Buying a car is a significant investment, and often, people choose to finance it through loans or other credit options. When a car is financed, the lender typically has a legal right over the vehicle until the loan is fully repaid. This legal right is known as hypothecation.
Understanding hypothecation is important, especially when dealing with car insurance, including third-party car insurance. This blog will explain what hypothecation means in the context of car insurance, why it matters and how to remove it once your loan is settled.
Hypothecation in car insurance explained
Hypothecation is a legal agreement where a borrower pledges an asset, such as a car, as security for a loan. However, the borrower retains possession and use of the asset during the loan period. In the case of car loans, the vehicle itself is hypothecated to the lender, usually a bank or a financial institution, until the borrower repays the entire loan amount.
When you purchase a car on loan, the hypothecation clause is added to the car’s registration documents. This means the lender’s name is recorded as a “hypothecated party” on the vehicle registration certificate (VRC). Essentially, this gives the lender a legal claim over the car. If the borrower isn't able to repay the loan, the lender might take possession of the vehicle.
In terms of car insurance, hypothecation is significant because the lender’s interest must be protected until the loan is cleared.
Hypothecation impacts car insurance in a few key ways. When a car is hypothecated, the lender requires proof that the vehicle is adequately insured to protect their interest. This means that the insurance policy must cover any potential loss or damage to the car, so the lender does not suffer financial loss if the car is damaged or stolen.
Third-party car insurance covers damage caused by your vehicle to other people but not damage to your own car. However, when a car is under hypothecation, lenders often insist on a more comprehensive insurance cover to protect the financed asset fully.
Points to note about hypothecation
There are several important points to keep in mind regarding hypothecation in car insurance:
- The Registration Certificate (RC) that you receive from the Regional Transport Office (RTO) when getting a newly purchased car registered in your name, will carry a note stating that the car is hypothecated in favour of the bank which has given the car loan.
- Your car insurance policy will also be in favour of the bank which has sanctioned your car loan.
- Once your car loan is fully paid up you need to take a couple of important steps to get the hypothecation removed.
- Obtain an NOC (No Objection Certificate) and Form 35 from the lending bank and submit it to the car insurance company.
- The insurance company will revise their records and change the car insurance to reflect your name as the owner. This removes hypothecation from your car insurance.
- Next submit the bank NOC along with the updated car insurance papers to the RTO where you got your car registered and get the hypothecation cancelled from the Registration Certificate.
- You will be issued a fresh RC and then you can be confident that you truly own your car.
Importance of removing hypothecation
Removing hypothecation is an important step once you have fully repaid your car loan. Until the hypothecation is removed, the lender retains a legal interest in your vehicle. Here are some reasons why removing hypothecation matters:
- Complete ownership: Removal of hypothecation means you gain full ownership rights over your vehicle, without any legal claim from the lender.
- Ease of sale or transfer: You cannot sell or transfer ownership of your car without the lender’s consent. Removing hypothecation allows you to transfer or sell the vehicle freely.
- Insurance flexibility: Without hypothecation, you can choose any type of car insurance policy, including third-party car insurance or comprehensive insurance, without the lender’s restrictions.
- Peace of mind: It confirms that your loan obligations are complete and there are no pending financial claims by the lender on your vehicle.
Documents required to remove hypothecation
The process to remove hypothecation requires certain documents, which vary slightly depending on the lending institution and the region. Typically, you will need the following:
- No Objection Certificate (NOC): This is issued by the lender after full loan repayment. It states that the lender has no objection to removing the hypothecation.
- Loan closure letter: A letter from the lender confirming that the loan is fully repaid.
- Original Registration Certificate (RC) book: The RC book contains the vehicle’s registration details. It will have the hypothecation details marked, which need to be updated.
- Form 35 or equivalent: This is an application form submitted to the Regional Transport Office (RTO) or equivalent authority for the removal of hypothecation.
- Insurance policy document: Copy of your current car insurance policy, showing coverage.
- Identity proof and address proof: Documents verifying the owner’s identity and address may also be required.
Once you submit these documents, the hypothecation entry will be removed from your vehicle registration records. A new RC without the hypothecation details will be issued.
Conclusion
Hypothecation in car insurance is a crucial concept to understand if you have financed your vehicle through a loan. It represents the lender’s legal interest in your car until the loan is fully repaid. That said, while understanding hypothecation is important, it’s equally essential to invest in the right car insurance. Beyond fulfilling legal obligations, insurance provides a financial safety net in case of unforeseen events like accidents, theft, natural disasters or vandalism. A comprehensive car insurance policy typically covers damages to your vehicle, third-party liabilities, personal accident cover and even legal expenses in some cases.
Disclaimer: The information provided in this blog is for educational and informational purposes only. It may contain outdated data and information regarding the topic featured in the article. It is advised to verify the currency and relevance of the data and information before taking any major steps. ICICI Lombard is not liable for any inaccuracies or consequences resulting from the use of this outdated information.