Although showing up to an open house with a suitcase full of $100 bills to purchase a property in cash is a nice dream, in reality, almost all Canadians have to borrow in order to become homeowners.
The median mortgage debt of Canadian families with a mortgage almost doubled from 1999 to 2016, according to Statistics Canada, rising from $91,900 to $180,000. And in major urban areas like Toronto and Vancouver it’s not unheard of to have mortgages that exceed $1 million. Canadian households now owe over $2 trillion, more than the country’s GDP, and the majority of it due to mortgages.
It’s clear that a mortgage is likely the biggest financial commitment most Canadians parents will make in their lifetime. And Canadians tend to be extraordinarily committed to paying down their mortgage - the nation’s default rate is tiny, at just 1.07%. But what happens if you simply can’t pay your mortgage, due to death? Enter mortgage life insurance, which will allow your family to stay in their home despite dreadful circumstances.
Mortgage protection or mortgage life insurance is different from the insurance mandated by the Canada Mortgage and Housing Corporation (CMHC).
If you put less than 20% down when buying your home then CMHC forces you to purchase mortgage insurance, which protects the lender in case you default. This kind of mortgage insurance gets rolled into your mortgage and you only have to pay the PST on the premium upfront, as part of your closing costs. With such a high loan to value ratio you’re considered a risky buyer and don’t have a choice to buy this kind of insurance. Again, this kind of insurance protects the banks - not you.
In contrast, mortgage protection or mortgage life insurance is sold by your lender as an add-on option to protect your debt payments. In some ways, this kind of insurance also protects the banks since the payout goes straight to them, not your children. But it also protects your family because the insurer guarantees that the remainder of your mortgage will be paid off and your family will not be forced to move.
You can definitely get a mortgage without corresponding life insurance. The mortgage life insurance is often introduced in the documents when you sign your mortgage, and you may have to check a waiver box confirming you have refused it.
This feels a little like a high pressure tactic to make the insurance seem almost obligatory to purchase. That’s probably because it’s in the lender’s best interest to get you to purchase it because then their debt is covered no matter what. While it may also be in your best interest, it’s also certainly not necessary for everyone.
You must weigh the pros and cons, which includes the size of your mortgage, how much your family wants to stay in your home, the ages and number of your children, how stable your other finances are and what other kind of insurance you have.
Generally mortgage life insurance is worth it if your family is unable to face the financial responsibility of paying the mortgage alone and would like to stay in the property. On the flip side, other insurance products may also allow your family to stay in their home and they come with more advantages.
We’re talking about term life insurance, which offers lower premiums, more flexibility and potentially a higher payout.
The main disadvantage with mortgage life insurance is that the payout decreases with time as you pay down your mortgage, but the premiums remain stable. That’s because the payout is not a specific cash value, but is only equal to your remaining mortgage. And since you pay down your mortgage over time, the total payout applied to your mortgage by the time you pass away could be fairly low.
Another downside to mortgage life insurance is that the underwriting process happens after you pass, not before and doesn’t involve any sort of medical test. Because the insurer is taking on a greater risk, the premiums are quite high.
Premiums not only tend to be cheaper over the long term for term life insurance, because the insurer calculates the risk they’re taking before they offer it to you, but you are also more confident in the dollar amount your family will get.
Plus, the payout is in cash - and cash is king.
If you get term life insurance worth $500,000 then you will get that $500,000 no matter the value of your mortgage.
Your family can then choose to pay off the mortgage with the lump sum, or put in investments or use it for daily living costs. The choice is theirs.
If you find it hard, however, to qualify for term insurance because of your age or existing medical conditions, then mortgage life insurance could be a good option.
Term life insurance is the better choice for most Canadian parents because your family will get a stable cash payout and can decide how to allocate it. In contrast, the payout with mortgage life insurance decreases with time and can only be applied to this specific debt.