Mortgage Life Insurance explained
Mortgage life insurance, or 'mortgage life assurance', offers protection for your family in the event of your death by covering mortgage repayments – and making sure your dependants still have a roof over their head.
You could opt to set up a standard life policy for the same amount as the outstanding mortgage, but another potentially less expensive option is to take out a specific mortgage life insurance policy.
Mortgage life insurance Vs other types
The most expensive and comprehensive kind of life insurance is 'whole-of-life' cover, which pays a fixed sum irrespective of when the policyholder dies.
Alternatively, 'term insurance' pays out only if the policyholder dies within a pre-agreed period of time – and Mortgage life insurance is one type of term insurance. It is designed to provide for the policyholder’s mortgage repayments until the mortgage is paid off. Therefore if you take out a 25-year mortgage at the same time as you take out mortgage life insurance, you would want your insurance policy's term to be 25 years as well. This is also a 'decreasing term insurance', which means the potential payout falls every year, as your mortgage shrinks. So, if you died early on in the term, the payout to your family would be far larger than if you died in the 24th year, because you would owe much more to your mortgage lender early on in the term.
Premiums on mortgage life insurance are generally cheaper than on insurance which pays out the same amount throughout the term.
If you have an interest-only mortgage rather than a repayment mortgage, you may find that mortgage life insurance does not offer an adequate level of cover – because the amount you owe your mortgage lender will not be decreasing each year. Also, make sure the insurance term is always the same as your mortgage term – for example, if you move house and extend your mortgage, remember to discuss this with your insurance provider to see if they can extend your cover term too.
Speed up payouts and reduce tax charges
To make sure your dependants get the most out of your insurance, consider writing it in trust. This means the cover falls outside of your estate for inheritance tax purposes and can mean your dependants face a lower tax charge in the event of your death. With inheritance tax charged at 40% on bequeathed assets above the £325,000 threshold, depending on your other assets up to 40% of the life insurance payment could get consumed by tax if the policy is not written in trust.
An additional benefit is that because your life insurance is not classed as part of your estate, the payout does not have to go through the potentially lengthy probate process with your other assets – so your family may receive the money more quickly.
Where to buy your mortgage life insurance
Life insurance policies sold by mortgage lenders when you take out your mortgage can often prove more expensive than policies you find elsewhere and buy separately, especially if you are smart and shop around using a price comparison website and your own research. Always compare several quotes from different mortgage life insurance companies, and check the small print carefully before you commit to a particular policy.