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What can be insured?
Receivables insurance is purchased by businesses selling to businesses (b-to-b) with payment terms generally not exceeding 180 days. It covers the policyholder (the seller) not being paid by their customer (the buyer).
For coverage to apply, non-payment must be as a result of:
- the buyer being insolvent;
- the buyer being excessively slow in paying, or,
- an economic/political event outside of the control of the buyer or seller
A policy is issued which describes how the coverage works. A “credit limit” for a buyer is then issued which actually triggers the coverage, according to the policy, for amounts owing by that buyer.
A buyer payment default leads to a claim being submitted – the policyholder recovers life-saving lost cash flow thereby protecting its business.
A Receivables Insurance policy describes how the coverage works. A “credit limit” for a buyer is issued to trigger the coverage, according to the policy, for amounts owing by that buyer.
A buyer payment default leads to a claim being submitted – the policyholder recovers life-saving lost cash flow (usually 90% of the amount owing) thereby protecting its business.
Receivables Insurance insures suppliers against the risk of non-payment of goods or services by their buyers. This may be a buyer situated in the same country as the supplier (domestic risk) or a buyer situated in another country (export risk). The insurance covers non-payment as a result of insolvency of the buyer or non-payment after an agreed number of months after due-date (often referred to as protracted default). It may also insure the risk of non-payment following an event outside the control of the buyer or the seller (political risk cover), for example the risk that money cannot be transferred from one country to another.
Receivables Insurance insures against the risk that a buyer does not pay. It can also cover the risk that a buyer pays very late. A buyer will not pay after he has been declared bankrupt, insolvent, or a similar legal status. Similarly buyers sometimes opt for a bankruptcy protection arrangement, which allows them to delay payments for an extended period. Both instances are covered under a Receivables Insurance policy. Receivables Insurance policies can include a wider range of cover, depending on the circumstances. Some policies consider a delay in payment to also be an insolvency (so-called protracted default cover). If a buyer does not pay, the Receivables Insurance policy will pay out a percentage of the outstanding debt. This percentage usually ranges from 75% to 95% of the invoice amount, but may be higher or lower depending on the type of cover that was purchased.
Receivables Insurance policies are flexible and allow the policyholder to cover the entire portfolio or just the key accounts against corporate insolvency, bankruptcy and bad debts. The most common type of cover is so-called Whole Turnover Cover, which covers all buyers of the policyholder.
A domestic credit insurance policy addresses the payment risks from buyers that are established in the same country as the seller. So-called domestic policies usually have low premium rates and a relatively simple structure.
Both export and domestic receivables resulting from B2B sales of goods or services on payment terms of less than 360 days can be covered BUT THERE ARE EXCEPTIONS….
Sales to affiliated companies
Sales where there is an unresolved dispute between the buyer and seller
Sales involving parties appearing on terrorist or sanctions lists
Sales to buyers that are not approved for coverage or if the terms are not approved for coverage
Sales where the seller expects a claimable event to occur such as when a buyer is already past due.
A domestic credit insurance policy addresses the payment risks from buyers that are established in the same country as the seller. So-called domestic policies usually have low premium rates and a relatively simple structure.
This is the risk that a buyer cannot pay or that goods cannot be delivered due to circumstances outside of your or your buyer’s control. These circumstances usually include war, terrorism, riots, and actions by (local) governments, such as changes in export or import regulations that affect the outcome of the transaction. Some policies also include natural disasters as a cause of loss under this heading. There may be a risk that money cannot be transferred from one country to another due to measures taken in the country where your buyer is based. This is also considered a political risk. Failure to pay by a public buyer is always considered a political risk.
Protecting assets in foreign jurisdictions against nationalization, confiscation and expropriation is commonly referred to as political risk insurance and does not form part of a receivables insurance policy….BUT receivables insurance does cover the risk of political events occurring that prevent a foreign buyer from paying. Political events covered include war, insurrection, government actions and currency convertibility issues.
A Receivables Insurance policy can cover the event that a buyer cannot meet its payment obligations because of war or hostilities between countries, rebellion, revolution, insurrection, civil disturbances and acts of political terrorism.
The premium rate is much higher because of the reduced spread of risk
The buyer approval conditions are much more rigorous.
Selected risk policies are available. Typically, sellers are concerned about a buyer because the risk of a loss occurring is higher. Selected risk policy coverage conditions will be much more restrictive and much more expensive.
