So, you’ve purchased a gorgeous new (or new to you) home in the Raleigh area. Now your lender is asking you for proof of homeowner’s and mortgage insurance.
Your mortgage relates to your home. Your homeowner’s insurance should cover it, right?
Wrong. Mortgage insurance and homeowner’s insurance may sound similar. However, they provide very different types of coverage. So, when comparing homeowner’s insurance vs mortgage insurance, how can you tell the difference?
First, let’s clarify some terms.
What Is Homeowner’s Insurance?
Homeowner’s insurance offers financial protection for your home in case of a disaster. There are many types of policies. However, most of them offer at least this much coverage as a baseline.
What Types of Homeowner’s Insurance Policies Are There?
There are 8 types of homeowner’s insurance policies available to consumers. Each provides different levels of coverage.
- Basic (HO-1) and Broad (HO-2) form coverage, or ‘named peril’ policies, only offer insurance coverage of the perils named in the insurance contract
- Special (HO-3) form coverage, or ‘open peril’ policies, offer coverage in all instances except for those excluded in the insurance contract
- Tenant (HO-4) form coverage, or renter’s insurance, uses Broad form coverage for contents, but not structure
- Comprehensive (HO-5) form coverage offers the best reimbursement, the widest open peril protections, and is the most expensive
- Condo (HO-6) form coverage generally matches Special coverage, but covers limited structural elements
- Mobile Home (HO-7) form coverage matches Special coverage, but only while the building in question remains stationary
- Older Home (HO-8) form coverage only offers Basic coverage, and is only available to those who own older buildings that cannot be updated for other coverage types
If you want to learn about the types of coverage available in North Carolina in greater detail, our blog has more information available for you.
What Does Homeowner’s Insurance Protect?
As stated above, homeowner’s insurance generally protects your home’s structure and contents. This includes personal property. However, that can vary depending on the kind of coverage you purchase.
Most policies let you pick and choose extra coverages for liability, medical expenses, attached dwellings, and loss of use. For more information on each of these, check our guide to covering your bases.
What Disasters Aren’t Covered?
Homeowner’s insurance helps protect against a variety of potential disasters. However, there are a few it will not cover. Floods, earthquakes, normal wear and tear, and sewer backup are not covered. These typically require purchase of a separate policy.
If you want to learn more about flood insurance, and why you should always have it, our blog entry will help you understand its importance.
What Is Mortgage Insurance?
Mortgage insurance, unlike homeowner’s insurance, does not protect your home’s structure nor contents. Rather, it protects your mortgage lender in the event that you become unable to make payments.
Mortgage insurances lowers lender risk. This lets you, the borrower, receive larger loans than your finances might otherwise allow.
What Types of Mortgage Insurance Are There?
There are 5 commonly used types of mortgage insurance. Each has different expectations for premium payment and repayment.
- BPMI, or Borrower-Paid Mortgage Insurance, acts as an additional monthly fee on top of your mortgage payment, which continues until you’ve paid off around 22% of your loan
- SPMI, or Single-Premium Mortgage Insurance, either takes the cost of mortgage insurance upfront in a lump sum or finances that lump sum cost into the total mortgaged amount
- LPMI, or Lender-Paid Mortgage Insurance, has the lender pay the mortgage insurance premiums while financing them into the mortgage at a higher interest rate, which is repaid at 78% home equity
- Split-Premium Mortgage Insurance is the least common variety and combines the first two types by allowing both a lump sum payment at closing and an additional monthly premium paid by the borrower
- MIP, or Federal Home Loan Mortgage Protection, is only applicable to homes purchased via FHA loans and cannot be removed unless the home gets refinanced
What Does Mortgage Insurance Cover?
Mortgage insurance covers the lender, not the borrower. If the borrower stops making payments on their home loan, mortgage insurance pays the lender a percentage of the principal cost.
However, it does not remove borrower liability. If you stop paying on your mortgage, your credit score will get penalized, and you could end up losing your house!
Homeowner’s Insurance vs Mortgage Insurance: Which Of Them Is Necessary?
The simple answer to the necessity of homeowner’s insurance vs mortgage insurance is, “You need both.” The more complicated answer is that it depends on your particular financing arrangement.
Any time you finance your home, homeowner’s insurance will be required to close on the home. The only way to avoid this is if you purchase the home outright. Think of it this way: You don’t officially own the structure yet, so you need to make sure it’s protected.
As for mortgage insurance, you’ll need that any time your down payment on the home is less than 20% of the total cost. (Or 10% if you’re using an FHA loan.) Since you, the borrower, have proven that your finances aren’t solid enough for the requisite one-fifth down payment, the lender has to take steps to protect their own interests.
So, if you want to avoid having to pay for mortgage insurance, start saving up for that 20% down payment. You’ll save more in the long run.
Now, to Recap What You Know
When deciding on homeowner’s insurance vs mortgage insurance, you’ve learned that both are necessary. While homeowner’s insurance covers you and your interests, mortgage insurance covers the lender and their financial interests.
With that in mind, you can better navigate the complicated world of property insurance and home purchasing.
If you have your insurance policy in hand and are still confused by all the legalese, check out our amazing glossary! It gives you our rundown on all the terms you’ll find in your property insurance policies. Or, you can contact us today for a quote or consultation!