So you’ve just bought a house! Congratulations. This is an exciting time in your life, and it is important to ensure you protect this big purchase. But what kind of protection do you need? Mortgage insurance is easy, convenient, and covers you for just the right amount. Life insurance offers many options for you to consider. I find many people don’t know the differences between mortgage insurance and term or permanent life insurance. Let me break down some key differences for you.
Payout
With insurance you get from your bank/mortgage company, the amount of coverage and subsequent payout if/when you die decreases with your mortgage balance. The amount of term life insurance stays the same throughout its term.
For example, if you have a $200,000 mortgage, you will be covered for that much of mortgage insurance initially. Over time, your mortgage decreases with the payments you make, and so does your mortgage insurance coverage. However, the premiums show no corresponding decline. You pay the same premium throughout the entire mortgage.
Term or permanent life insurance covers you for the $200,000 from day one to the last day of your policy (for term), or until death (for permanent). The premium you pay is consistent for the entire term; however the face value (the $200,000) does not reduce at any time.
Cost
Typically, premiums on mortgage insurance are higher than on term life insurance. Again, even though you pay a higher premium, your coverage with mortgage insurance decreases, whereas term is usually less cost to you, and your coverage stays constant.
Portability
If you change lenders or sell and buy a new home, you’ll have to apply for a new mortgage insurance policy. Term life insurance, however, stays with you until you die or cancel your policy.
Medical / Underwriting
Perhaps the most misunderstood part of life insurance is the medical underwriting process.
Insurance is about all risk management. The insurance company assesses the risk you pose to them by the chance of you dying prematurely, and charges you a premium accordingly. To get any type of mortgage or life insurance, you have to answer a series of medical questions to help them assess your risk.
With a mortgage insurance application, it is typically 1-5 vague Yes/No questions regarding your health. For example, “Have you ever been screened or treated for cancer?” Many people would answer “No” to this question. However, for women, if you have ever had a pap test, you have now misrepresented yourself on the application. On some applications, there is one statement which asks about 10 or more different ailments or things you’ve received treatment for, all in one long question. Yes or no? It may not be that easy.
Now, mortgage insurance is approved up front, and if/when you die, the underwriting happens at the time of a claim. What this means, is that the insurance company assumes you are healthy based on the few questions you answer, and they approve you. When you die, the company then digs deeper into medical records and your family history, and if they find anything that contradicts the way you answered those very vague questions; they can decline your claim. So, you have been paying premiums for years, thinking you are covered, only to find out upon death that your claim is denied. Usually, there are no refunds of the premiums, and your loved ones are left to continue paying the mortgage.
For term life insurance, the application is 15-20 pages long on average; most of which are questions regarding your health and family history. Not only are the questions more detailed, but the underwriting process occurs before you are approved. What this means is that the company digs into your medical records and assesses the risk up front. If the company thinks you pose too high of a risk, they may charge you a higher premium (called a rated policy), or they might flat out deny you now (approximately only 2% of policies are declined for this reason).
With term insurance, once the policy is underwritten and you have been approved, you are essentially guaranteed that they will pay out on death. As long as you were honest on your application, and you didn’t fraudulently misrepresent yourself, you are covered. No questions asked.
Do your homework, or better yet, hire an insurance advisor to help you through the process. While mortgage insurance can be a good short term option when you first sign the dotted line for your brand new house, it is usually a good idea to have a life insurance solution for peace of mind and your own risk management strategy.
Check out this episode of CBC’s Marketplace which investigates mortgage insurance payout.
Kay and I help our clients get the right coverage they need, and ensure that they understand how they are covered.