Yes, but insured single transactions are typically very large and complicated. Most often they are restricted to sellers who only deal with one or two buyers and require manuscript (bespoke) policies.
Payment from a buyer can be obstructed as a result of unexpected political events such as strikes, protests, or other civil unrest. And civil unrest does happen …. just look at Washington DC in late 2020. Who would have thought? A political event claim payment through a receivables insurance policy will ensure that vital cash flow, and hence your business, will survive.
Companies’ Creditors Arrangement Act (CCAA – Canadian Legislation) and Chapter 11 (US legislation) is a court order freezing a company’s debts. There is similar legislation in many other jurisdictions. Credit insurers equate this to bankruptcy. Happily for thousands of policyholders annually – this is covered.
A change in government in the country of the buyer, may lead to a change in politics. In case the buyer is nationalized, his payment obligation may be subsequently cancelled. Payment can be assured through political risk cover.
So what happens if the Policyholder’s buyer wants to and is able to pay BUT is not able to obtain a convertible currency from their government? The Policyholder is able to submit a claim under their receivables insurance policy.
Receivables Insurance policies are drafted to suit your needs. This makes them unique for each customer. A trade credit insurer will always investigate your particular circumstances and wishes. The result is a custom made policy at a corresponding affordable premium. Most trade credit insurers also offer standard policies, which may be more suitable depending on the trade to be insured. Many trade credit insurers have developed particular policies aimed at small and medium sized enterprises (SME). These policies have low administration, and are competitively priced.
Fill in a receivables insurance policy application! Applications can be obtained directly from an Insurer (through one of their agents) OR – from an insurance broker. Brokers will take your information and get quotes from several insurers – it is best to use a broker specializing in receivables insurance. The RIAC website lists the top specialist brokers.
Like all insurance, the cost depends upon many factors. Generally, the more risk, the higher the price. Overall price can be reduced using deductibles or other mechanisms. Example?: For a SME with $5 million in sales, for every $100 in sales, the cost would be 20-25 cents. Quotes are free – why not ask an insurer or your broker?
The total premium payable on a policy is dependent upon the risk. The risk varies according to the value of sales covered, the number and riskiness of buyers, the political/economic riskiness of the countries to which sales are made, policy limits and the amount of risk sharing (deductibles). The calculation of premium differs from insurer to insurer and can be a percentage of sales, a percentage of coverage written or a fixed amount based on a wholistic view of a policyholder’s business. A specialist broker is well positioned to shop the market for the most suitable price/structure.
Multinationals are companies that have operations in several countries. Multinationals may require a single policy that covers all of their operations from a wholistic point of view and ignores service to each operating entity. Other multinationals prefer a policy that provides coverages and services to each operating entity according to the language and laws of the jurisdiction in which they are located. A specialist receivables insurance broker can analyze a company’s needs and provide a solution from amongst the several insurers offering policies in Canada.
In Canada many accounts receivable insurers offer policies aimed at small and medium sized enterprises (SMEs), which contain simple language, are competitively priced, and have low administration. Often these policies are available on-line, directly from the insurer.
The maximum liability amount is used to limit the loss that can be sustained through one single policy. The value of the maximum liability affects the policy pricing.
If the total admissible claims submitted under a policy in one policy period exceeds an amount that the insurer and the policyholder have agreed is the policy maximum liability, the total value of the actual claims paid for that policy is limited to that amount.
Whole turnover means all of a policyholder’s sales. By applying to insure all sales to all buyers – rather than just sales to the riskiest or largest buyers – the premium per dollar of cover is much lower …. and …. with a comprehensive credit insurance underwriter – all buyers are monitored all the time.
When a buyer experiences financial difficulty, but is not insolvent, and cannot pay their trade debt owing after a predefined period of time after that due date, it is in Protracted Default. A Receivables Insurance Policy will then pay a Protracted Default claim.
Credit management is broadly defined as how a company manages the collection of money owing to them as the result of the sale of their products/services. Very conservative companies demand payment up front. They will get their money for sure but their competitors that offer credit payment terms (e.g. 30 days after delivery) will eat their lunch in terms of higher sales and business growth. The company that offers credit payment terms will need to determine if credit can be offered to a specific buyer (can they pay) and make sure that collection processes are in place – that is credit management. Credit managers love receivables (credit) insurance.
