Different Ways to Insure a Mortgage

Our home is one of the biggest and most important financial assets we own in our lifetime, and our mortgage is typically one of our biggest debts.

Recently, Jack and Shannon asked me if it was better to buy mortgage insurance through the bank or if they should purchase a term life insurance policy through their insurance broker. Here are some factors for Jack and Shannon to think about.

The death benefit

With mortgage insurance, the death benefit declines as the mortgage balance declines and the benefit is paid directly to the bank. For example, Jack and Shannon are getting a $265,000 mortgage, which means the mortgage insurance would start at $265,000 of coverage. After five years, the mortgage balance would drop to $240,500, but so would the mortgage insurance coverage.

With term life insurance, a $265,000 policy would have the same death benefit regardless of the mortgage balance. Although the policy is designed to pay off the mortgage, it is a separate policy from the mortgage. They could designate any beneficiary with the intent that the proceeds would be used to pay off the mortgage balance. Any extra proceeds above the mortgage amount would go to beneficiaries. With mortgage insurance, there would be no extra.

What is the cost?

Comparing the cost of mortgage insurance to that of a term life insurance policy is challenging, because it's not always an apples-to-apples comparison. The one thing I always suggest is to shop around for the best price. That being said, here are a few generalizations I can provide.

With mortgage insurance, the cost of the insurance stays the same despite the declining death benefit. Continuing with Jack and Shannon's example, after five years, although the death benefit drops from $265,000 to $240,500, the monthly cost of the insurance does not drop.

With a term insurance policy, the cost also stays the same for the length of the term. For example, if you buy a 10-year term policy, the premiums will stay the same for 10 years but then will increase for the next 10 years. Many life insurance agents would suggest a 20-year term policy for mortgage insurance coverage. In a case where the amortization period of the mortgage is longer than 20 years, premiums would go up after that period. The death benefit could be reduced at that time to reflect a lower mortgage balance.

Generally speaking, if you are healthy, buying a personal term insurance policy will likely be cheaper than getting the mortgage insurance from the bank. However, if you are a smoker or have health issues, the mortgage insurance may be the more cost effective option.

Will your claim be paid?

When you apply for personal life insurance, you must get a medical; all of the underwriting is done prior to the policy being issued. Mortgage insurance offered through the banks is different. In most cases, there is no medical - just a really long questionnaire that's not always easy to read and understand. With mortgage insurance, part of the underwriting is done at the time of claim, which has proved to be problematic at times. A while back, CBC Marketplace did an investigation into mortgage insurance and found two people that were denied claims after paying premiums on their mortgage insurance policy because of inconsistencies on the application. So even though you are paying for mortgage insurance, you may not actually be covered, because part of the underwriting is done after the claim has been made. This highlights the importance of completing these medical questionnaires properly and the benefit of buying insurance from a qualified, licensed insurance agent who knows what the insurance companies are underwriting.

Portability and flexibility

When you buy mortgage insurance through the banks, the policy is attached to a specific mortgage. If you move your mortgage to another company, you may have to re-qualify for new mortgage insurance coverage through the new financial institution.

With a personal life insurance policy, you own the policy regardless of where the mortgage is taken out. If you wish to change the coverage, you have the flexibility to make changes.

With mortgage insurance there is basically one policy for everyone. With personal life insurance, there is opportunity and flexibility to customize these policies to your personal needs.

The whole point of having mortgage insurance is to make sure the mortgage is paid off in case of death. It sounds like a simple concept, but there may be more to evaluating mortgage insurance than you might think.

Make sure you do your homework before signing on the dotted line.


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