Homeowners Insurance vs. Mortgage Insurance

 Homeowners insurance protects your home/property, whereas mortgage insurance protects your lender.

Homeowners insurance and mortgage insurance are two types of insurance that can raise the cost of owning a home, and you're likely to come across both during the mortgage process. Their similarities, however, end there.

The primary distinction is that homeowners insurance protects your home and its contents, whereas mortgage insurance (also known as private mortgage insurance, or PMI for short) protects your mortgage lender if you fail to make your mortgage payments.

Mortgage Insurance vs. Homeowners Insurance

Though homeowners insurance and mortgage insurance may appear to be the same thing, they are not. Each is described briefly below.

What Is Homeowners Insurance?

Homeowners insurance is a type of property insurance that protects your home and its contents against damage caused by unforeseen events. Furthermore, most homeowners insurance policies protect you from lawsuits if someone is injured on your property. It also protects your home and property against damage or loss. This insurance is ideal for anyone who wants to protect their home and belongings.

A homeowners insurance policy may cover the following items:

• The structure of the house
• Personal effects
• Liability in lawsuits for injuries caused by you, your family members, and your pets to others
• Medical costs if someone is injured in your home
• Additional living costs while your home is uninhabitable

However, there are constraints. Natural disasters such as floods, mold, earth movements such as earthquakes and landslides, and sewer or drain backups or overflows are typically excluded from standard homeowners insurance policies.

What Is Mortgage Insurance?

Mortgage insurance, also known as private mortgage insurance (PMI), is not the same thing. This is an insurance policy designed to protect the lender—say, a bank—if you are unable to make your mortgage payments.

The homeowner typically pays a percentage of their total mortgage cost each year with PMI. The insurance company will then pay the lender on their behalf if they are unable to make mortgage payments. Including PMI in your monthly bills can raise the cost of home ownership.

Key Differences

The key differences between these two types of insurance can be summarized as follows:

	Homeowners Insurance	Mortgage Insurance
Covers	Directly, the homeowner, and indirectly, the mortgage lender	Mortgage lender
Does not cover	Property damage caused by losses such as arson, flooding, sinkholes, mudslides, and earthquakes is typically excluded from standard homeowners insurance policies.	Homeowner
Required for	A borrower who is financing the purchase of a home	A borrower who makes a smaller down payment, typically less than 20% of the purchase price of the home
Payment form		In most cases, the policyholder pays the premium directly to the insurance company or to the mortgage company, which then pays the homeowners insurance from the lender's escrow account.	Borrower pays monthly payments and/or a portion of closing costs to a mortgage insurer determined by the lender.
Average annual cost	Nationwide average of $1,251 per year	The loan amount, your credit score, and your loan-to-value (LTV) ratio all influence the cost. The monthly cost for a $250,000 property ranges from $1,091 to $1,747.

Do I Need Homeowners Insurance or Mortgage Insurance?

The type of insurance you require is determined by the type of mortgage you have, the size of your down payment, and how close you are to repay your mortgage.

Do I Need Homeowners Insurance?

The majority of homeowners have some form of homeowners insurance. This is due in part to the fact that lenders frequently require homeowners to obtain homeowners insurance in order to obtain a mortgage. However, many people have homeowners insurance for its own sake and continue to pay for it even after their mortgage is paid off.

Because of the high replacement cost of homes and the high cost of lawsuits, homeowners insurance can make good financial sense. Monthly premiums can be much lower than the cost of rebuilding your home or replacing all of your possessions in the event of a covered disaster, or if you are sued because a visitor was injured.

Do I Need Mortgage Insurance?

The answer is determined by your lender.

Borrowers are typically required to obtain mortgage insurance if their down payment is less than 20% of the home's purchase price. This is true if you are taking out a conventional loan or refinancing your home and have less than 20% equity. A mortgage insurance premium (MIP)—the equivalent of PMI—is always required for Federal Housing Administration (FHA) mortgage loans.

This is because lenders consider mortgages with less than a 20% down payment to be risky, and they want protection in case you are unable to make your payments.

You can, however, cancel your PMI after you've paid off a significant portion of your mortgage. The rules in this regard vary, so check with your lender for more information. In general, you can cancel your PMI when your principal balance reaches 80% of the original value of your home. This is defined by its contract sales price or appraised value at purchase (whichever is lower) (whichever is lower). When requesting cancellation, you must have a track record of making on-time payments and be current on your bills.

FHA loans have their own set of guidelines. Your loan terms may require you to maintain your MIP for 11 years, or for the life of your mortgage, depending on your loan-to-value (LTV) ratio when you took out your FHA loan.

Is mortgage insurance and homeowners insurance interchangeable?

No. Your home and its contents are protected by homeowners insurance. Mortgage insurance (also known as private mortgage insurance or PMI) protects your mortgage lender in the event that you are unable to make your mortgage payments.

Is mortgage insurance always required?

Borrowers who make a down payment of less than 20% of the purchase price of a home must typically pay mortgage insurance. Mortgage insurance is also commonly required on Federal Housing Administration (FHA) and United States Department of Agriculture (USDA) loans.

What can I do to avoid PMI?

Making a down payment equal to 20% of the home's purchase price is one way to avoid paying PMI. If you are required to purchase PMI, do not try to avoid it. In that case, your lender can purchase it on your behalf and charge you, which may be more expensive than purchasing it yourself.

In conclusion

As you go through the mortgage process, you will come across both homeowners insurance and mortgage insurance, but they are very different types of insurance.

In the event of a lawsuit, homeowners insurance protects your home, its contents, and you. Mortgage insurance, also known as PMI, protects your lender (for example, the bank) if you fail to make your mortgage payments.

Most homeowners have homeowners insurance because it can be beneficial financially to protect yourself from unexpected costs. If your down payment is less than 20% or you obtain an FHA loan, you will be required to purchase PMI on top of your mortgage.