You did it! You’re a new homeowner. You scraped together every last nickel for the down payment and signed your name to so many escrow documents that you turned your fingertips blue and created a national paper shortage. But, you can finally breathe easy, right. Skies are blue!
Not so fast, my newly mortgaged and heavily leveraged friend who will be making monthly mortgage payments for the next 30 years (30-year fixed-rate mortgage loans accounted for more than 85 percent of the home-purchase market in 2012, according to Freddie Mac).
Serious questions to consider
What if you were to suddenly keel over and die? Who’s going to pay off your hefty mortgage bill? Are you going to saddle your wife and kids with a huge debt that they’ll likely never be able to repay? Do you want them to lose the house? Did you ever think about that?
Those are exactly the kinds of questions your neighborhood lender used to raise back in the day, when lenders actually visited your home for you to sign loan docs. Playing to your emotions and your real fears, with your family adoringly hovering over you, he showed you that for just an extra $10 or $15 month, you could purchase mortgage protection insurance (MPI) that would pay off your mortgage in the event of your death.
In today’s world
Now, the pitches for mortgage protection are slicker and less personal. Not long after you’ve signed your mortgage, the solicitations miraculously start showing up in your mailbox like fruit flies, urgently demanding your immediate reply (IMPORTANT NOTICE!) on the outside of the envelope. If you’re like most other Americans, you’ll treat it as junk mail and dump it in the trash (about half of all direct-mail pieces are never opened), without giving it a second thought.
But is that the right reaction? Some kind of mortgage protection makes a lot of sense. It has a place in a well-conceived financial and estate plan for many homeowners. Before throwing out the baby with the bathwater, maybe you need to hear the full argument, the pros and cons of taking out mortgage protection. After all, the essential conversation hasn’t changed: How will your family pay off your mortgage if you die?
Upside of mortgage protection insurance
In its simplest form, mortgage protection insurance pays off your mortgage when you die. The insurance company through which you have your policy will send a check directly to your lender, leaving your survivors free and clear of any encumbrance. No muss, no fuss.
Another towering feature of the policy is its availability and accessibility. It’s typically issued on a “guaranteed acceptance” basis. In other words, unlike a term life insurance policy, which usually requires a medical exam or medical clearance, few questions will be asked to keep your from obtaining coverage. So, mortgage protection insurance is a great option if you’re uninsurable for medical reasons or insurable at such a high rate that the the cost would be prohibitive.
Additionally, it provides peace of mind if you work in a high-risk occupation, such as logging or working as a deep-sea fisherman off Alaska. If you get tossed overboard and become fish-food, at least you’ll know you’ve left your heirs whole.
Finally, the cost is not onerous. In 2013, the typical first-time homebuyer was 31 years old, according to the National Association of Realtors, so with youth on your side, you can purchase a mortgage protection policy cheaply (relative to more expensive kinds of insurance such as health, dental, auto, homeowners, etc.).
Unlike term insurance, which maintains the face value throughout the term of your policy (the value of your benefit never changes), mortgage protection insurance pays out an amount equal to the client’s outstanding mortgage debt at the time of death. So, with each mortgage payment, your death benefit payout from your mortgage insurance declines accordingly. Consequently, if you had reduced your mortgage from, say, $300,000 to $50,000, your mortgage lender would receive only $50,000, your remaining mortgage amount at the time of your death.
This should get your attention because the premiums you pay each month to maintain your policy stay the same or could even rise. They rarely shrink.
If that’s not enough, as mentioned, your benefit is paid directly to your mortgage company, which may not be in your best interest, literally. For example, what if you had a fixed-rate mortgage at 5 percent, but current rates at the time of the payout to your heirs was 10 percent. Wouldn’t they rather have the money paid to them directly to invest however they saw fit?
Lastly, mortgage protection insurance isn’t always portable. It could disappear if you refinance to obtain a better rate.
And the winner is …
Generally, a term life policy, which you can take out for the life of your mortgage, will be less expensive than purchasing a mortgage protection insurance policy. For example, for a 30-year-old male in excellent health who doesn’t smoke, a 30-year, $250,000 policy runs $28.49 a month (Met Life Instant Insurance Quote). But if you can’t qualify for term insurance (because of your medical history or current poor health), then a mortgage protection insurance policy, although more expensive than term life, is a viable alternative.
If the latter is the most suitable product for your situation, shop for a mortgage protection insurance plan that offers level premiums and a level death benefit. These policies cost more and sometimes offer less coverage than term policies that review your health and medical history, but you’ll take comfort in knowing your survivors will receive the same benefit whether you die 10 or 25 years into your mortgage.
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Some mortgage life insurance policies will also pay out if the policyholder is diagnosed with a terminal illness from which the policyholder is expected to die within 12 months of diagnosis, so again you need to go shopping.
It’s easy to dismiss mortgage protection insurance as inferior to term life insurance. But when your options are limited, it does address one of life’s most compelling questions: How are you going to provide for your family, should you suddenly die?
Mortgage protection insurance answers a unique niche, and serves as a reliable standby when your family needs and deserves a financial shield.
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