What is mortgage life insurance?
Mortgage life insurance (sometimes known as decreasing life insurance) is designed to protect a mortgage so you don’t lose your family home. The payout from a decreasing insurance policy gets smaller over time. So if you take out a policy for, say, 20 years and you die seven years into it, your family will receive more than if you died 16 years into the term. In this way it differs from level insurance, where the payout from the policy is the same regardless of when death occurs during the term, and increasing insurance, where the payout actually gets larger.
The amount you pay each month for the policy remains constant over time. But the amount that dependants might receive from the policy decreases either monthly or annually at a set rate.
Why would you choose mortgage life insurance?
Given that the cost of living rises every year, why might you choose a policy that pays out less as time goes on? The first reason is that a mortgage life insurance might fit your family’s need for protection, depending on how your living costs are forecast to change in future. Another reason is cost; mortgage insurance is usually cheaper than other types of life insurance.
Does it protect a mortgage and other debts?
This might be the case if you have a repayment mortgage or other type of loan, where the amount you owe decreases every year because you are paying it back. For example, if you took out a £250,000 repayment mortgage over 25 years with a repayment rate of 3 per cent, the amount you owe would have dropped to around £153,000 by year 12.
So if you had taken out a mortgage life insurance policy to pay off your home loan in the event of your death, the amount needed would have decreased dramatically by year 12, making such a policy a valuable solution.
When it isn’t right
Mortgage life insurance is unlikely to be suitable if you’re looking to cover an interest-only mortgage. The payout amount for mortgage life insurance falls every year to reach zero at the end of the life policy term. This works for debts that decrease over time, like capital and interest repayment mortgages.
But with an interest only mortgage while you pay the interest off, at the end of the term you’ll still owe the loan amount you borrowed.
So if you’re looking for a guaranteed payout whenever you die then you may be better off researching whole-of-life policies.
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