A year ago, Masood Kaplan and his wife Anna willingly agreed to help their daughter and her new husband buy a condo. The young couple was just starting out and wanted to secure a spot in the Calgary real estate market. While the Kaplans were only too happy to help (we’ve changed their names to protect their privacy), they were shocked to learn they’d have to pay close to $1,000 per month on mortgage life insurance.
Mortgage life insurance is coverage specifically designed to repay a mortgage. This type of insurance will pay off the entire mortgage debt, should a homeowner die before the loan is fully repaid. While not mandatory coverage when getting a loan, some lenders make it a requirement if they consider the loan to be on the riskier side. In part, lenders like this type of insurance, as the premium is added onto the monthly mortgage amount and, should the policy need to pay out, the lump sum is paid directly to the mortgage lender.
For the Kaplans, this coverage was a requirement by their lender in order to obtain a loan to purchase a two-bedroom condo in the heart of downtown Calgary. Eventually, Masood and his wife found the monthly premiums to be a strain on their budget. Did they really need the policy? Weren’t they already covered by their home insurance, anyway?
Mortgage life insurance is not the same as homeowners’ insurance
Despite the similar terms and phrases, mortgage life insurance and homeowners insurance are not the same.
Mortgage life insurance is coverage specifically designed to repay a mortgage. In the end, the real beneficiary is the lender, as the policy makes sure their debt is repaid. Homeowners’ insurance protects the homeowner from loss or damage to their home and contents.
Boiled down, mortgage life insurance is all about protecting the bank, while homeowners’ insurance is all about protecting yourself from catastrophic financial loss should severe damage or loss occur to your biggest financial asset, your home.
Should I purchase homeowners’ insurance?
There are several different types of homeowners’ insurance in the market. Some are incredibly basic, some are more comprehensive and cover almost everything. Premiums, the monthly amount you pay for the coverage, will differ depending on the type of coverage you want but can range from a few hundred dollars a month up to a few thousand a month.
Most lenders will require proof of home insurance coverage in order for you to obtain a mortgage. If you own a home outright, there is no legal requirement for you to get home insurance coverage. Still, it’s wise to pay for policy coverage even if you don’t have a mortgage, as this type of insurance helps defray exorbitant costs associated with damage or loss to your home or personal belongings.
Mortgage life insurance is not the same as mortgage default insurance
Another distinction to be made is that mortgage life insurance is not the same as mortgage default insurance.
Like mortgage life insurance, mortgage default insurance (also known as CMHC fees, or CMHC mortgage insurance) pays the lender the outstanding mortgage debt, but only when homeowners default on the mortgage.
Mortgage default insurance is provided by two companies in Canada—Genworth and the Canada Mortgage and Housing Corporation (CMHC)—and is a requirement by the lender for buyers who put down less than 20% of the purchase price of a home.
Unlike homeowners’ insurance or mortgage life insurance, mortgage default insurance is not paid in monthly instalments but through one lump-sum payment due at the start of the mortgage loan.
The only similarity between mortgage life insurance and mortgage default insurance is that the insurance proceeds go directly to the mortgage lender and not to the homeowner.
Is there an alternative to mortgage life insurance?
The only alternative to mortgage life insurance is to life insurance, as the Kaplans would soon discover.
Almost all lender-sponsored mortgage life insurance policies have a declining payout. When you start paying those monthly premiums, at the same time you start paying that mortgage, your coverage is for $500,000. Over time, however, this payout sum drops, as you pay down the mortgage, but your monthly premiums do not decline. That means you continue to pay the same rate for coverage that depreciates in value over time.
A better, potentially cheaper option is to opt for a term life insurance policy. In the case of the Kaplans, an independent insurance broker was able to find a 10-year term life policy with Empire Life (this company only works with brokers) which dropped their monthly life insurance premiums to just under $500 per month (assuming good health, etc.)—saving the Kaplans almost $500 per month in insurance premiums.
Remember, life insurance works the same way as mortgage life insurance, only you and your estate benefit from the payout, not your mortgage lender.