Why you shouldn’t buy mortgage insurance

There are many excellent articles about the pros and cons of mortgage insurance vs. term life insurance. But it seems like every spring a new crop of first-time buyers begins their search for a perfect new home, so it seems like a subject worth revisiting.

Note that this is not the mortgage insurance or PMI that is required by lenders.  This type of insurance only pays out if a person becomes deceased.  The purpose of mortgage insurance (also known as mortgage life insurance or creditor insurance) is to pay off the mortgage when you or a spouse/partner die so you or your spouse/partner and dependents are mortgage-free and have one less major expense to worry about. If both you and your spouse/partner are working and want to protect each other, both of you need to be insured.

The first major advantage of true term life insurance is that it is much less expensive than mortgage insurance.

Based a calculator from a life insurance web site, a standard non-smoker term life insurance quotes for both a man and a woman aged 36 for $400,000 of life insurance for a term of 25 years, the lowest annual quotes were $604 for the man and $440 for the woman or $1,044 in total for both. Of course, if you plan to pay your mortgage off more quickly, you can request quotes for a shorter term or less amount.

Compared this quote to mortgage insurance rates from a brochure, Mortgage insurance premiums are calculated based on your age and the value of your mortgage. There is no discount for non-smokers or women. With a monthly premium of  20 cents per $1,000 for each borrower 36-40 years old, the annual bill for both spouses would be $1,920 for the same $400,000 assuming this was the loan amount.

But the cost differential is only the tip of the iceberg. There are other reasons why term life insurance can be a better deal than mortgage protection offered by the banks.

• Protection: When you die, your mortgage insurance is payable directly to the bank. Term life insurance protects more than just your mortgage. Your spouse (or other beneficiary) can use the money as is most appropriate in the circumstances.  They are not required to pay it to the Lender.
• Premium Guarantee: The term life insurance premiums and benefits are guaranteed for the life of the policy. Your coverage amount is constant but can be reduced at your request. Premium levels for mortgage insurance can be unilaterally changed by carrier. As your mortgage reduces your coverage goes down but your premiums do not.  Thus you pay more each year for LESS coverage.
• Portability: If you take your mortgage to another company, you may lose your existing mortgage insurance and have to re-qualify for new mortgage insurance coverage. This could include refinancing or buying a new home.  Considering that the average person does this once every 5-7 years it makes it even less attractive.  In contrast, individual term life insurance is fully portable even if you move your mortgage.
• Repayment: You lose all your mortgage insurance coverage when your mortgage is re-paid, assumed or in default. Also, if you make extra payments on your mortgage you are reducing your coverage.  As long as your term life insurance premiums are paid, you can convert your insurance to a permanent plan.
• Underwriting: If you buy term life insurance, the insurance company will assess the risk and establish the premiums based on your health at the time the policy is purchased. In the absence of any fraudulent activity, you know your claim will be paid out when needed in accordance with the terms of your contract. Mortgage insurance is subject to post-claim underwriting, which means technically you could be declared uninsurable when you submit a claim.

So caveat emptor!

Mortgage insurance is sold by bank employees who may not be trained to explain the legal intricacies of those insurance products. You could pay premiums and think you are covered, only to realize later you are not.

If you are unable to obtain your own Term Life Insurance or the cost is prohibitive if you have health problems or are a smoker, then the Lender policy may be your only option.  However, read everything as noted above or you could find out that you are subject to post-claim underwriting.