Mortgage Insurance vs Term Insurance: Which Should You Choose?
If you have a mortgage, having ample life insurance coverage is critical for protecting your family and home. But there is more than one way to purchase life insurance that protects what is likely your biggest investment.
You can choose to buy life insurance that is tied to your mortgage. This is known as mortgage life insurance. Or, you can purchase a separate term life insurance policy to pay off your mortgage if you pass away.
But which is the better option of the two? Should you buy the mortgage lender’s life insurance or buy term insurance separately? It’s an oft-debated topic which we’ll explore in detail in this article.
What Is Mortgage Life Insurance?
Mortgage insurance is specifically designed to protect your mortgage investment, whereas term life insurance offers broader financial protection for your loved ones.
Mortgage insurance provides coverage to pay off the outstanding mortgage balance upon the policyholder’s death, ensuring that your family can continue living in the property without incurring financial strain from any loss of income that may occur.
What Is Term Life Insurance?
On the other hand, term life insurance offers your beneficiaries a tax-free lump sum payout, which they can use to cover mortgage payments, debts, or other expenses as they see fit. Term life insurance is not tied directly to your mortgage.
Both types of insurance can be valuable in providing financial security for your family and home, but it’s essential to choose the coverage that will best suit your specific needs and circumstances.
Pros and Cons of Mortgage Life Insurance
Here’s a look at some pros and cons of purchasing mortgage life insurance.
- Simplicity and convenience: Mortgage life insurance is often offered by your mortgage provider when you apply for your mortgage. It’s easy to apply for, and the premiums are typically added to your mortgage payment.
- No medical tests: Unlike term life insurance, you typically don’t need a medical exam to qualify for mortgage life insurance. You will have to answer a health questionnaire, and coverage may be limited or declined for certain health issues, but you won’t have to get a medical exam.
- Your premiums won’t increase: There is a caveat to this. With most mortgage life insurance policies, your premiums won’t increase for the life of that mortgage. Because the premiums are lower when you are young, you could theoretically have a very affordable insurance premium for up to 25 years. The caveat is that if you ever make a change to the mortgage – you refinance it, transfer it to another bank, or sell your house and have to make changes to your mortgage – then it may trigger a new mortgage life insurance application at a higher premium (because you’re now older.) Many people make one or more of these changes to their mortgage over a 25-year period.
- Cost: Generally, mortgage life insurance is more expensive than a term life policy of the same coverage amount. It’s even more expensive when you consider that your coverage amount gets smaller and smaller as you pay off your mortgage balance. Your term life insurance coverage amount does not change.
- Limited beneficiary options: With mortgage life insurance, the sole beneficiary is your mortgage lender, meaning they receive the payout when you pass away. Your loved ones benefit because the mortgage balance is paid off, but they cannot use the payout to cover other financial needs.
- Decreasing coverage: While decreasing coverage might seem efficient because it aligns with your mortgage balance, it can also be a con because your premiums remain the same even as your coverage amount reduces over time.
- Lack of portability: Mortgage life insurance is usually tied to your mortgage provider. If you decide to change mortgage providers or refinance, you may lose your coverage and have to reapply for a new policy.
Pros and Cons of Term Life Insurance
Let’s now take a look at the pros and cons of protecting your mortgage balance with a term life insurance policy.
- Affordability: Term life insurance plans typically come with lower premiums than permanent life insurance policies, enabling you to save money over the long run. This makes it a cost-effective choice, especially if you are young and healthy.
- Flexibility: Term life policies offer various lengths or “terms,” usually ranging from 10 to 30 years. This flexibility allows you to tailor your coverage to match specific needs or financial goals, such as paying off your mortgage or providing for your children’s education.
- Straightforward: Term life insurance is easy to understand, offering a straightforward death benefit without adding cash values or investment components. Your beneficiaries receive a tax-free payout if you pass away during the term of the policy. It’s that simple.
- Renewable and convertible: Many term life insurance policies can be renewed or converted to a permanent life insurance policy without undergoing another medical exam. This allows you to maintain or adjust your coverage as your needs change over time.
- Limited coverage: Term life insurance only covers you for the specified term, i.e., 10, 20, or 25 years. Once the term ends, your policy expires, and you must purchase new coverage if desired. This can be a disadvantage if you develop health issues over time, making future premiums more expensive.
- Less convenient: It’s perhaps less convenient to purchase a separate term life insurance policy when setting up your new mortgage. It’s completely separate from your mortgage, so you must arrange to apply with a separate life insurance company and, ideally, have it set up before your mortgage is funded. If there’s a concern regarding timing, you can always apply for the mortgage life insurance and cancel it as soon as your term policy is in effect. This would ensure that there are no gaps in coverage.
- You may require a medical exam: One of the reasons that term life policies are so affordable is that the insurer does a more thorough screening of applicants, including requiring medical exams. While a medical exam isn’t bad, you may view it as an inconvenient annoyance or be stressed about the idea of having to go through the process.
Mortgage or Term Life Insurance: Which Should I Choose?
For most Canadians, a term life insurance policy is the best choice, providing that there is enough coverage to pay off your mortgage in full and cover any other necessary expenses, including income replacement for your dependents after you pass away.
Term life insurance is simply more affordable and flexible. You may even want to purchase a separate term insurance policy to cover the mortgage; it’s up to you.
That being said, mortgage life insurance is not bad, and it may be the right solution in some situations. For example, if you don’t have a term life insurance policy in place, or your term coverage is not high enough to cover the mortgage on the new home you’re buying, you may want to sign up for mortgage life insurance, at least until you can meet with your insurance advisor and adjust your term insurance policy.
The worst thing you can do is not have any life insurance coverage and leave your family unprotected with a new mortgage.
Another situation where you may be willing to take the mortgage life insurance is if you also want the mortgage disability or critical illness coverage your lender offers. These are added benefits that can be tied to mortgage insurance. Unfortunately, it is almost always conditional upon you also taking the mortgage life insurance.
Term life insurance plans don’t offer a disability or critical illness benefit. You have to purchase an entirely separate policy. Of course, that is also an option, but a less straightforward one than just getting everything done in one policy through your mortgage lender.
Ultimately, the choice between mortgage insurance and term life insurance depends on your personal situation and preferences. Take the time to carefully understand the differences and consider consulting with a financial professional to make an informed decision that best suits your needs and protects your family’s financial future.
Is mortgage insurance mandatory, or can I choose term insurance?
Mortgage insurance is not mandatory; you can choose term life insurance as an alternative to protect your mortgage. When selecting between mortgage and term life insurance, assess your and your family’s needs and financial status to make the best decision for your specific situation.
Which coverage is more cost-effective: mortgage insurance or term insurance?
Term life insurance is generally more affordable than mortgage insurance. With term life insurance, your premiums remain the same during the full length of the term, and the coverage amount doesn’t decrease over time.
Mortgage insurance premiums may stay constant, but your coverage amount reduces as your mortgage balance decreases. Term life insurance offers more flexibility and portability, allowing you to change mortgage lenders or homes without losing coverage.
Can I have both mortgage protection and term life insurance?
Yes, you can have both mortgage and term life insurance if you believe this combination suits your needs the best. Some homeowners prefer to have mortgage insurance as a safety net specifically for their mortgage while holding a term life insurance policy to provide additional financial protection for their families in the event of death. The choice depends on your individual financial circumstances and preferences.