Optional life insurance: We have a better idea

Hundred dollar bills in shape of house

Don't buy the optional life insurance your lender tries to sell you.

And don't buy similar mortgage protection policies from insurers who contact you through the mail or by phone.

When you buy a new house, you may want insurance that provides enough money to pay off your mortgage if you or your spouse should die.

But what you probably need is plain, old-fashioned term life insurance.

It's cheaper. You can take it with you from house to house. And your family stands to collect more money if you die -- probably more than they need to pay off the mortgage.

The letters you get from lenders and insurers might make you think this is one more requirement for your loan. But read them carefully.

Pretty much everyone must buy homeowners insurance and title insurance. If you put down less than 20% of the purchase price, you will have to buy private mortgage insurance, too. But this policy protects the lender if you default and it has to foreclose.

Insurance that pays off the mortgage if you or a spouse die is always optional and the policies lenders and other insurers push you to buy usually called mortgage term insurance, or mortgage redemption insurance -- has a problem.

Let's say someone borrows $200,000 to buy a house and dies right after signing the papers. The policy would pay the full $200,000.

But let's say that homeowner lives there for a number of years until the mortgage has been reduced to $100,000, and then dies. The insurance company pays $100,000.

So, while the amount that gets paid out decreases over time, the size of the monthly insurance premium does not.

Some policies offer to return part or all of your premiums once your mortgage is paid off or if you sell the house.

But check the terms.

In some instances you won't qualify for a rebate until the loan has run its course. If you have 30-year mortgage, for example, you would have to have the same home and the same loan for the full 30 years.

Even more generous policies often require you to stay in the home and make payments for at least 10 years.

Since most homeowners move or refinance every six years, very few ever see their premiums returned.

A better way to insure your mortgage is to talk with your regular insurance agent. Look at the life insurance you already have and what it will cover, and then figure out how much more you will need to take care of the house.

The simplest and cheapest way to buy more protection is term insurance.

You get to choose exactly how much insurance you need and want, and you also get to shop around for the best rates. You can do much of that shopping and rate comparison online.

The amount your family would be paid remains the same, no matter how much your may owe on the house. If you move the policy will not be affected.

There is one exception to this, when mortgage term insurance might be best.

If you have to take a physical exam to qualify for term life and you don't think you can pass, ask your agent. There is no medical exam for a mortgage term insurance policy.

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