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What would happen if you were to pass away before paying off the mortgage on your house? Will your loved ones have enough money to keep current on the loan?
One option is mortgage protection insurance, also called mortgage life insurance, which pays off your mortgage in the event of your passing. Mortgage protection insurance isn’t right for everyone, however, so it’s important to weigh the pros and cons carefully, and understand how mortgage insurance for death contrasts with other kinds of coverage — specifically, life insurance.
Mortgage protection insurance (MPI) vs. life insurance: What’s the difference?
In short, both MPI and life insurance give your family financial protection if you die. However, MPI is sold by mortgage companies, banks or independent insurance companies and is meant to pay off the remaining balance on your mortgage. On the other hand, life insurance is available through life insurance companies. These policies give your spouse or family a lump sum of money upon your death.
What is mortgage protection insurance?
Mortgage protection insurance is a form of life insurance that’s designed to pay off your mortgage debt in the event you pass away before the balance is paid in full. Some policies also cover you in other instances: if you become too disabled to work or become unemployed — anything that impacts your income enough to endanger your making mortgage payments.
“Typically, mortgage protection insurance is sold as an option after closing on your home,” says Herb Dorow, an agent with Maris Brown Insurance Group in Rochester Hills, Michigan. “The life insurance amount of the policy is tied to your mortgage amount. As your mortgage amount decreases, so does the benefit, but the premium does not decrease.”
What is traditional life insurance?
With traditional whole life insurance, you can decide on the level of coverage that’s right for you. To keep your policy active, you’ll need to pay your premium — either upfront or over time. When you pass away, your beneficiaries receive a lump sum payout. Alternatively, you can choose a term life policy that covers you for a temporary period (for example, until your kids graduate college). However, you won’t get paid out if you’re still alive when the policy ends.
On the surface, these two types of insurance might sound similar, but there are a few differences between them. Some of the key factors that separate mortgage insurance vs. life insurance include:
- Eligibility criteria
- Benefit amount
Unlike term or whole/permanent life insurance, mortgage protection insurance involves minimal to no underwriting, which makes it easier to qualify for. “You don’t need to undergo a medical exam to get coverage,” says J. Keith Baker, chair of curriculum for Mortgage Banking at Dallas College in Irving, Texas. Your premium won’t depend on factors like your occupation or health.
Both mortgage and life insurance cost about $100 or less per month, but mortgage protection insurance is usually a bit more expensive than life insurance.
Most MPI policies stipulate that your outstanding benefit shrinks as you make more mortgage payments over time and get closer to paying it off. In other words, your MPI policy becomes less valuable the longer you pay. By comparison, most traditional life insurance policies retain the cash benefit over time.
“With traditional term or permanent life insurance, the amount of coverage does not decrease and you control the policy,” says Dorow.
With life insurance, your beneficiaries receive a lump-sum cash benefit upon your death. The payout for mortgage protection insurance, on the other hand, goes directly toward paying off your mortgage.
Let’s say that you take out a mortgage loan for $300,000 at 6.8 percent interest rate over 30 years to buy a home. You purchase a mortgage protection policy for the same term — 30 years — with a face value of $300,000.
Now, assume you pass away 10 years after taking out the loan and insurance policy, leaving behind a roughly $255,000 unpaid mortgage balance. In this case, your mortgage life insurance policy would pay off the $255,000 balance in full.
Should you choose mortgage protection insurance or life insurance?
If you’re weighing the pros and cons of mortgage protection vs. life insurance, consider the factors we’ve laid out above. For example, let’s say your mortgage is almost paid off, and you have several grandchildren who may need help paying for college. In that case, life insurance would be the better option.
However, mortgage protection insurance can make sense in certain scenarios. Specifically, if you’re considered a risky proposition to a life insurance company, mortgage protection insurance may be a cheaper and more viable option.
“It can be somewhat more competitive for someone aged 50 to 60 years old who has some health issues that may make purchasing a standard life insurance policy difficult or more expensive,” says Baker. “Also, folks with dangerous professions who cannot get reasonable cost coverage, like a race car driver or skydiving instructor, should consider this insurance.”
The biggest difference with mortgage protection insurance vs. life insurance lies in who receives the funds and the flexibility in using them. With a traditional life insurance policy, your family receives the funds and can spend the money however they like. However, with mortgage protection insurance, your mortgage lender is the policy’s beneficiary — it receives the payout.
The upside is that the mortgage is taken care of without being an additional burden or concern to your survivors. Of course, it also denies them any control over the money. By that measure, life insurance offers more flexibility because it can cover whatever you want it to, including your home loan. “You can purchase coverage that exceeds just your mortgage amount,” says Dorow.
Your family can’t depend on MPI to cover other bills and ongoing expenses, as they can with a life insurance policy. Still, this form of insurance will help ensure that they keep their home.