Do you really need credit or loan insurance?
Credit or loan insurance (also known as debt insurance or balance protection insurance) is a form of financial protection. It may not be mandatory, but it can provide you with peace of mind in the event that an accident, job loss, or illness prevents you from making your loan or credit card payments.
Credit or loan coverage: What to expect
Credit or loan insurance is typically available any time you’re approved for a personal finance loan, line of credit, mortgage, or credit card loan. But because this coverage is optional and involves paying a premium, you should make every effort to understand what’s involved before signing up.
Here are some details you’ll want to confirm:
- the overall cost and how much your payments will be,
- the maximum benefit offered,
- what’s not covered (or what coverage is limited), and
- how the claim process works
While different credit or loan insurance products may offer different protection, most provide some combination of life, disability, involuntary loss of employment and critical illness insurance.
You may have the choice of paying for that protection with a recurring premium every time your loan payment is due, or with a one-time premium when your loan or credit card is approved (typically, this premium is added to the overall loan balance).
Of note, loans with fixed payment amounts – like mortgages, for example – come with fixed premiums based on your original loan amount. In other words, your insurance payments aren’t likely to change as you pay your mortgage down.
Is mortgage insurance optional?
A specific type of credit or loan insurance known as optional mortgage insurance is commonly offered whenever borrowers:
- get approved for a new mortgage,
- renew their existing mortgage, or
- refinance their mortgage
You may be given the opportunity to purchase mortgage life insurance, mortgage disability and critical illness insurance, or both types of insurance together.
While these coverages aren’t required to be approved for a mortgage, they do offer benefits in terms of covering your payments – or even paying your mortgage off – should you pass away, be involved in an accident, lose your job, or become gravely ill.
There’s a significant difference, however, between optional mortgage insurance and mandatory mortgage insurance. If you’re buying a new home and your down payment is less than 20%, you’ll be required to pay mortgage default insurance – which is a different type of insurance altogether.
What is mortgage default insurance?
Mortgage default insurance is mandatory in Canada if you’re looking to purchase a home with less than 20% down. While this type of mortgage insurance is federally regulated to protect lenders, it also allows them to offer more competitive rates.
The cost of default insurance varies with your down payment amount, and is typically worked into your monthly mortgage payments. But there are a few rules and exceptions you should know about:
- you’ll need a minimum down payment of 5% to qualify for mortgage default insurance,
- the amortization period of your loan can’t be more than 25 years,
- mortgage insurance is not available on homes that cost more than $1,000,000, and
- investment or rental property loans are considered uninsurable mortgages
Banks are extremely risk-averse when it comes to approving mortgage loans, second mortgage loans, and refinanced mortgages. Without the right combination of mortgage insurance, credit score, and income, borrowers will have their loan applications denied.