You have achieved almost everything life has to offer: a college degree, a stable, respected career, and a family of your own. What is missing here? A place where you can call home – something you can buy with a loan, and can eliminate the risk of losing it with mortgage insurance from banks. But should you take the offer to buy such an insurance policy?
It’s becoming increasingly difficult to own a home in modern-day Canada. The Toronto Regional Real Estate Board recently reported that the average price of a home in the Greater Toronto Area (GTA) would reach $1.025 million at the beginning of 2022, up from $929,692 in 2020. In contrast, the average salary in GTA has not seen an increase of $10,000/year in the last ten years.
According to Payscale, Torontonians receive on average $65,000 in annual salary. To afford the above home price tag, it would take at least 15.7 years of cumulative savings on full, pre-tax wage, not to mention this is an impossible plan to carry out. Besides, housing prices will keep on rising. Therefore, most Canadians pay for their homes by mortgage these days. But life happens. Losing the ability to fulfill mortgage payment, intentional or not, means your home could be gone forever.
Fortunately, before you take up the pen to sign your mortgage contract, the bank signing agent quickly proposes, “Would you like to sign up for mortgage protection insurance in case you can’t pay off the mortgage? For full mortgage protection, the monthly premium can be as low as $10.” That undoubtedly sounds like a sweet deal, except that it doesn’t. In fact, it can be the worst financial decision you could make when shopping for your new home.
Mortgage protection insurance overview
Mortgage protection insurance (MPI), also known as mortgage life insurance, is different from mortgage default insurance. If someone offers you “mortgage insurance,” you should ask them to clarify which type of insurance they mean. In short, mortgage default insurance is required by law for home purchasing when you can only put in less than 20% of the house value in down payment. Mortgage rates, or total premiums, ranging from 2.8 – 4.0% of the rest of the house value and must be paid before signing the mortgage contract. This insurance pays the remaining debt when you default on the mortgage.
Similar to mortgage default insurance, MPI purports to pay for your mortgage if you are not able to continue making payments. Depending on how your future situation affects your ability to pay, banks may offer various MPI options, which may go under numerous names but typically revolve around three things:
- Disability, severe medical conditions
For example, the Bank of Montreal (BMO) offers two classes of MPI: insurance paying the remainder of the mortgage (life insurance and critical illness insurance) and insurance paying part of the mortgage until you can resume payment (disability insurance and job loss insurance). If a 41-year-old sole owner with $700,000 in the mortgage, $3000 in monthly mortgage payment wanted to take out all mortgage protection insurance from BMO, here’s what the total mortgage payment with insurance would look like this:
|Critical Illness Insurance||$184.50|
|Job Loss Insurance||$50.38|
|Total insurance payment (including taxes)||$509.63|
|Total mortgage payment (including insurance)||$3,509.63|
I should sign up for all mortgage protection insurance just in case something terrible happens, then?
If you haven’t noticed already, with a 19-year mortgage payment plan, you would have to pay north $100,000 in insurance premiums, at least one-seventh of your mortgage! In contrast, the maximum amount of mortgage default protection you would have to pay is $28,000 since insurance rates only depend on the mortgage amount.
Here is another thing that would make you dislike how restricted MPI is: Banks may incorporate life insurance into mortgage protection. “How is that supposed to be bad?” you asked. The kicker is when you buy life insurance in the name of mortgage protection, the payout would be sent directly to the bank, with nothing left. Moreover, no matter how much mortgage you have left, the premium will stay the same throughout the payment period. Would you want to pay the same amount of premium every month knowing that the possible payout decreases each day?
You better off taking out individual insurance plans instead
Using the example of the 41-year-old above, if he bought a 20-year term life insurance from RBC Life Insurance Company with a total amount of $700,000, the monthly premium would be $180.84. If something unfortunate happens to you, you and your family will be the ones receiving the payout. You will be free to spend that money however you wish, not just for paying off a mortgage.
What if I don’t want to take out any insurance?
That’s fine, too, if you are confident that you will be able to pay even in the event of adversity. Or you can also look for external help. Due to COVID-19, the government of Canada has been introducing many economic relief measures under social services. If you have lost your job recently because of the pandemic, you can apply for Employment Insurance benefits to help with the loss of income that might continue until at least the end of 2021. For mortgage payers, the Financial Consumer Agency of Canada gives you the option to defer mortgage payments until you can start paying again.
