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Home Loan / Mortgage Insurance – What to Buy, How to Buy

You bought a house using a home loan / mortgage. Your career is flourishing, and you are sure there would be no problem in paying-off the mortgage.

But what if something happens to you? Would you like it if the heavy burden of a home loan falls on your dependents? What is they have to vacate the house due to non-payment of the loan?

This article emphasizes the importance of buying insurance to cover a home loan liability. It also discusses various methods (traditional term insurance policy and loan cover term assurance) that can be adopted to secure this insurance.



Why Should You Buy Mortgage / Home Loan Insurance?

With incomes increasing rapidly, more and more Indians are buying their own homes. And they are doing this at a very early age, by taking housing loans early in their careers.

(You can read more on this at “Settle early in life – buy a home when young”)

But let’s remember that a home loan is a liability – You owe the money to the bank, and it is your responsibility to repay it, whatever happens.

What if “whatever” happens? What if the person who has taken the home loan passes away? Would the dependents be able to repay the home loan?

A housing loan is a big liability – a house is the single largest purchase in the entire lifetime for most people. So, naturally, even the loan is quite large. And in most cases, it would be very difficult for the dependents to repay the loan.

Let’s not forget that if you have bought the house through a home loan, the house is mortgaged to the bank. In case the loan amount can not be repaid, the bank can sell the house to get back its money. Nobody would want this to happen to their family!

An untimely death of an earning member would anyway strain the finances of any family. Why load it with another large liability? Can you plan something for it in advance?

Yes, you can. And that’s where mortgage insurance or home loan insurance comes into the picture.

Just like you buy life insurance to ensure that your family remains financially healthy even without you (for more details on life insurance, please read “Life after life – Why you should buy Life Insurance”), you can buy life insurance specifically to protect your family from the home loan liability.


Types of Mortgage / Home Loan Insurance

There are two ways in which you can buy insurance for your housing loan:

  • By purchasing a loan cover term assurance policy
  • By purchasing a traditional term insurance

Let’s compare and evaluate both these options.

Loan Cover Term Assurance Policy

It is exactly what the name says – it is a term insurance policy specially designed for covering a home loan.

Here, the amount of the insurance cover is tied to the outstanding principal amount of your housing loan.

Each EMI you pay consists of an interest and a principal component – With each EMI, you repay some of the principal amount, and you pay an interest on the principal amount outstanding. (To understand EMI better, please come back to read “Understanding EMI – What is Equated Monthly Installment?”).

Thus, with each EMI, the outstanding principal amount of your home loan reduces a little.

In a loan cover term assurance policy, the sum assured reduces each month to match the outstanding principal amount (the premium remains constant throughout the term of the policy, though). Thus, the policy cover always remains equal to your home loan liability.

In case of untimely death, the policy would pay the exact outstanding amount, and thus would take care of the entire liability related to the home loan.

These policies have an option of a one time, single premium, or a periodic premium, which can be yearly or half yearly or quarterly.

Many insurance companies offer loan cover term assurance policy. These include Life Insurance Corporation (LIC), HDFC Standard Life Insurance, Tata AIG, Bajaj Allianz, etc.

Apart from this, many banks (or the insurance companies owned by them) also offer a loan cover term assurance policy these days. These include ICICI Bank, HDFC Bank, Corporation Bank, Standard Chartered (StanChart) Bank, ING Vysya, etc.

Most banks also offer a loan cover term assurance policy along with the home loan. The advantage here is that the monthly premium payment is clubbed with the EMI amount, and you pay a single cheque every month instead of paying separately for the EMI and the insurance premium.

(Technically, what the banks do is this: The policy in this case has a single, one time premium. The bank gives you this amount as a loan, which has a tenure equal to the tenure of the home loan. The monthly repayment amount for this loan is clubbed with the EMI amount. Very clever, isn’t it?)

And hold your breath – some of the banks offering home loans offer a loan cover term assurance policy free along with the home loan taken from them. Yes! Some examples are ICICI Bank and ING Vysya bank.

(Please note that we are talking about insuring yourself for the home loan – you are insured for a sum equal to the loan amount. The home is not insured).


Traditional Term Insurance

Another option to protect your family from the home loan liability is to buy a traditional term insurance plan.

