How VSI Insurance Provides Comprehensive Protection for Lenders
Written by: HUB Financial Services
Vendor Single Interest (VSI) insurance safeguards lenders against potential losses in their vehicle portfolios. This strategic solution offers many benefits but requires careful tracking management for efficient use.
If your institution is considering VSI insurance to enhance your risk management and asset protection, this article will serve as a comprehensive decision-making resource.
Why Do Lenders Utilize VSI Insurance?
Lenders today face increased risks from automobile loan charge-offs due to ever increasing inflation costs and economic uncertainty.
- Nowadays, borrowers also have greater power to manage their vehicle insurance policies via online options and that is not always a good thing for the financial institution.
- This freedom can come with greater risk through errors in placing the coverage or through monetary inadequacies.
- However it occurs, lenders are responsible for making sure the borrower is complying with their loan agreement and has adequate insurance coverage in place to protect the bank’s interest in the collateral.
Unfortunately, borrowers sometimes fail to comply with these insurance requirements of their loan agreement, which can put the lender at risk of losing money if the vehicle is damaged in an accident or stolen.
Also, charge-offs in the vehicle category tend to tick higher during economic downturns and we start to see more skips. Successful lenders need to constantly strive to minimize these risks by tracking insurance and force placing or buying blanket insurance. An easy way for Lenders to mitigate risk is by using VSI insurance.
What is VSI Insurance?
VSI insurance, also known as Vendor Single Interest Insurance, is a specific type of insurance that aims to protect a lender’s portfolio of vehicle loans by transferring the risk to the insurance company.
This can be crucial since VSI will protect the lender against the risk of substantial losses should the borrower not maintain adequate insurance on their vehicle.
- By securing VSI insurance, lenders significantly reduce the collateral risk associated with vehicle loans by transferring it.
- We know the borrower is contractually obligated to maintain physical damage insurance on the vehicle, but if coverage lapses, borrowers can create collateral risk for the lender.
- VSI insurance serves as a critical layer of protection, allowing lenders to more efficiently improve the financial health of their vehicle portfolios.
VSI Insurance protects the value of the vehicle during the life of the loan. This type of coverage also protects the borrower by extension. Even though it’s termed “single interest”, a borrower can potentially benefit from their lender holding this type of policy because a VSI claim payment will reduce a borrowers’ charge-off balance. The borrowers benefit as their unpaid loan balance is reduced and sometimes eliminated.
How Does VSI Insurance Work?
VSI Insurance is used by large, indirect lenders as well as smaller banks and credit unions throughout the USA. VSI Insurance has passed the scrutiny of the CFPB and other regulators, and is legal in all states.
Vehicle Single Interest insurance is most widely utilized in pocket regions specifically due to focused efforts by brokers in those regions back in the 1980’s. This tool is available across the US for any interested institutions.
A blanket VSI policy offers rate stability to the lender in both good and bad economic cycles. If a borrower’s coverage lapses for any number of reasons, that premium pays for repossession damage & skip claims.
There are many coverages incorporated with VSI, including:
- Physical damage & theft
- Skip & confiscation
- Instrument non-filing
- Repossessed vehicle coverage
It’s clear that VSI has many benefits, but are there any drawbacks?
As with all insurance products for lenders, VSI policies must be compliant and HUB Financial Services is positioned to ensure our clients maintain all regulations.
How is VSI Insurance Paid For?
In many states, costs can be passed on from the lender to the borrower. In order to mitigate lender expenses, it involves charging the borrower a small premium at the time of their loan origination.
However, lenders can also choose to pay their VSI premium based on the monthly outstanding amount of the portfolio’s loan balance. A lender can pay a one-time premium on VSI insurance when they originate a loan with the borrower.
VSI vs CPI: Insurances to Protect Lender
Along with VSI insurance, some lenders also consider using CPI insurance for protection against loss from vehicle loans. Known as Collateral Protection Insurance, CPI insurance targets its coverage only on those borrowers who have not complied with the insurance portion of their loan agreement, rather than the entire portfolio itself. In essence, this allows the lender to target coverage only toward the loans of borrowers they believe will need coverage.