Mortgage protection insurance is not suitable for your financial wellbeing. Depending on your need when purchasing a home, you should consider available options carefully. Down payment less than 20% and total home value under $1M, pick mortgage default insurance. Scared of being unemployed? Take out income protection insurance. Want your family to be able to take care of the mortgage and have money to spare at the same time in the case of your passing? Choose life insurance.
If you know any other way of helping with mortgage payment/balance, please let us know in the comment section below.
Frequently Asked Questions
What is mortgage protection insurance?
As the name indicates, mortgage protection insurance is the type of insurance designed to ensure your mortgage will be paid in the event of you not being able to. Reasons for the inability to pay vary: unemployment due to economic recession, sudden disability, a debilitating illness, or even death. However, there is no single mortgage protection insurance that protects against all possible causes for losing the ability to contribute to mortgage payments. The face amount paid out by this type of insurance can cover up part or the remaining of your mortgage payments. In other words, mortgage protection insurance can pay off your entire mortgage if need be.
Who offers mortgage protection insurance?
There are, traditionally, two types of providers: insurance companies and banks. Mortgage protection insurance offered by insurance companies is actually (term) life insurance in disguise. In other words, if you insured yourself with this type of insurance, you will get the same benefits a traditional term life insurance would offer: an entire sum of money guaranteed for receivers if you happened to pass away. Your beneficiaries then can use the funds according to their wish, whether to pay for some portion of the mortgage or take care of funeral expenses.
One downside of mortgage protection insurance issued by insurance companies is that if you lose the ability to pay, this type of insurance will not cover you. To make up for this, you would have to purchase additional policies to guard against other factors that can potentially make you unable to pay for a mortgage.
What makes banks bad providers for mortgage protection insurance?
When you are shopping for a new home and decide that you cannot pay off the price of your dream house in total, a mortgage comes into the picture. To afford the house, you apply for a mortgage with a favorable fixed interest at a bank or a private lender – a mortgage company.
If you ultimately choose a bank as your mortgage lender, the mortgage originator may advise you to sign up for the bank’s mortgage protection insurance. While at the outset, this sounds the same as the insurance provided by insurance companies, the bank’s insurance solution differs from its counterparts on several fronts.
First, when you or someone else files an insurance claim, the final amount will be paid out directly to your mortgage lender – the bank you owe mortgage payments to. The result of this is that no matter how much you have been paying off your mortgage, the payout will be calculated to match part or the rest of your mortgage, i.e., face amount losing value over time.
For example, at the time of signing up, your mortgage totaled $500,000. Additionally, you purchase a mortgage protection insurance policy covering 50% of mortgage payments with a fixed interest of 4% per year from the bank you apply for a mortgage. You have been able to pay off 70% of the mortgage payments by the time you start losing the ability to pay. The insurance coverage will take care of 50% of the rest of your remaining mortgage, or $81,000. Therefore, the more you have paid off your mortgage, the less the final coverage will be.
Secondly, losing the ability to pay off your mortgage, more often than not, comes with not paying for other necessities in your life. In this instance, bank mortgage protection insurance will not help relieve all your financial worries, making it not a viable deal compared to mortgage protection insurance sold by insurance companies.
Finally, the most common form of bank mortgage protection insurance is to insure against death. To prevent other unfavorable events (unemployment, critical illness, etc.), you need to quickly purchase extra coverage, which drives up insurance premiums. The kicker is no matter what kind of unfortunate situation you are trying to avoid in the future, and the payout will go all out to the bank.
What are the alternatives to mortgage protection insurance?
Since mortgage protection insurance is a subtype of term life insurance, you can sign up for a regular term life insurance policy instead of buying the former. A term life insurance policy would offer the same type of protection mortgage protection insurance purports to do.
As mentioned above, both mortgage protection insurance and term life insurance will insure you only in the case of death. To protect you and your family from possible income loss causes, there are types of insurance tailored to each of your worries, whether you are worried about future job loss, disability, or catching a terminal illness.
Another option is to mortgage default insurance, which is compulsory if you can only pay in less than one-fifth of the price of the house in down payment. When you can no longer contribute payments toward the mortgage, you default on the remaining mortgage payments, which is to say you are now free of debt.
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