Disability Insurance for Your Mortgage: The Biggest Mistake Homeowners Make

Your home is likely the most expensive personal purchase you’ll make. After all, professional mortgage programs make it a lot easier for physicians and high-income earners to qualify for homes in the $1 million to $2 million range. But what happens if you lose your ability to work and can’t afford that once manageable four- or five-figure mortgage payment?

Your lender might offer disability insurance for your mortgage. But this type of coverage provides limited protection in terms of what it can be used for and how long you can collect benefits. Instead, most homeowners would be better off buying enough long-term disability insurance to cover their mortgage and other living expenses.

Let’s look at why mortgage disability insurance is an unnecessary expense in most cases.

What is mortgage disability insurance and how does it work?

Mortgage disability insurance is designed to cover part or all of your mortgage payment if you’re unable to work due to an injury, illness or medical condition. It can offer peace of mind considering your mortgage is probably the largest item in your household budget.

One of the biggest benefits of mortgage disability insurance is that it’s pretty painless to get. Unlike traditional disability insurance, it doesn’t typically require a medical exam or extensive underwriting. Plus, since it’s usually offered through your mortgage company, premiums can be tacked onto your regular monthly mortgage payment — making it a streamlined process.

If you become disabled, your mortgage disability insurance payments begin after you satisfy the policy’s elimination period. Typically, it’s a waiting period of 30 or 60 days. At that point, payments are sent directly to your mortgage lender and continue until you recover or max out the policy’s benefit period, which generally ranges from one to three years.

Note this type of disability coverage sometimes falls under the umbrella of mortgage protection insurance (MPI), which serves as a pseudo life insurance policy but only for your mortgage. It also shouldn’t be confused with private mortgage insurance (PMI), which lenders sometimes require if you don’t provide a 20% down payment when buying with a conventional mortgage loan.

Why mortgage disability insurance isn’t enough

Mortgage disability insurance might seem like a solid choice at first glance. However, this type of coverage comes with some serious drawbacks, especially in comparison to long-term disability (LTD) insurance. For example:

• The monthly benefit only covers your mortgage principal and interest. Some mortgage disability insurance policies allow for an optional rider that covers other home costs like property taxes, homeowners association (HOA) fees and homeowners insurance. But you’ll still be on the hook for other housing bills, such as electricity, water, gas, trash, internet, phone and any maintenance services (e.g., landscaping and cleaning).
• Your payout might decrease over time. As you pay down your mortgage, your mortgage disability insurance benefits will also decrease. However, your insurance premiums will stay the same.
• There’s a short benefit period. Mortgage disability insurance only pays for several years at most, even if your disability lasts much longer.
• Your lender is the beneficiary of the policy. Mortgage disability benefits are paid directly to the lender instead of you.

Overall, relying solely on mortgage disability insurance can leave a major gap in financial protection. Your monthly mortgage payment might be secure in the event of a disability, but that’s it.

Why an individual disability insurance policy is a better alternative

Long-term disability insurance protects more than just your mortgage payment. Most LTD policies cover up to 60% of pre-disability income, providing you with the means to pay for your mortgage, utilities and other necessary expenses when you’re unable to work.

Even better, policies with a “true” own-occupation definition of disability allow you to continue working in a different field while collecting disability income. Other pros include:

• Higher benefit amount. Mortgage disability insurance is based on your monthly principal and interest, not your income. Long-term disability insurance can provide you with a higher monthly payout, covering more expenses and allowing you to maintain your lifestyle.
• Longer benefit periods. LTD benefit periods generally range from two years to age 65 or older. Therefore, depending on the policy, you could receive disability income through retirement age.
• Monthly benefits stay the same. Unlike with mortgage disability insurance which diminishes over time, your LTD monthly benefit will stay the same unless you choose to increase or decrease coverage.
• Payments are made directly to you. Disability income from a LTD policy is paid directly to you, giving you complete control over how and when the money is spent.

Additionally, individual disability policies have various optional riders to tailor a policy to fit your needs. For example, residents and young physicians can benefit from a future purchase option, allowing them to increase coverage as their salary increases without additional medical underwriting. You can also opt for coverage that pays benefits if you experience a partial disability that doesn’t sideline you completely.

Get the coverage you need for an affordable rate

Although disability insurance companies have offered this type of insurance product in the past, mortgage disability insurance is usually pushed by mortgage companies or banks affiliated with lenders. After closing on a home, you’ll probably get spammed with mail or phone calls encouraging you to protect your loved ones by protecting your mortgage.

There’s absolutely a need to have mortgage protection in case of a disability, especially if you work in a specialized field that requires extensive education and training. But the limited coverage you’ll find with an MPI policy or stand-alone mortgage disability insurance policy only goes so far.

For most homeowners with a decent income, it makes more sense to buy a long-term disability policy with a benefit amount that covers the mortgage and other fixed expenses.

That said, mortgage disability insurance might make sense if you aren’t able to find traditional disability insurance coverage due to poor health or other circumstances. Otherwise, you’ll get more bang for your buck by ensuring you have adequate LTD coverage and a term life policy to protect your family during your working years.

SLP Insurance can help review your existing coverage to identify gaps and hunt down the most affordable coverage using the best discounts for your situation. Fill out the form below to get started.

FAQ: Disability insurance for mortgage