In this case, you buy a term insurance cover, with the sum assured being equal to the home loan amount. Thus, you are covered for the full housing loan amount.

The amount of insurance remains constant in this case – unlike the loan cover term assurance policy, the cover doesn’t reduce over time. Thus, in case of an untimely death, your family would get an amount that would enable them to repay the home loan, plus more. That is, it would provide an extra cushion.

These policies also have an option of a one time, single premium, or a periodic premium, which can be yearly or half yearly or quarterly.

(A term insurance policy is better than ULIPs or Endowment Plans in case you want to buy life insurance. Please read “Term policy is the best policy” to know more)

Comparison of Premiums of Loan Cover Term Assurance Policy and Traditional Term Insurance

Let’s take an example to compare premiums of these two methods of home loan covers.

Let’s say you are a 30 year old male, and are taking a Rs. 15 Lakh home loan for a term of 15 years.

Loan Cover Term Assurance: HDFC Standard Life Insurance will charge you around Rs. 6,500 each year for 10 years. (In this policy, you get a cover for 15 years even though you pay premiums for 10 years).

Thus, you would pay a total of Rs. 65,000 for the insurance cover for its entire term.

Traditional Term Insurance: HDFC Standard Life Insurance will charge you around Rs. 4,200 each year for 15 years. Thus, you would pay a total of Rs. 63,000 for the insurance cover for its entire term.

The same cover is provided by SBI Life for Rs. 3,150 per year for 15 years. Thus, you would pay a total of Rs. 47,250 for the insurance cover for its entire term.


Which Option to Choose?

The premium amount comparison says it all!

Regular term insurance works out to be a lot cheaper than loan cover term assurance policy. Considering the above example, you would save Rs. 15,750 (Rs. 63,000 – Rs. 47,250) over the term of the policy.

Here’s a nice tip: There is a scope for saving even more. Since the loan liability decreases over time, you can buy two traditional term policies with different amounts and terms.

For example, you can buy a term policy with a cover of Rs. 7.5 Lakhs for a term of 15 years, and another term policy with a cover of Rs. 7.5 Lakhs for 10 years.

In this case, you would get a cover of Rs. 15 Lakhs for the first 10 years, and a cover of Rs. 7.5 Lakhs for the remaining 5 years. And you would pay even less in premiums!!

But money is not the only reason. The amount you get back is also more in case of a traditional term insurance policy.

Say, the person who has taken the home loan meets with an untimely death after 10 years of paying the EMIs.

In our example, in case of the traditional term insurance policy, the dependents would get back Rs. 15,00,000, which is the sum assured.

But in case of loan cover term assurance policy, the dependents would get back only around Rs. 7,58,650, which is the principal amount outstanding at the end of 10 years!

That is a difference of a huge Rs. 7.4 Lakhs!!

Thus, although loan cover term assurance is especially made for home loans, it makes a lot more sense to buy a traditional term insurance policy to cover your home loan. (Unless the bank is offering a loan cover term assurance policy free with the home loan).

Other Important Things to Know About Home Loan Cover

Home Loan in Joint Names: If you have taken a housing loan in joint names, you would need to buy two separate traditional term policies, one for each person. Of course, the sum assured for each policy in this case should be proportional to each person’s share of the home loan amount.

In case of loan cover term assurance as well, you would need to buy two separate policies, one for each person. But some insurance companies do give you an option to go for a single policy with two names.

Income Tax Benefit: Since you are buying life insurance (in both the cases – loan cover term assurance or traditional term insurance), the premium you pay qualifies for deduction from your income under section 80C of the Income Tax (IT) Act.

(To know more about saving income tax through Sec 80C, please read “Saving Income Tax – Understanding Section 80C Deductions”)

Also, the amount received from the insurance company in case of untimely death is totally exempt from income tax under Section 10 10D of the Income Tax Act.

Conclusion

  • You definitely need an insurance cover for your home loan to protect your family from the home loan liability in case of untimely death
  • A traditional term insurance policy is better than a specialized loan cover term assurance, as it is a lot cheaper and gives out more money in case of death
  • For joint home loans, two policies would need to be purchases
  • Premium paid would qualify for benefit under Sec 80C of the Income Tax Act

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