The only PPI worth buying

Most payment protection policies are a right rip-off, but this is a valuable safety-net.

Habitual lovemoney.com readers will know that I'm not a big fan of payment protection insurance (PPI). Indeed, I've spent nine years waging war on these rip-off policies.

A protection racket

The good news is that, following their retreat in April, British banks have agreed to pay compensation for mis-selling PPI. The total bill for settling this scandal could be as high as £9 billion, divided between four to five million customers.

In effect, lenders have been forced to admit that, since the early Nineties, they have been methodically mis-selling PPI to British borrowers. As a result, I reckon that the majority -- perhaps three-quarters (75%) or more -- of PPI policies have been mis-sold. In millions of cases, this cover isn't worth the paper it's written on.

Don't buy this PPI

Of course, I'm not condemning the PPI market in its entirety, even though most policies are overpriced, badly designed, and packed with loopholes and get-out clauses.

Nevertheless, I would urge you not to buy the extortionately priced payment protection insurance sold alongside credit cards, store cards and personal loans.

For example, Credit Card Repayment Protection (CCRP) brings in roughly £1 billion a year for its providers, yet payouts from this cover for death, accident, sickness and unemployment are minimal. In many cases, CCRP is up to ten times as expensive as it should be, making it a prime candidate for any financial Hall of Shame.

Personal Loan Protection (PLP) covering unsecured personal loans offers equally poor value for money, adding between 12% and 25% to the cost of a loan.

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In short, both CCRP and PLP are a complete and utter waste of money for the vast majority of borrowers. However, if you want this cover, then don't buy it from any lender. Instead, shop around for stand-alone policies from the likes of award-winning firms British Insurance and Paymentcare.

The only PPI to buy

What's more, you can use the money saved from cancelling unwanted CCRP and PLP policies to pay for a decent mortgage PPI policy to protect your home loan.

While most PPI polices are a massive rip-off, mortgage PPI (MPPI) can be a sensible buy. Thanks to stricter regulation of home loans, MPPI is the most attractive payment protection insurance, offering useful cover at sensible prices.

Alas, only one in six mortgages (17%) is protected by MPPI. With around 11.3 million homebuyer loans in the UK, this means that around 9.4 million homebuyers have no accident, sickness and unemployment policy covering their mortgages.

A shaky safety-net

If you don't have MPPI or a rainy-day fund to fall back on, then you may have to rely on the feeble state support for homeowners.

This benefit, known as Support for Mortgage Interest (SMI), pays interest (but not capital repayments) at a standard interest rate of 3.63% on up to £200,000 of your home loan.

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However, SMI is difficult to claim, as you need to be receiving certain means-tested benefits to qualify for it. In fact, more than 70% of those out of work don't qualify for SMI.

Also, you get no benefits for the first 13 weeks of your claim, so you'll need enough put aside to cover three months' mortgage payments for when you're out of work.

In summary, SMI is a shaky safety-net at best, so don't rely on it to prevent mortgage arrears or stop your home from being repossessed.

Best Buys for homeowners

If you are interested in being covered by mortgage PPI, then the first rule is not to buy it from your lender. Thanks to sky-high profit margins, MPPI sold by lenders can be two to three times as expensive as the Best Buy policies. In fact, buying the wrong MPPI policy could waste £300+ a year.

In the PPI market, the independents outshine the big players, because the major lenders have grown fat from charging rip-off rates.

Here are three Best Buys for stand-alone MPPI (offering accident, sickness and unemployment cover to a 40-year-old man, paying out £500 a month for up to 12 months):

Source: Company websites, 08/06/11

The above quotes are for a 40-year-old man, but cheaper cover is available for younger borrowers (who often recover quickly following accidents and illnesses). For anyone under 45, iProtect tends to top the tables, but Paymentcare is almost always cheapest for homeowners aged 45+.

To check out a wide range of MPPI policies, get a quote from the official Money Made Clear website, which has an excellent comparison wizard for MPPI.

In summary, why pay upwards of £500 a year for MPPI when you can buy similar (or better) cover for around £200? Don't delay, switch and save today!

More: Check out lovemoney.com's MoneyTrack budgeting tool | Get your insurer to pay out | Beware this loan scam