What Life Insurance is Suitable for Mortgage Protection?
Article published on 28th March 2013
Are you a first time buyer just stepping onto the property market, or already halfway through your mortgage? Do you have more than one mortgage? No matter the case, it is often a good idea to consider getting some financial protection for your mortgage.
In this article we shed some light on a few different Life Insurance policies available for mortgage protection, and identify which ones could be better for different circumstances.
What Type of Mortgage do you have?
The answer to the question “What Life Insurance is suitable for Mortgage protection?” is not straightforward. Below we briefly cover some of the different types of mortgages available in today?s market, and then explore which Life Insurance policies would be suitable to protect them.
Repayment mortgages (also known as capital and repayment mortgages) are the most common type of mortgage in the UK, with 96% of first time buyers taking out a repayment mortgage between April 2011 to March 2012*.
With this type of mortgage you pay off a bit of the capital and the interest of the loan each month, over the course of the term. The idea being that at the end of the term of the mortgage, you have paid off all that is owed (what you borrowed plus the interest) and the property is yours.
Interest Only Mortgage
Interest only mortgages have declined over the last few years, in part, due to the risk involved and the unwillingness of borrowers to lend money in this way. Between April 2011 and March 2012 only 3% of first time buyers took out an interest only mortgage*.
With an Interest only mortgage you only pay off the interest on the loan amount each month. By the end of the mortgage term you will need to repay the amount borrowed in full or risk losing the property.
The idea with this type of mortgage is that you have a separate savings account that you pay into each month, or have a plan in place to sell the property for a profit at the end of the mortgage term. This will give you the opportunity to pay off the borrowed money in full at the end of the mortgage term.
Offset mortgages can be a great way to borrow money if you already have some savings set aside. This type of mortgage might be out of reach for most first time buyers but can be a strong option for people who have reasonable savings and are looking to remortgage, or are moving to a new property.
This type of mortgage works by using your savings to offset the money that you borrow. By sacrificing the interest you would have earned on your savings you pay less interest on the money you borrow. You can also add to and remove from your savings to adjust how much money you owe the lender.
So what Life Insurance is suitable to protect my Mortgage?
Below we will go over some of the Life Insurance products available and how they can help protect your Mortgage.
What is Life Insurance?
Life Insurance, in a few words, is an insurance policy that pays out a tax free lump sum in the event of your death. With this type of cover you pay a monthly premium to the insurance provider for the term of the policy. If you pass away during the term of the policy your beneficiaries will receive the sum assured.
Decreasing Life Insurance
When it comes to protecting your mortgage, a Decreasing Life Insurance product can be a great way to do it.
- Good for Repayment mortgages
- Good for Offset mortgages
- Affordable monthly premiums
- Tax free lump sum
- Not suitable for Interest only mortgages
- Benefit meant to just cover the liability of your mortgage
This type of cover is ideal if you have a Repayment mortgage or an Offset mortgage and want to protect your property in the event of your death. This may be so that your family/loved ones do not need to struggle with mortgage repayments with the loss of your income. A Decreasing Life Insurance (also known as Mortgage Life Insurance) policy is a suitable option to ensure that your family do not need to worry about the security of keeping their home, as well as coming to terms with their loss of a loved one.
A Decreasing Life Insurance policy works by covering yourself for the amount of money owed on your mortgage and for the cover to last the length of your mortgage. As time goes on and your mortgage decreases so does the amount of benefit you would receive from the Life Insurance policy.
As the amount of benefit decreases in line with your mortgage, this type of Insurance policy can be very affordable and provide you with peace of mind if the unthinkable happens. The decreasing benefit associated with this type of policy makes the cover unsuitable for an Interest only mortgage.
Level Term Life Insurance
Level Term Life Insurance policies are another good option. They are not as cheap as the Decreasing Life Insurance policies but might be a better choice depending on your needs and situation.
- Good for Repayment mortgages
- Good for Interest only mortgages.
- Good for Offset mortgages.
- Can use benefit for more then just paying your mortgage off.
- Tax free lump sum
- Higher premium than Decreasing Life Insurance
This type of cover works the same way as Decreasing Life Insurance with one main difference, the amount of benefit you choose does not decrease over the term of the policy.
It is more suitable for an Interest only mortgage then a Decreasing policy, but it can also be a good choice for someone with a Repayment or an Offset mortgage.
By the level of benefit remaining the same, it not only allows you to pay off what is left of your mortgage but also provides some additional money to use as needed. As this policy pays out in the event of your death, the extra money could be used by the beneficiaries for a number of things. It could help to cover funeral costs, pay off any other loans or debts your family/loved ones may have, help them cope with the loss of your income or even just make life a bit easier during this hard time.
Whole of Life Insurance
This type of cover is generally not the best option (due to cost) if you want to protect your mortgage, but does have some benefits over the previous two products.
- No term on the cover
- Guaranteed to payout as long as you keep up your premiums
- Tax free lump sum
- Due to cost may not be ideal for protection of a large mortgage
- Higher monthly premiums
Whole of Life Insurance works the same as Level term Life Insurance, but you do not select a length of term for the cover. The cover lasts for the whole of your life as long as you keep paying the monthly premium.
As there is not an end of term on this type of cover the monthly premiums are higher then other options. Due to the increased premiums associated with this type of policy most people do not choose a high benefit with this product, as such it is often not enough to cover a mortgage.
This type of product is normally used to cover funeral expenses, or to leave your family/loved ones with a bit of money to help make life a bit easier when you pass away.
Family Income Benefit
Some people might wonder about a Family Income Benefit policy when looking at protecting their mortgage. Although the premiums for this type of cover are low it is not considered a good option when wanting to protect a mortgage.
- Low monthly premiums
- Benefit paid out every month
- Tax free
- Not suitable for mortgage protection
This type of cover works a bit differently than the others. You choose how long you would like the cover to run for and how much you would like the cover to pay your beneficiaries each month in the case of a claim. As with the other products this policy only pays out in the event of your death.
It sounds similar to a Level term Life Insurance policy but it has a big difference. The benefit is paid to the beneficiaries each month, rather then them receiving one immediate lump sum payout. This makes this cover less ideal for protecting your mortgage, as you will still need to pay off the borrowed money and accrued interest each month until the end of your mortgage term. This means you will need to cover yourself for a higher benefit than if you took out a Decreasing or Level term Life Insurance policy.
An example would be this:
You have borrowed £198,000 over 20 years from a mortgage lender. With a Decreasing or Level term Life Insurance you would only need to insure yourself for £198,000 to cover the mortgage liability. With a Family Income Benefit policy you would need to insure yourself for the mortgage liability and related interest due over the mortgage term; at an interest rate of 5.5% this totals £326,884.05.
A Family Income Benefit policy is often more suited in helping your family/loved ones cope with every day living costs in the event of your death and the loss of income. It can also be used to keep paying for childcare costs if the unthinkable should happen.
In this article we have covered some the types of mortgages available in the current economic climate and the range of insurance policies available to protect your next of kin should the worst happen.
The Life Insurance product you require depends upon your individual circumstances and the type of mortgage you have.
If you would like advice on which Life Insurance product might be best for you, feel free to contact our qualified advisors on freephone 0808 17 82 777. Alternatively if you would like to see how much the premiums for the different Life Insurance covers may be, then head over to our Quote page for your instant free quotation.Source:
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