Suppliers that deliver goods and/or services on credit will have to manage this credit risk to ensure that payment is received on time. Several tools come to the aid of today’s credit manager. These can be used as additional security to existing credit management procedures. If no procedures are in place, these tools can assist in setting these up.
One of the most important credit management tools is reliable up to date buyer information. A supplier only sees one side of his buyer. Independent information is essential for efficient credit management.
A buyer may be sound, but the country he is in may be experiencing problems. Country reports detect trends and alert exporters before serious problems arise in a particular country.
Suppliers need to manage their outstanding receivables. This can be done through complex financial solutions. Alternatively companies can insure against bad debts through a Receivables Insurance policy, obtain detailed market intelligence, implement ledger management, factor, or seek professional help in recovering debts.
Pro-active debt collection procedure has a high success rate. A buyer may be in difficulty, but the supplier can still control payments, provided professional debt collection procedures are in place. Most Receivables Insurance companies either offer debt collection services, or have partnered with specialised collections firms.
By transferring receivables, this financial technique makes it possible for companies to fund all or some of their invoices and thus cover their operating capital requirements; obtain cover against their customers’ insolvency; obtain payment of receivables with shorter payment terms; obtain information on their customers’ financial soundness; outsource or vary their administrative expenses; and optimize current assets and liabilities.
Liquidity boils down to collecting receivables and keeping the working capital lender happy. Without receivables insurance, a bad debt means a receivable will not be collected and, equally punishing, can lead to contracting working capital loans. Receivables Insurance replaces cash flow loss due to a bad debt with a claim payment and comforts the lender that their collateral, accounts receivable, is protected.
Customer bankruptcy means that your customer cannot pay you for what you have sold to them. Without receivables insurance you apply to the bankruptcy monitor and hope to get paid at best a few cents on each dollar owed to you many months in the future. With receivables insurance, after applying to the bankruptcy monitor, you submit your claim to the insurer and promptly receive lost cash flow.
Customer Insolvency is the customer not being unable to pay its debts as they become due. Practically, in the receivables insurance world, this event is usually specifically defined. Broadly speaking, Insolvency is signalled by some concrete action such as the customer applying to the courts for protection from creditors, or a trustee or receiver being appointed to take over the customer’s assets and operations. The date of that concrete action is then identified as when the Insolvency occurs.
Receivables Insurance policies state specific events that trigger a claim – most often including insolvency, slow pay and defined political/economic occurrences. If such an event occurs, you should notify your insurer, follow your collection procedures and liaise with your broker and/or insurer about what further action to take – including submitting a claim. It is important to note that your receivables insurance policy does not pay claims for nonpayment if it is caused by a buyer disputing the amount owing ….. until that dispute has been resolved.
An Insurer and a Policyholder agree up front on the required actions and when to take them when collecting accounts receivable. Adherence forms part of claims documentation. Sometimes a required action calls for a collection agency. Insurers often have partner collection agencies which, when used, means facilitated claim payments. In some instances, insurers will contribute to debt collection costs.
DOMESTIC & EXPORT RECEIVABLES INSURANCE
Receivables Insurance covers payment risks resulting from trade with buyers. If the seller or policyholder decides to only insure his trade with buyers situated in his own country, the cover is referred to as domestic credit insurance. This type of cover usually insures against non-payment as a result of insolvency (bankruptcy). It can also insure against the risk that payment is not received after an agreed period (usually 6 months) (protracted default).
Receivables Insurance covers payment risks resulting from trade with buyers. If the seller or policyholder decides to only insure his exports, i.e. his trade with buyers situated in other countries than his own, the cover is referred to as Export Credit Insurance. There are many additional risks if payment is due from a buyer in another country. Not only is it more difficult to determine the buyer’s current status, many instances may occur that prevent payment taking place. Riots, war, exchange restrictions or changes in import regulations can determine whether payment can be expected or not. An Export Credit Insurance policy addresses all these and other risks.
Export risks often include so-called political risk. Political risk is not insured in domestic policies. In the past this distinction was of importance, because political (export) risk cover was normally only obtainable through government programs, either offered by an Export Credit Agency (ECA) or through a private company with a reinsurance arrangement with their national authorities. The result was that the customer needed two separate and different policies: one for his domestic trade and one for his exports. This resulted in extra administration and the need to be aware of the different conditions and requirements in each policy. For many years cover has been available from the private market for both commercial as well as political risks. This means that customers can now insure their domestic and export credit risks in one single policy. Particularly in the case of multinational traders this is of value as the distinction between export and domestic risks is often irrelevant for these enterprises.
