Using Life Insurance To Pay Off Your Mortgage

Your mortgage doesn’t disappear when you die. If you pass before paying it off, your heirs will inherit both the house and the mortgage.

If you are worried about their ability to repay the loan, consider taking out a life insurance policy. Your loved ones can use the death benefit to take care of the debt you leave behind and other lifestyle expenses.

Mortgage life insurance is another option, but it is more expensive and less flexible and traditional life insurance.

In this blog post, we'll discuss how life insurance can pay off your mortgage, and why it's a better choice that mortgage life insurance.

Can you use life insurance to pay off your mortgage?

Yes, you can use term or whole life insurance to pay down your mortgage balance. 

When you pass away, your mortgage doesn’t simply disappear. The lender must be repaid, and if the co-signer (in case there is one) or the person who inherits the property can’t repay it, the lender can foreclose on your home. This is where a term life insurance policy can help.

Term life insurance provides coverage for a set period and hence is a good option for covering debts, like your mortgage. Consider buying a term life plan with a death benefit that’s at least the amount of your mortgage and with a policy term that matches your mortgage repayment period. Then if you pass away during the policy's term, your family can use the life insurance payout to pay off your remaining mortgage balance.

Don’t confuse term life insurance with mortgage life insurance or mortgage default insurance. Mortgage life insurance is similar to standard life insurance, but it pays the death benefit directly to the lender.

This means the lender is the beneficiary by default, and you can’t remove them from the policy. Mortgage default insurance, on the other hand, protects the lender if you default on your mortgage payments. It is mandatory for homebuyers who put down less than 20% down on their home. 

Choosing the right insurance to pay off your mortgage

You can use either mortgage life insurance or term life insurance to pay off a mortgage. For most people, term life insurance is a better option because it offers more flexibility and usually costs less than mortgage insurance for the same amount of coverage.

Mortgage Life Insurance

Mortgage life insurance is a life insurance product, but it is tied to your mortgage. The mortgage lender, not someone of your choice, is the beneficiary and the death benefit reduces over time as you pay off the mortgage. 

Pros:

• It doesn’t require a medical exam. You can get approved despite health issues. 

Cons:

• It is more expensive than term life insurance. That’s because the life insurer has less information to evaluate your health. 
• Your family won’t receive a payout. The death benefit goes to the lender. 
• It has a decreasing death benefit. The death benefit reduces over time, even while the premium remains the same. 
• It only covers your mortgage balance. If you have other financial obligations, you will need to buy a traditional life insurance policy. 

Term Life Insurance

Term life insurance provides coverage for a limited period of time, like 10, 20, or 30 years. If you pass away while your policy is in force, your family will receive a lump-sum. Your beneficiaries are free to spend this money any way they like, including for paying down the mortgage. 

Pros:

• You choose the amount of coverage you need. Your term life insurance policy is not tied to your mortgage, meaning you can get as much coverage as you reasonably need. 
• You can designate a beneficiary of your choice. With a term life plan, you are free to name anyone as your beneficiary. This person or persons will receive the death benefit upon your death. 
• Your beneficiaries are free to use the payout as they like. If, after your death, your family thinks that paying down the mortgage is not their biggest priority, they may use the death benefit to take care of other pressing needs.
• Generally, the death benefit remains unchanged throughout the policy term. Most term life plans have level death benefits, meaning your family will receive the same amount whether you pass two months after taking out the policy or 20 years later.

Cons:

• Most term life plans require you to take a medical exam. If you have a serious medical condition, you may find it difficult to qualify or secure an affordable rate.

How beneficiaries can use term life to pay off a mortgage

Upon your death, your beneficiary needs to file a claim with the insurer. Typically, the most reputable life insurance companies pay out within a few days of receiving the claim documents and supporting documents, like a copy of the death certificate. The life insurance proceeds are usually not taxable, and your beneficiary can use the money for any purpose, including for paying down the balance on your mortgage. 

Mortgage prepayment penalties

Some mortgage lenders charge a prepayment penalty if you repay the entire loan or part of it early. The mortgage prepayment penalty is calculated on the full amount of the prepayment and can run into several thousands. Read your mortgage contract carefully to find out whether it includes a prepayment penalty clause and, if so, how much this penalty will be. Also, talk to your loved ones so that they understand the consequences of repaying the loan early should the unthinkable happen. 

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Conclusion

Your mortgage doesn’t die with you. The person who inherits your house will be responsible to repay the loan. By taking out a term life insurance policy, you can make it easier for your heirs to pay off the mortgage balance. Dundas Life works with top Canadian life insurance companies and can help you secure the right policy at a great price. Let's discuss your life insurance options today.

FAQs:

1. Do I need homeowners insurance if I have a mortgage? 

If you are applying for a mortgage, the mortgage lender will almost certainly require you to have home insurance. Because the lender has a financial interest in your home, they will want you to carry adequate homeowners coverage. In the unfortunate event of damage or a loss caused by hurricane, fire, or other perils, this coverage safeguards the lender (and you) against financial losses. 

2. What happens to mortgage life insurance if I move?  

Your mortgage life insurance might not move with you. If you sell a house and buy a new one, the existing mortgage life insurance policy will not transfer to the new mortgage. You will have to buy a new policy to cover the new mortgage.

3. Can I use an existing life insurance policy to pay off my mortgage? 

Yes, you can use your existing policy to pay off the mortgage, provided the death benefit is large enough to cover it. If you don’t have sufficient coverage, consider a new term life policy to cover the gap.