Mortgage Protection Insurance: What It Is and How It Works
Owning your own home can offer a great sense of security — but what if the worst happens and you or your spouse die unexpectedly? Purchasing a mortgage protection plan, a type of insurance designed to pay off your mortgage if you die, is one way to plan for this worst-case scenario.
But will it really ensure that your loved ones can remain in the family home no matter what? And is it any different from standard life insurance? Keep reading to find out.
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What is mortgage protection insurance?
Mortgage protection insurance — also called mortgage life insurance — is an insurance policy that pays your remaining mortgage balance if you pass away unexpectedly or become disabled. In some cases, it may even cover the mortgage if you experience unemployment.
However, it’s crucial to understand that the only beneficiary on a mortgage protection life insurance policy is your mortgage lender; your loved ones won’t directly benefit from the coverage. This also means that if the policy doesn’t cover the entire balance of the mortgage, but rather only a certain amount of payments, your family could still end up losing the house and receiving no money.
Things you should know
Typically, mortgage protection policies cover a certain period and are structured to offer benefits that decrease over that term, tracking the falling mortgage balance as you pay it down. Just be aware that your premiums won’t fall in tandem, meaning that over time you’ll make the same payments in return for less coverage.
Many people are attracted to mortgage protection insurance policies because, unlike typical life insurance policies, they have what is called “guaranteed acceptance.” This means that they don’t require a medical examination or health screening that might exclude those who are sick, work in risky jobs or smoke cigarettes, for instance. However, on average, a mortgage protection policy will cost you more than a life insurance policy. So if you aren’t sick and don’t have elevated risk, you probably won’t benefit by choosing an MPI over a traditional term life insurance policy.
What does mortgage protection insurance cover?
Below, we highlight what a typical mortgage protection insurance policy does (and doesn’t) cover, so you can understand what you’re signing up for.
What it covers:
Death. In the event of your death, the policy pays off your mortgage balance. Some policies may only cover an accidental death rather than a death from natural causes, so be sure to read the fine print carefully.
Disability/illness. If you become critically ill or are injured and not able to work, the policy may cover your monthly mortgage payments.
Unemployment. Similar to disability and illness coverage, your mortgage payments may be covered if you suffer a job loss. However, the policy may only cover a certain amount of payments and not the entire balance.
Your policy may offer the option to refund your mortgage protection premiums if the coverage isn’t used by the time you pay off the loan.
What it doesn’t cover:
Other costs of homeownership. The policy won’t cover property taxes, homeowner’s insurance or HOA fees.
Funeral costs. There’s no coverage provided for your funeral arrangements.
Non-mortgage debt. The policy won’t pay off any debt outside of your mortgage balance.
Living expenses for beneficiaries. Standard life insurance policies may help cover ongoing living expenses for your beneficiaries, but mortgage protection insurance typically doesn’t.
Understanding mortgage insurance types: MPI vs. PMI vs. MIP
Mortgage protection insurance (MPI) shouldn’t be confused with private mortgage insurance (PMI), which protects your lender if you default on your mortgage payments.
If you have a conventional loan and put down less than 20% at closing, you’re required to pay for PMI. And if you take out an FHA loan, you’ll pay mortgage insurance premiums (MIP) no matter your down payment amount.
These three insurance types don’t serve the same purposes, so you don’t need to compare them in order to shop for the best mortgage protection option. However, keeping all of these acronyms and insurance types straight can be a headache. The following table places them side-by-side so you can quickly differentiate among them if you get confused.
|Mortgage Protection Insurance (MPI)||Private Mortgage Insurance (PMI)||Mortgage Insurance Premiums (MIP)|
|Who it protects||The lender receives the monetary benefit; you and your family will get to keep a valuable asset (the house) and avoid the risk of foreclosure, but will not receive any money||The lender||The lender|
|When it’s required||Not required||If you put less than 20% down on a conventional loan||For FHA loans only|
|When you can get rid of it||Any time||When you reach 20% equity||You can’t, unless you put at least 10% down. If you did, you can get rid of it after 10 years|
Does standard life insurance cover your mortgage?
Another insurance coverage type that can pay off your mortgage if you die is a standard life insurance policy. There are two main types of standard life insurance, term and permanent.
- A term policy is in place for a set number of years, such as 10, 20 or 30 years, and pays your beneficiaries if you were to pass away during that term.
- A permanent policy provides coverage for your entire life span and pays out when you pass away.
Instead of paying your mortgage lender directly the way mortgage protection insurance does, standard life insurance policies go to the beneficiaries you select, who can then choose to pay off the mortgage. Of course, this will only work if the policy pays out enough money to cover the outstanding mortgage balance, but many people plan for this when they purchase their life insurance policy.
One common rule of thumb is to aim for a life insurance policy that will pay out up to ten times the policyholder’s salary amount. Alternatively, you might choose to use something like the DIME method, which adds a family’s debt, income, mortgage and education expenses to calculate how much life insurance is needed.
Term life insurance also tends to be less rigid than mortgage protection insurance regarding when you can sign up. There’s a reason new homeowners’ mailboxes are often bombarded with “Last Chance!” and “Urgent! Action Needed!” letters from mortgage protection insurers: Many only allow you to purchase MPI within 24 months of closing on your mortgage. It’s also worth noting that there are age-related limits and thresholds imposed by nearly all insurers, who often won’t give older purchasers as many options, will charge them more or may deny them outright. Term life insurance gets more expensive and limited as your age rises above 80 or 90, but mortgage protection may get more expensive or limited even earlier.
Here’s how mortgage protection insurance measures up against standard life insurance.
|Mortgage Protection Insurance (MPI)||Standard Term Life Insurance|
|Cost||A healthy 50-year-old man could get a 30-year, $25,000 policy for $1,188 annually.||A healthy 50-year-old man could get a 30-year, $25,000 policy for $228 annually.|
|Amount of coverage||The death benefit is limited to your outstanding mortgage balance amount.||The death benefit is a specific dollar amount, such as $500,000 or $1 million.|
|Who gets the benefit||The lender||Your family/chosen beneficiaries|
|What gets paid||Outstanding mortgage balance only||May cover your mortgage in addition to paying funeral costs and replacing your lost income for your beneficiaries.|
|Limited window to purchase||Yes||No|
Is mortgage protection insurance worth it?
If you’re able to qualify for term life insurance, you should avoid mortgage protection insurance (MPI). Compared to MPI, life insurance offers your family a cheaper and more flexible benefit that you can count on. It’ll pay out the same amount no matter when in the term a death occurs, and the money can be used to cover any expenses your family deems necessary at that time.
However, for those who are sick or otherwise at high risk already, term life insurance may be out of reach. In those situations, MPI can provide great peace of mind. Just be sure to comparison-shop and read all of the fine print before signing up for any policy. Every mortgage protection option will have numerous rules, regulations, benefit options and drawbacks that need to be weighed carefully against your precise situation.