Home Insurance and Mortgage Protection: A Comprehensive Guide

Key takeaways

  • Basically, homeowners’ insurance is all about keeping your investment in your home safe, while mortgage insurance is all about making sure the lender keeps their money out of your home.
  • Mortgage insurance (or PMI) is usually required for borrowers who put down less than 20% of their income when buying a house.
  • Hazard insurance, also called homeowners insurance, protects your investment by covering your home’s structure, contents, and liability, amongst other things.
  • Homeowners may be able to avoid PMI fees by saving for a bigger down payment, choosing a lender with its own PMI program, or borrowing from the VA or USDA.

Home Insurance and Mortgage Protection

As a new homeowner, you may be wondering, “What is mortgage insurance and what is home insurance?” Both are policies that offer financial protection, but they are two very different things.

Mortgage insurance, sometimes called PMI, provides financial protection to your lender in the event that you fail to make your mortgage payments.

Home insurance, on the other hand, provides financial protection for your home by covering its structure and contents, as well as providing liability coverage.

Mortgage insurance vs. home insurance

What’s the big difference between mortgage and home insurance? Well, the main difference is who it covers. With homeowners’ insurance, it’s mainly about protecting your investment, but with mortgage insurance, it’s all about protecting the lender’s investment in your house.

Mortgage Insurance

Mortgage insurance also known as private mortgage Insurance (PMI), provides financial protection to mortgage lenders if a borrower defaults on their mortgage.

Conventional loan borrowers are typically required to purchase PMI when making a down payment below 20 percent when buying a home. PMI premiums are canceled after a certain percentage of the mortgage is paid off.

FHA and USDA loan borrowers who put down below 20 percent typically also pay mortgage insurance premiums, which cannot be canceled in most cases.

Homeowners Insurance

Homeowners insurance sometimes referred to as hazard insurance, can help protect your home’s structure and property from financial losses caused by fires, storms, and other hazards listed on your policy.

If a covered claim causes damage to your home, your local property insurer will help pay for the repairs, less your deductible.

If your home is backed by a mortgage, you may be obligated to carry homeowners’ insurance in order to protect your mortgage company’s investment.

Homeowners Insurance Mortgage Insurance
Covers: Homeowners directly and mortgage lenders indirectly. Mortgage lender
Does not cover: Most homeowners’ insurance policies don’t cover damage caused by things like fire, flood, sinkhole, mudslide, earthquake, etc. Check your policy to see what your coverage covers. The structure of the home, the owner or the owner’s personal property.
Typically required for: Borrower Financing the Purchase of a Home A borrower who puts down a smaller down payment, typically less than 20 percent of the purchase price.
Payment form: In most cases, the premium is paid directly by the policyholder to either the insurance company or the mortgage company. The mortgage company then picks up the tab for homeowners insurance from an escrow account set up by the lender. The mortgage insurer is the lender that the borrower pays monthly and/or a percentage of the closing costs of the home purchase to.
Average annual cost: Premium: $1,428 per year for $250,000 of dwelling coverage Loans amount to between 0.58% and 1.86%.

What is PMI?

When you get a loan to purchase or refinance your home, a lender takes a chance that you will keep up with your loan payments and repay your lender on time.

Private mortgage insurance (PMI) protects a lender if you default on your mortgage or if you walk away from your home and it becomes foreclosed on.

PMI gives the lender the assurance that its risk is likely to be covered when lending money to you.

Most conventional home loans require you to have PMI if you put down less than 20% of the home’s purchase price. If you’re refinancing, you may be asked to have PMI when you have less than 20% equity in your home.

Many borrowers fall into the low-risk category but don’t have enough money to put down 20% of the value of their home. A lender may view this as a red flag.

If a borrower can’t afford to put down a large enough down payment on their home, they may struggle to sustain the higher monthly payments in the long run. That’s where PMI enters the picture. PMI may be included in your loan.

How much does PMI cost?

On average, PMI is between 0.58% to 1.86% of the initial loan amount and can cost up to $70 extra per $100,000 loan.

PMI is usually paid as part of your monthly mortgage premium, but can also be paid as a lump sum during the closing process.

The terms and conditions of PMI are set by the lender and are provided by private insurance providers.

A lender may not provide you with payment options, although you can request some. The following are the most common ways you can pay for PMI:

  • A fee that is added to your monthly mortgage payment
  • A one-time premium is paid at the time of closing
  • Make one down payment and pay your premiums each month

How can I avoid paying PMI?

If you want to avoid having to pay PMI, there are a few things you can do. Check them out below:

Ask the lender to pay: Some lenders offer LPMI (lender-paid mortgage insurance) coverage for your mortgage loan. However, there is one downside to LPMI coverage, and that is that you could end up paying a higher rate on your mortgage.

Get a piggyback mortgage: Instead of taking out one mortgage, you can take out two mortgages. This is most commonly done in what is known as an “80/10/10” split, where the first mortgage is 80 percent, the second mortgage is 10 percent and the down payment is 10 percent.

Save more: If you put off buying a house until you can afford a bigger down payment, it might stop you from paying PMI.

