What Is Mortgage Insurance -- And Is It Worth Buying?

What is Mortgage Insurance and Do I Need it?

(Associated Content) -- Mortgage insurance is a special insurance policy that pays your lender in the event that you stop making your mortgage payments. The mortgage insurance policy will pay off the balance of your loan -- or a portion of the loan -- thus limiting your lender's financial exposure.

When should I be concerned with mortgage insurance? If you purchase a new home and you don't make a 20-percent down payment, chances are you will be required to pay a mortgage insurance premium. If you refuse to pay for mortgage insurance, your lender will most likely deny your application. Understand that your mortgage insurance premiums are not a total loss. A law passed in 2007 allows homeowners to deduct mortgage insurance premiums for tax purposes.

What do I gain from mortgage insurance? While it may seem that mortgage insurance is like throwing money down the drain, you do gain something from it: loan approval. Without mortgage insurance, many lenders would refuse to grant loans without a 20-percent equity in the property purchased. This would make obtaining a loan much more difficult, and probably more expensive.

How long do I have to pay mortgage insurance? How long you pay mortgage insurance premiums depends on your lender and how your mortgage document is written. Some lenders require mortgage insurance for the first year of your mortgage. Other lenders may require an appraisal before agreeing to do away with your mortgage insurance payment to ensure that your loan balance is at or below 80 percent of your home's value. Some lenders may require you to reduce your loan amount to 78 percent or 80 percent of the value of your home before they release you from your mortgage insurance obligation. FHA loans have the most stringent requirements -- mortgage insurance must be paid for at least five years, and you must bring your loan balance below 80 percent of the sale price of your home before mortgage insurance will be removed.

What will the lender require before removing mortgage insurance from my loan? A lender will most likely require proof that you have paid your loan balance down to 20 percent of the value of your home. Lenders will also need proof that there are no additional debts owed on the property, and that the property hasn't substantially declined in value. If you do not contact your lender to remove your mortgage insurance premiums, your mortgage insurance will automatically terminate when you have reached the midpoint in your loan. For example, once you have made 15 years of payments on a 30-year mortgage, the lender is required to remove the mortgage insurance from your monthly payment.

Do I need mortgage insurance? If you need mortgage insurance, your lender will inform you when you make an application for a loan. If the lender doesn't say anything, you don't need mortgage insurance. This type of insurance does little for a homeowner; it exists only to protect the interests of a lender. You don't need to purchase mortgage insurance unless your lender states it's required to qualify for a loan.

Mortgage insurance has allowed many homeowners to purchase homes with little money down. Without mortgage insurance, it would be much more difficult to obtain a mortgage and own a home. Although mortgage insurance is an added expense for a new homeowner, it is a necessary evil for lenders.