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Who really benefits from mortgage life insurance?

They come more often than invitations for new, low-rate gold credit cards. Most proclaim dire consequences if the recipient doesn't respond within 30 days and some originate from the same company that holds the homeowner's mortgage.

But the mailers aren't as urgent as consumers might think. They are actually solicitations from banks, insurance companies and third-party agents who want to sell mortgage life and disability insurance.

Unlike private mortgage insurance, which is required on low down payment loans and pays the lender in cases of default, the coverage pays benefits to a consumer's spouse, estate or lender in the event of death, disability or disease.

Unfortunately for borrowers who take the bait on mortgage life or disability insurance, though, the coverage often doesn't measure up to what's available elsewhere, according to lending and insurance experts. Homeowners can generally get a better deal by analyzing their overall needs and obtaining general life or disability policies rather than targeted mortgage ones.

"When I go in and do a financial plan for them, I'm certainly asking them, 'Do you want the mortgage paid or not?' " says Dennis Merideth, a chartered financial consultant and associate general manager with Principal Financial Group in Tucson, Ariz.

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"But I'm finding a need for total coverage and asking, 'If you don't come home tomorrow, if you wanted the house paid off and you wanted to pay for the children's education, then how much total liquidity, how much total insurance money would you need?' "

Hot product during the early '70s
Mortgage life and mortgage disability insurance have been around for many years, but really came into their own during the early 1970s, according to Patricia Borowski, division vice president at the National Association of Professional Insurance Agents in Alexandria, Va. Consumers who were taking on larger mortgages didn't want their spouses left holding the bag if disaster struck. Lenders wanted to avoid defaults and foreclosures. Insurance companies wanted to make more money, and they responded by developing and heavily marketing life and disability policies specifically designed for homeowners.

"When it was first sold in the form of life insurance, where it paid off the entire mortgage, it certainly impressed people with the benefit," Borowski says.

Over time, many independent agents stopped selling mortgage insurance. But others realized that by pitching the coverage, they could get a foot in the door with individuals who had at least enough money to buy and support a home. Mortgage lenders and servicers joined the fray, too, soliciting their own borrowers with products sold by insurance company partners. The end result has been cluttered kitchen tables and confused consumers across the country.

Sorting through the options
So how do borrowers sort through their options? They should start by realizing that all policies operate on the same basic principles. Mortgage life protects a deceased debtor's survivors by paying off the home loan. Disability insurance keeps an injured consumer from having to make the monthly mortgage payment when paychecks aren't forthcoming.

Insurance price comparison

Here are some examples from Farmers Insurance, a Los Angeles-based division of Zurich Financial Services Group. A consumer's actual bill can vary by insurance provider, age, sex, loan type, loan amount, health status and other factors, so borrowers should shop around for coverage.

This price comparison is for a 24-year-old male nonsmoker with a 15-year mortgage of $105,000 at 7.25 percent.

Coverage A
Coverage B
Coverage C
Decreasing Term/Benefit (follows loan amortization)
Level Term/Benefit (no 15-year policy offered, so 20-year term assumed)
Level Term/Benefit (no 15-year policy offered, so 20-year term assumed)
Super-Preferred (insured must have no personal history of heart disease, cancer or diabetes, a cholesterol rating of less than 275 and meet other health standards)
$158.15 for 15 years

But the coverage varies widely from policy to policy and company to company. Some mortgage life insurance pays the exact loan balance directly to the lender after the policyholder's death. These "decreasing term policies" start out having a benefit of, say, $100,000 on a $100,000 loan. But as the loan is paid down, the benefit amortizes right alongside. That means the spouse of someone who gets a 30-year fixed-rate mortgage today and dies 25 years later receives only about $36,700.

Other life policies feature benefits that stay fixed throughout the term, regardless of the mortgage balance. Many pay that benefit money directly to the estate or family, too, giving beneficiaries extra cash to pay off home-selling costs, equity loans against the property or other expenses. Borrowers also can insure just a portion of the balance.

Disability insurance, too
Disability insurance can be structured in many ways as well. Some policies pay a fixed amount equal to the loan's principal and interest only, leaving consumers liable for the tax and insurance escrow part of the monthly payment. Others are subordinated to any disability coverage the borrower might have through work. That means someone with a $1,400 loan payment and a separate disability policy for $500 a month might only get $900 from the mortgage life insurer.

"There's no particular rule that says the mortgage insurance must be exactly greater or less than the loan," says Don McLaughlin, life sales analyst with Erie Indemnity Co. of Erie, Pa. The company sells policies through agents in the mid-Atlantic states and Midwest. "We have people who can only insure part of the debt. Some people insure the debt and income, and the beneficiary of this type of contract is the family, not the bank. The family then has the choice of paying off the debt.

"Different products are designed with different features in mind for different circumstances."

Comparing apples to oranges
That makes mortgage life and disability insurance tricky to shop for, because one quoted rate may be for a different policy than another. But that's not what concerns insurance and lending experts about mortgage life and disability coverage the most. They worry that borrowers, who in many cases would be better off with generic term life or disability insurance, just go with whatever their mortgage holder pitches.

"The seller of such coverage is essentially 'recommending' the amount of insurance coverage you have being equal to your mortgage debt," says Eric Tyson, author of Mortgages for Dummies, in an e-mail interview. "This is self-serving on the part of the mortgage lender, which generally sells such policies."

"Their concern is not having defaults when a homeowner passes away," he adds. "It's a high profit, easy sale for the lender that protects their interests!"

But, you say, you're healthy?
Healthy borrowers should be especially wary of mortgage life insurance. They can almost always get better rates on regular life insurance policies because such policies feature tiered premiums, with the healthiest consumers paying the least. Most mortgage life policies, by comparison, don't have that option.

"The thing with the company policies is they will issue the policies with very little or no medical underwriting," says Jerry Montgomery, associate director of curriculum at the National Alliance for Insurance Education & Research. The Austin, Tex.-based group runs training seminars and classes for insurance professionals.

"If you're living and breathing, they'll issue that policy," he adds. "That's one advantage, but I've seen under the mortgage policies, the rates are quite a bit more."

Because of all these variables, consumers should do two things before signing up for any kind of mortgage insurance: Decide whether they need coverage at all and figure out, if they do, what kind gives them the most peace of mind for the least money.

"It may seem expedient just to buy something through the mail, but for the most part that's not the best way to go," says Merideth, the Principal Financial counselor. "They need to review their entire situation."

--Updated: Sept. 24, 2001
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