Find a lender with its own mortgage insurance program: Some lenders also offer PMI-free low down payment options.

First-time home buyers, low-income borrowers, or borrowers with certain occupations, such as doctors or teachers, can take advantage of this.

Use a USDA home loan: USDA home loans are available to low- and moderate-income borrowers who live in a rural area qualifying for the program. These loans typically have low or no interest rates and no formal loan limits.

Use a Veterans Affairs (VA) loan: If you meet the requirements for a VA loan, you could qualify for a no-down payment mortgage and avoid PMI.

How long do I have to pay for PMI?

If you purchase your home with an FHA loan, you may be subject to PMI payments throughout the loan term.

Conventional private lender loans, on the other hand, allow you to request PMI to be removed as soon as your home attains 20 percent in equity on the basis of the appraised value (or purchase price, whichever is lower) of your home.

There are four ways to get PMI removed from your mortgage:

  • Automatic termination: PMI must be stopped as soon as the principal balance is equal to or less than 78% of the original purchase price of the home.
  • Request cancellation: Once you’re below 80 percent of your loan balance, you can file a written application to cancel your PMI. You’ll need to pay on time, have a solid payment history, and provide evidence that the value of your home hasn’t decreased and you don’t have any other mortgages or outstanding liens.
  • Final termination: Once you’re at the “midpoint” of your loan’s repayment schedule, PMI is eliminated by the lender. For instance, the midpoint of a 30-year mortgage would be 15 years of repayments, even if you’ve reached 78 percent of your original purchase price.
  • Refinance: If you’ve owned your home for enough time to qualify with a lender, you could refinance your current mortgage into another loan to get rid of PMI. You could refinance if the balance on your new loan is less than 80 percent of your home’s market value. Remember that private mortgage insurance protects the lender’s financial interest, not yours if you fall behind on your mortgage payments.

If you don’t make your payments on time, your credit score will likely take a hit and you could default on the terms of the loan, which may result in the loss of your house.

What is homeowners insurance?

Homeowners insurance can provide financial protection in the event of a covered hazard that causes damage or destruction to the structure, other structures, or personal belongings of your home.

If you do not have homeowners insurance, you may be required to repair or replace all of your belongings on your own, which could be costly.

Although some lenders may not require homeowners insurance or if the mortgage on your home is paid off, the majority of financial professionals recommend that you purchase home insurance to safeguard your investment.

The cost of the home insurance premium is likely to be relatively low compared to the out-of-pocket costs of repairing or replacing your home and belongings.

It is recommended to consult a licensed insurance agent for assistance in comparing home insurance quotes and purchasing the appropriate amount of homeowner’s coverage.

What does homeowners’ insurance cover?

The level of protection offered by homeowners insurance policies varies depending on the preferences of the policyholder. For instance, a policy might provide coverage for the replacement of personal property at the actual cash value, or at the replacement cost. Depending on the home insurance policy type, the policy may also include open perils coverages and named perils coverages.

As a general rule, the following types of homeowners insurance coverages are included in most standard policies:

  • Dwelling coverage: This applies to the overall design of your house.
  • Other structures coverage: This applies to other buildings on your property, such as detached garages fences, and barns.
  • Personal property coverage: This applies to your household goods such as furniture, clothes, and electronics.
  • Medical payments coverage: If a guest in your home gets hurt, this coverage may cover some of the medical costs.
  • Liability insurance: This type of coverage may help shield you from losses if you are held legally liable for harm to another person or property.
  • Additional living expenses coverage: This type of coverage can help cover the costs of living somewhere else while your home is in the process of being fixed up after a covered claim, such as hotel stays, meals, and pet sitters.

The most common homeowner’s insurance disaster include:

  • Theft
  • Fire and smoke
  • Falling objects
  • Windstorms and hail
  • Lightning strikes
  • Explosion
  • Aircraft or vehicle
  • Weight of ice, snow or sleet
  • Vandalism and malicious mischief
  • Water damage (but not flood damage)

Most standard home policies don’t include earthquake, flood, or sinkhole coverage. You’ll most likely need to buy a separate policy or (if your company offers it) add a special endorsement for an extra fee to insure against a particular hazard.

Flood insurance, for instance, can be purchased through the federal NFIP (National Flood Insurance Program) or from a variety of private insurers.

Your insurance agent can assist you in purchasing these additional coverage types.

How much does home insurance cost?

Homeowners insurance premiums can vary significantly depending on where you live, the condition of your home, the number of owners, and other factors that affect your risk. The national average for dwelling coverage for a $250k home is $1.428 a year.

In most cases, homeowners’ insurance is spread out over several years and written off with your monthly mortgage payment to escrow. Your lender pays your insurance company annually.

Is homeowners’ insurance required?

Homeowners insurance isn’t required by federal and state law, but most mortgage lenders will require homeowners’ insurance as long as your financial interest in your home is in question.

Most insurance professionals suggest homeowners’ insurance as a way to protect your home’s value and avoid potentially catastrophic out-of-pocket expenses following a covered catastrophe.

Depending on the type of home you own and where you live, you might be able to get affordable home insurance from one of the lowest-cost home insurance companies.

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