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How to Justify Mortgage Life Insurance

These days, there has been a lot written about the benefits of term life insurance over mortgage life insurance. As most people already know, term life insurance insures the life of someone over a given term. With mortgage life insurance, the life of someone is insured while the mortgage is in existence. (Credit insurance can also be applied to credit card balances, loans, and lines of credit, but we will look solely at mortgage life insurance here).

The benefit to mortgage life insurance is that it normally comes at a fair rate and does not require a comprehensive medical test compared to a similar term life insurance policy. However, the disadvantage is that the insured pays the same premiums for this policy for the entire duration of the mortgage (unless it is canceled) even though the balance of the mortgage gets reduced with every payment.

Like term life insurance, the mortgage policy will pay out once the insured (or one of the insureds) passes away. The big difference is that the proceeds of the policy can only be used to pay out the mortgage. As noted above, if you start with a $500,000 mortgage and die in the last years of your mortgage, your policy will pay out only what is remaining.

The best way for people to approach mortgage life insurance is to look at it as credit protection and not as a regular insurance product. In fact, look at it as a separate insurance altogether. The term life insurance policy (or whole life, or any and all other policies) exist to replace the insured’s income so that surviving family members do not need to sacrifice the things that would have come to them if the insured had not passed away. Items to consider would be the insured’s contribution to the monthly household expenses, contributions to retirement and child-education savings programs, and so on. (Indeed, the costs are high which explains why people normally obtain insurance in the hundreds of thousands or millions, instead of tens of thousands).

With mortgage life insurance, the insureds should evaluate whether the surviving spouse/partner can manage the payments without the spouse. Since the term life insurance policy will often replace the deceased’s income in the event of death, there is a good chance that the mortgage life insurance policy may not be required.

However, if the term life insurance policy (or whole life, etc.) does not allow for the surviving family members to enjoy the same material benefits that would have existed if the insured were alive, then mortgage life insurance is highly recommended.

To illustrate, let’s look at a traditional family of four. Both husband and wife work and earn an easy $75,000 each. They contribute equally to the household expenses. Their mortgage of $500,000 carries payments of $2,300. They each have term life insurance safeco now agent login of $300,000 (arguably quite low given their earnings and assets). Each month, they contribute $750 to a savings plan because they anticipate paying for their children’s education. In the event of one spouse’s death, the surviving spouse could expect to draw on the term life insurance policy’s payout and continue paying for household expenses. But even at an aggressive 7.5% annualized rate of return on those proceeds (excluding funeral expenses) the funds would be completely exhausted after a short 7 years.

Depending on the family, is it reasonable to expect the surviving spouse to replace the deceased’s income (in this case, double his/her own salary of $75,000 to $150,000) in that time period? Once the funds are gone, the mortgage will still need to be paid, the bills will still be around, etc., etc..

With mortgage life insurance paying out the mortgage, the surviving spouse in the illustration above could make that life policy last an additional 15 years and 6 months, clearly long enough to see some of the children off to school. In fact, with the children leaving the house, that asset could even be sold and downsized to offset shortfalls in the tuition and other expenses.

Of course, different people will have different needs when it comes to mortgage life insurance. There are substantial drawbacks, as noted here. However, as a financial planning essential, considering all insurance sources and needs is mandatory in order to be properly hedged the risk of loss.