In most cases, this may be no more than three percent of all loans within a lender’s portfolio.
However, CPI does require the use of a vendor that has a specialized tracking system that allows for reliable and accurate communication between the lender, borrower, and insurer. This will allow everyone to know when coverage will need to start or end and how much coverage to put in place. However, because letters are being sent to borrowers and coverage is being force placed, it can lead to decreased borrower satisfaction with their lender.
Overall, VSI insurance, since it does not require the financial institution to send letters and force placed insurance, tends to make life easiest for both lenders and borrowers. Since a lender will never know for sure just which borrowers may wind up having problems with the insurance coverage on their vehicles, VSI insurance can offer peace of mind for the lender by protecting them against the unexpected.
Pros and Cons of VSI Insurance
Like any type of insurance coverage, VSI insurance comes with various pros and cons.
- The biggest advantage it offers is providing blanket coverage on all vehicle loans in the lender’s portfolio without having to track for insurance and it spreads the cost of the coverage across every borrower.
- Perhaps most importantly, it will help protect a lender from a variety of unexpected situations that may ultimately lead to charge-offs, such as skips or repossessed collateral with physical damage.
- Since it can take only a few vehicle loans going bad for a lender to suffer financial losses, VSI insurance is looked at as a very viable and easy option in terms of coverage.
The potential con of VSI Insurance relate to the regulations that protect consumers as part of TILA, The Truth in Lending Act. Complying with TILA is tedious without a modern insurance tracking system, but most financial institutions employ insurance tracking making this a moot point.
As the leaders in compliance regulation resources, we are providing the complete details of TILA regulations for any institutions that do not yet employee insurance tracking software and manually need to manage these communications.
VSI Insurance Compliance and VSI TILA Disclosures
As stated, the VSI Insurance premium can be charged to the borrower at loan origination as long as the Retail Installment Sales Contract (RISC) uses the proper disclosures as defined in TILA.
- This disclosure states that the lender requires VSI Insurance, but the borrower may obtain coverage elsewhere.
- Also, but not shown in the disclosure, the VSI Insurance company may not subrogate against the borrower.
VSI is not popular in eight states because the APR calculation must include VSI premiums:
- AL
- DE
- IA
- MI
- NJ
- PA
- TX
- WI
The remaining 42 states allow the APR exclusion for VSI premium, making it a more attractive solution.
Reduce Charge-Offs Through VSI Insurance
Once a lender has VSI insurance, they can reduce charge-offs in a multitude of ways. A typical VSI policy will include coverage not only against skips, but also for non-filing errors and omissions, uninsured physical damage, and theft.
VSI claims typically pay the actual cash value or the cost of repairs to a vehicle, whichever is the lesser amount. Also, waiver of actual cash value coverage is a common option added to these policies in order to get a higher claim settlement. A vehicle loan must already be in default before a VSI insurance claim can be submitted, but thanks to its single-interest feature, VSI has all settlements on claims going directly to the lender.
By taking advantage of the premium being spread across all borrowers through VSI insurance, lenders can further reduce charge-offs due to not having CPI premium on individual loan balances. These lower loan amounts help to decrease charge-off amounts. This is one of the additional advantages of having VSI vs CPI insurance.
Even though loan agreements do require borrowers to maintain proper insurance coverage on their vehicles, VSI insurance offers many advantages by providing blanket protection, spreading premium across all borrowers in the portfolio, continuous coverage, and eliminating the need to manually track the vehicle insurance of all the borrowers within the lender’s vehicle loan portfolio.
Conclusion
The benefits of VSI insurance extend beyond lenders’ interests, positively impacting borrower relationships. Lenders seeking tools to strengthen their vehicle portfolios should consider VSI as a viable option.
In most states, VSI insurance is a convenient and easy option for today’s lenders. To gain more control over potential charge-offs and eliminate insurance tracking, reach out to our team of experts today!