What is the difference between mortgage insurance and homeowners insurance? Even though they sound similar, they're actually very different things.
What is Mortgage Insurance?
The best way to start this article is by explaining what mortgage insurance is. Just like all forms of insurance, mortgage insurance exists to protect an entity from loss. In this case, it protects the lender, not you.
Usually called private mortgage insurance or PMI, this helps protect the lender by tacking on an extra premium that you (the borrower) have to pay each month. It's a way for the lender to collect extra money to offset the risk they're taking by giving you the loan.
Why would you be considered a risk? The main reason is you probably put less than 20% down on the purchase of the home. That means if you don't pay your bills and the lender has to foreclose, they have to sell the house at a higher price to make up for the fact you weren't paying.
How much is mortgage insurance? It depends on the lender and your specific situation, but it can be anywhere from 0.5% to 2.5% of the purchase price of the home per year. So if it's 1% and you bought a home for $200,000, you'll need to pay $2,000 per year in mortgage insurance.
How do you get rid of private mortgage insurance so you don't have to keep paying that fee? In general, you have two options: pay off 22% percent of the loan or refinance so you have at least 20% equity in the home.
Now let's look at the second piece of knowing mortgage insurance vs. home insurance – what homeowners insurance is all about.
What is Homeowners Insurance?
Homeowners insurance is meant to protect you, not the lender. It exists to help make sure you don't suffer a devastating financial loss.
For example, the sad truth is a lot of people lose their homes every year due to natural disasters such as flooding, fires, tornados, etc. When that happens, those people are glad they'd invested in home insurance.
The National Association of Realtors has a short but useful explanation of what's covered by homeowners insurance. Essentially it protects you four ways:
- It protects the home itself
- It protects your personal belongings inside the home
- It protects other things on the property (such as the fence or detached garage)
- It covers you in case of loss of use, meaning it will pay for your hotel/food while the home is being repaired if you can't live inside while it’s getting fixed up.
Hopefully, this helps shed more light on mortgage insurance vs. home insurance. For most homeowners, one is something they tend not to like since it's extra money they have to pay. The other helps them sleep better at night.
Do You Need Mortgage Insurance or Homeowners Insurance?
Not everyone needs to pay private mortgage insurance. Certain loans such as the VA loan don't require it. Likewise, if you get a conventional loan but have enough cash to put down (at least 20%), you don't need to pay PMI.
Homeowners insurance is different. Most lenders won't give you a mortgage if you don't have home insurance set up. They want to make sure the property will be rebuilt in case something catastrophic happens! If they gave you a loan and the house was destroyed without home insurance to rebuild it, they'd have no assets left and would be out hundreds of thousands of dollars.
We Can Help
Do you have any other questions about mortgage insurance vs. homeowners insurance? We'd love to help! Give us a call at (877) 306-0222 and we'll answer any questions you have.