Leaping interest rates are playing havoc with traditional mortgage insurance, bought by many families to protect their homes.
Mortgage policies are an inexpensive form of coverage, geared to the amount remaining on your mortgage every year. If you die, the policy pays off the mortgage, leaving the house to your family free and clear.
But given the rapid rise in mortgage rates these recent months, you can't be sure that a new mortgage-insurance policy will really cover a home loan in full. You might have to buy supplemental coverage.
Mortgage insurance ought to be tied directly to the amount of principal remaining on the loan. If you took a $50,000 mortgage for 25 years, at 14 percent, and died the first year, the policy would pay $50,000. If you died 10 years after taking out the loan, the policy would pay $45,200, which is the mortgage amount still remaining.
As the year go by, both the mortgage principal and the face amount of the insurance policy decline in tandem.
But to achieve a 100 percent payoff, the insurance policy has to be keyed directly to your current mortgage rate. If the policy was constructed on last year's rates -- say 9 1/2 percent -- it would pay only $41,850 after 10 years which is $3,350 short of what your family would actually need to pay off the loan. As the years went by, the gap between the amount remaining on the mortgage loan and the face value of your mortgage insurance would grow even wider.
Mortgage rates have risen so quickly this year that companies selling individual coverage haven't been able to keep up. Virtually all of the individual policies on the market today assume a lower mortgage interest rate than home buyers are actually paying.
The highest rate for individual policies sold by Occidental Life of California is 9 1/2 percent. Allstate assumes 9 percent. The newest rate on policies sold by Family Life Insurance is 12 percent, while Minnesota Mutual goes to 14 percent. Some policies still on the market assume mortgage rates as low as 5 and 6 percent. They're cheaper than the up-to-date policies, but provide less coverage.
You can augment these policies, however, with extra insurance to fill the gap. Life insurance agents generally carry factor sheets that show how much more coverage you need, on top of the regular mortgage policy, to ensure that your loan will be paid in full.
Individual coverage is generally sold directly by life insurance agents.
Mortgage insurance is also sold on group basis. A particular lender will offer coverage -- through the mail -- to all its mortgage holders.
Group insurance may be a little cheaper than individual policies, although that is not always the case. What's more important is that group policies are more likely to be keyed to the current mortgage-interest rate, which means that they cover your loan in full. Occidental Life's group policies (but not its individual policies) can even handle variable rate mortgages.
People in poor health are generally not accepted for group mortgage insurance. You can, however, buy individual coverage at high-risk rates. People who have recently had heart attacks or other serious illnesses may be limited to individual "guaranteed issue" policies. These policies pay in full only if you live a certain length of time -- such as three years -- past the issue date.
Group policies generally name the lender as beneficiary. This may not be the way you want to handle things. If, for example, you have an 8 percent mortgage and short-term interest rates are at 16 percent, your family might be better off receiving the insurance proceeds in cash and reinvesting the money rather than paying off the mortgage. p
Some group policies allow you to name a family member as beneficiary, instead of the lender, but you usually have to ask for it specifically. With individual policies, you may name anyone you choose.