Everything you should know about credit insurance

Have you heard about trade credit insurance and why it’s crucial?

Many businesses today extend credit to international clients to boost supplier relationships.

However, this approach may expose them to significant risks. 

Imagine the impact on your firm if a buyer defaults on payment or, worse, goes bankrupt. This is not just a setback; it’s a potential disaster on multiple levels.

A Coface report discovered that customers’ default payments contribute to 25% of corporate bankruptcies.

That’s truly alarming!

Yet, in a world where it’s practically impossible to run a credit-free business, a solution exists – trade credit insurance. 

This isn’t just your safety net; it also empowers you to manage receivables confidently.

Curious about how it works?

This guide explores its meaning, how it works, and potential benefits.

What is trade credit insurance?

Trade credit insurance, also known as debtor insurance, accounts receivable insurance, or export credit insurance, protects companies if customers don’t pay what they owe for products or services.

Customers might not pay invoices for several reasons, including payment default, bankruptcy, or insolvency.

If there’s any risk of non-payment that can significantly affect your turnover, you should consider applying for this type of insurance.

How does trade credit insurance work?

Trade credit insurance works by protecting businesses against the risk of non-payment from their customers.

Insurers assess the client's risk, set coverage limits, and reimburse the business up to these limits if a customer defaults. Let’s break it down further. 

Risk assessment 

Insurers first evaluate a business's risk profile, considering factors like trade volume, client creditworthiness, industry, and repayment terms.

These elements determine the cost of the insurance.

Customization of coverage

Businesses can then customize their insurance to fit their needs. They can choose to cover a particularly high-risk client or a specific group of customers.

Some policies also provide secondary coverage, which activates if the primary coverage falls short.

Introduction of credit limits

Insurers assign a credit limit to each customer based on their financial health.

If a client defaults, the insurer covers losses up to this limit. This action protects the business from significant financial damage.

Additional protection

Certain policies also cover non-payment due to international trade embargoes.

For businesses in politically unstable regions, additional insurance may be required for full protection.

Why is credit insurance important?

Data from the ABI suggests that some 14,000 credit insurance policies are taken out each year in the UK alone, with insurers paying companies approximately £4 million (GBP) each week.

Many suppliers (exporters) and buyers (importers) enter trade agreements with deferred payment terms, sometimes exceeding 120 days.

While this is useful for boosting trade, it comes with an increased risk to cashflow.

Suppliers often incur costs for manufacturing and logistics, so they need working capital to cover their expenses quickly.

If the buyer defaults on payment, the seller may be unable to pay its bills and could end up with a cashflow problem.

Credit insurance mitigates this risk by covering losses if a buyer doesn't pay, allowing suppliers to offer flexible payment terms with greater confidence.

Notably, the global trade credit insurance market was valued at $10.58 billion in 2023. It’s projected to grow at a CAGR of 11.2% from 2024 to 2030.

This growth is driven by increased trade expansion and rising demand for protection against non-payment from international buyers.

Additionally, according to research by Barclays, late business payments are increasing.

As a result, more companies are seeking help from financial institutions to protect against difficulties with collecting payments. 

Credit insurance example

This is an example of a 'single risk cover' credit insurance policy.

Other types are discussed in the next section.

ABC Supplier Ltd agrees to sell £500,000 (GBP) of clothing to an overseas retailer, XYZ Buyer Ltd, with 90-day payment terms. ABC Supplier will use XYZ Buyer's payment to cover its manufacturing, material supply, and logistics costs.

However, ABC Supplier is concerned that XYZ Buyer might default on payment and cause those manufacturing, logistics and materials invoices to remain unpaid.

So ABC Supplier buys trade credit insurance to cover its bills if XYZ Buyer doesn’t pay. 

XYZ Buyer then pays the £500,000 (GBP) within 90 days, and all agreements between the parties are concluded. 

What are the types of credit insurance?

The main types of trade credit insurance are single-buyer policies, portfolio policies, and country risk policies.

Single-buyer policies protect credit extended to one customer, while portfolio policies cover multiple customers.

Country risk types guard against risks in specific countries with economic or political instability.

Single-buyer policy

Also known as single-risk cover insurance, it protects suppliers against outstanding debts from a specific high-risk buyer.

Since that entity represents a large portion of your turnover, the financial impact could be severe if they don’t pay invoices.

When that occurs, this policy helps cover potential economic losses.

Portfolio policy

Portfolio policy covers credit extended to a diverse group of customers. It suits suppliers with a larger client base or those dealing with buyers with a lesser risk of defaulting.

