk assessment (underwriting) models, business decisions and the characteristics of its policyholder base. It should be understood, too, that the credit limit withdrawal exercise that occurred among some insurers is long-concluded, reflecting an easing of the financial crisis.

So, what is the difference between cancelable and non-cancelable limits? The terminology is obvious but it's only shorthand for the dynamics of what can or cannot happen.

Cancelable Limits

Under a cancelable limit, the insurance company may, at its discretion, amend or withdraw coverage attaching to future transactions between the policyholder and its specific customer. Even this description may be simplistic because each insurer typically has conditions about how much notice may be given prior to withdrawal and whether there are any exemptions or appeals that may apply to the withdrawal.

While policy language allows the insurer to amend coverage at their discretion, in fact, limit reductions or withdrawals will typically be the result of a serious deterioration in the risk being insured, such as the credit quality of the policyholder's customer. Such heightened risk may arise from factors specific to that customer (e. …

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