The trade credit insurer issues a credit limit for every buyer with whom the policyholder trades. The level of the limit is set at the maximum amount that can be owed by the buyer at any time. Limits are granted at a lower level, if the underlying information justifies this. The granted credit limit is the maximum insured credit line for a specific buyer and the policyholders can trade on an insured basis within the approved credit limit throughout the policy period without further reference to the insurer. If a discretionary limit has been agreed, exposures up to that amount do not have to be agreed by the insurance company but are covered based on the payment experience of the policy holder.
The insurance company has the right to reduce or cancel a granted limit at any time, usually as a result of negative information. This allows the exposure to be brought down in a timely manner, as negative news (such as deterioration in payment behavior) is known immediately. A new limit will apply to all deliveries that are made by the policyholder to the buyer after the date of the trade credit insurer’s decision to reduce or cancel a limit.
Trade credit insurers are not always aware of the identity of all the insured buyers or debtors of their clients (specifically the smaller ones). Policyholders are normally given a discretionary amount up to which they may trade under the cover of the policy without notifying the insurer. Any exposure exceeding this discretionary amount is known by the underwriter and confirmed by means of a written credit limit.
Trade credit insurers are not always aware of the exact usage of the granted credit limits, although average usage is known, and high risk exposures are actively monitored.
Fundamental differences between the banking and the Receivables Insurance business exist not only with respect to the contractual relationship between the institution and its credit user but also with respect to the risk taken. A trade credit insurer does not issue a credit to a company, but issues a conditional insurance policy.
Mastery of sophisticated financial analysis and data management techniques is a key success factor in Receivables Insurance, as is global-scale service provision. Multinational trade credit insurers have local teams based throughout the world to evaluate the financial position of buyers worldwide on a daily basis.
The risk is diluted through insurance techniques and risk sharing, by moving a larger or smaller part of the risk to a reinsurer. Insurance techniques are used to mitigate the risk and avoid moral hazard & adverse selection. These include assuring an adequate spread, regionally as well as over sectors, dynamic risk management, agreed maximum liabilities as well as risk sharing agreements and debt collection.
A Receivables Insurance policy is a conditional insurance contract between two parties that cannot be traded. A financial guarantee is unconditional, usually on-demand, and transferable.
A trade credit insured risk is always directly related to an underlying trade transaction, which is either the delivery of goods or of services. The correct fulfillment of this trade transaction is essential for trade credit cover to exist.
A financial guarantee is independent and does not rely on any third contract.
Trade credit insurers insure against the risk of non-payment. Most insurers also offer additional products, such as collections services, buyer/country rating, portfolio assessment and securitisation.
A factoring company buys receivables. It may also be used to outsource some of the activities of the credit department. The purchase of receivables ensures payment at a fixed date and makes it possible for companies to fund all or some of their invoices and thus cover their operating capital requirements; obtain cover against their customers’ insolvency; obtain payment of receivables with shorter payment terms; obtain information on their customers’ financial soundness; outsource or vary their administrative expenses; and optimize current assets and liabilities.
A factor company does not provide cover against non-payment on its own. Many factor companies partner with Receivables Insurance companies with regard to providing this cover.
Marketable Risks is a term used in the European Union and refers to those country risks, which are covered by private Receivables Insurance companies without the support of their government. Consequently, Non-Marketable Risks are those country risks for which no cover is available in the private market. Nowadays few country risks are non-marketable. Trade credit insurers determine their position on each country in the world, by underwriting the risks in the country in question based on its economy, stability, currency and payment statistics. As a result, only countries that are at war or that can be considered to have failed economies are usually off cover, and therefore non marketable (e.g. Iraq, Zimbabwe). Country risks are reviewed continuously which can result in changes, making previously non-marketable risks marketable. The reverse is rarely the case, and is usually the result of armed conflict or economic meltdown.
Following an IASB amendment regarding IFRS 4 Insurance Contracts and IAS 39 Financial Instruments, Receivables Insurance contracts can be accounted for under the Standard for Insurance Contracts (IFRS 4).This will be reviewed in phase 2 of the IASB project.