Also, it protects against a range of potential bad debts.

Export credit insurance 

It protects suppliers trading with overseas buyers.

Since international trade involves numerous risks, this insurance covers a supplier’s accounts receivables, so they’ll still receive payment on invoices if the client defaults.

Excess of loss

This type protects companies against losses exceeding a specific limit.

While standard credit insurance typically covers a company based on its annual turnover, an excess of loss policy covers financial losses beyond this amount.

Country risk policy

This is designed to protect suppliers that trade internationally with buyers in countries with a risk of political disruption or uncertainty.

Exporting to hostile or economically unstable regions may disrupt trade or damage its value, so having this kind of insurance provides financial cover and peace of mind.

It’s vital to note that some policies may be more suitable for specific companies.

Therefore, it’s vital to consider the best credit insurance type for your business.

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Credit insurance post-COVID

The COVID-19 pandemic led to a surge in companies requesting financial protection against losses associated with non-payment.

The global trade credit insurance market is estimated to be worth $3 trillion (USD) annually.

With increasing global inflation, renewed coronavirus outbreaks, and tighter financial restrictions, many small- to medium-sized businesses engaged in international trade are at increased risk.

Suppliers are often the most vulnerable, given the financial difficulties many would encounter if their buyers don’t pay. 

However, the current volatility of the global economy means providers are looking to avoid lending money in trading conditions they classify as 'high-risk.'

As a result, many small firms are less likely to secure credit insurance, and some are forced to reassess trading partners or seek alternative protection.

Other than credit insurance, what other options are available to provide suppliers with financial security?

4 benefits of trade credit insurance

Trade credit insurance can enhance your business’s financial stability and growth.

By providing protection against non-payment and reducing operational costs, it helps to navigate the complexities of credit management and risk.

Let’s quickly consider some of its benefits.

1. It accelerates business growth

This insurance type is a game-changer for rapidly growing businesses. Imagine your company is suddenly able to increase order volumes with a high-potential client.

Normally, this would mean extensive risk assessment.

But with this insurance type, you can skip some of those steps and soar faster.

2. It reduces operational costs

Managing credit is indeed time-consuming and expensive.

With accounts receivable insurance, you can cut costs on credit assessments and database subscriptions.

Insurance providers often handle the collection of overdue accounts. 

This can save money for businesses dealing with international clients; the sales teams can focus on generating new orders instead of assessing creditworthiness.

3. This policy enhances financial stability even in uncertain times

This insurance type can bolster your company’s fiscal stability.

Firms with trade credit policy are usually seen as having lower risks, thereby leading to better funding terms from banks or other financial institutions.

Furthermore, the modern business landscape is unpredictable, as inflation and supply chain issues can affect your firm’s growth.

With this policy, you can confidently navigate tough times, knowing your business is protected from unexpected circumstances.

4. It protects against non-payment

The core benefit of trade credit insurance is its protection against a client’s inability to pay for the goods they bought. This insurance type covers a substantial portion of the outstanding amount—usually between 75% and 95%.

Thus, you can focus on growth, even when customers have payment issues.

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Alternatives to credit insurance

There are plenty of reasons trade credit insurance can work for companies supplying goods or services to international clients. However, it may not always be available. Here are other alternatives that can reduce the risk of payment defaults.

Non-recourse invoice factoring 

Non-recourse invoice factoring companies advance a percentage of an unpaid invoice to suppliers once goods are shipped, giving them access to liquid capital. The balance – minus any service fees – is transferred once the buyer settles the invoice. 

If they don’t pay, the invoice factoring company takes the loss, eliminating the risk of non-payment from customers.

Letter of credit

This is a legal document issued by a buyer’s bank that confirms the supplier will receive full payment on time for the goods or services provided. It eliminates any risk of outstanding debts as the bank legally commits to the payment terms stipulated in the letter of credit.

Secure your growth with Stenn’s financial solutions

Trade credit insurance is indeed a smart move to protect yourself from the financial hassle of non-payment.

By covering potential losses from defaulting buyers, this method allows you to offer flexible payment terms and confidently grow your business. 

Notably, if you want to take your cashflow management game a step further, Stenn is here to help!

With our invoice financing option, you can get the liquidity you need in order to focus on what really matters—growing your business. 

We also offer revenue-based financing, giving you access to non-dilutive capital based on your future revenue. You pay back at your own pace, with rates that grow as you do. Explore our financing options today to boost your cashflow and simplify your finance management!