Mortgage Insurance vs Homeowners Insurance: What’s the Difference?

When you buy a home, you may be required to carry both mortgage insurance and homeowners insurance. While they might sound similar, there’s a big difference between the two. Mortgage insurance protects the lender’s financial interest in your home if you default on your loan payments. Meanwhile, homeowners insurance financially protects the investment you and your lender have made in your home should your property be damaged or destroyed by a covered incident. Here’s what to know about mortgage insurance vs. home insurance to help you make better-informed insurance decisions.

Mortgage insurance vs. home insurance

The key difference between mortgage insurance and home insurance is who benefits from the financial protection it offers. Mortgage insurance is intended to protect the lender’s financial stake in the home if the homeowner stops making their loan payments. On the other hand, homeowners insurance offers financial protection to homeowners who experience losses from covered perils like fires. However, it also financially protects the lender’s investment (the outstanding mortgage balance), ensuring the asset (the home) isn’t a complete loss in the event of damage or destruction. Put simply, home insurance protects your and your lender’s finances, while private mortgage insurance solely protects the lender’s.

Mortgage insurance

Mortgage insurance, also known as private mortgage insurance (PMI), financially protects mortgage lenders if the borrower — the homeowner — defaults on their mortgage. Borrowers of conventional loans are typically required to carry PMI if they make a down payment of less than 20 percent when purchasing a home. PMI should be automatically canceled after a certain portion of the mortgage is repaid, usually when you hit a 78 percent loan-to-value ratio. Typically, borrowers of FHA loans also have to pay mortgage insurance premiums (MIP), either for the entire loan term or a set number of years. VA and USDA loans do not require PMI but may come with other fees.

Homeowners insurance

Homeowners insurance, also known as hazard insurance, helps repair your home’s structure and property from financially devastating losses like fires, storms and other perils listed in your policy. If your home is damaged by something covered by your policy, your home insurance company will likely pay the cost of the repairs, less your deductible. If your home has a mortgage, you will likely be required to carry homeowners insurance to help protect your mortgage company’s financial interest in your home.

It can be confusing to differentiate between the two insurance types. The table below illustrates some of the differences between mortgage insurance vs. homeowners insurance:

What is mortgage insurance (aka PMI)?

Also known as PMI, mortgage insurance is an extra fee the borrower pays to their mortgage lender. When you take out a loan to buy or refinance a home, a bank or lender anticipates that you will honor the terms of your loan and make monthly mortgage payments. PMI financially protects the bank or lender if you fail to pay your mortgage or walk away from the home and it goes into foreclosure. PMI provides the lending institution with a guarantee that its risk will likely be covered for lending you, the borrower, money.

PMI is usually required when you have a conventional home loan and make a down payment of less than 20 percent of the home’s purchase price. When refinancing, if your home equity is less than 20 percent of the value of your home, you might be asked to carry PMI, too.

Many borrowers qualify as low-risk but do not have the funds to put 20 percent down to purchase their property. A lender might see this as a concern. A borrower who cannot contribute a high enough down payment toward the purchase of their property may not be able to afford the higher monthly mortgage payments long-term in the eyes of lenders. That is where PMI comes in and may be factored into your loan.

How much does PMI cost?

The average cost of PMI is typically between 0.46 percent to 1.5 percent of the original loan amount and generally up to an additional $30 to $70 in monthly costs per every $100,000 borrowed. The type of loan you have, your credit score and your loan-to-value ratio can also affect the exact cost. Specific PMI terms are defined within your loan estimate and closing disclosure.

PMI is arranged by the lender and provided by private insurance companies. A lender may or may not give you payment options, but you can request some. The most common ways to pay for PMI are:

• Monthly premium added to your mortgage payment
• One-time upfront premium paid at closing
• Combination of one upfront payment and monthly premiums

How can I avoid paying PMI?

In addition to making a larger down payment, boosting your credit score or getting a different type of loan, there are a couple of other strategies to avoid paying PMI:

• Ask the lender to pay: Some lenders will cover the cost of your mortgage loan, referred to as lender-paid mortgage insurance (LPMI). However, there is a trade-off because you could have a higher interest rate on your mortgage if you go this route.
• Get a piggyback mortgage: Instead of getting one mortgage, you could have two. This is most often done in what’s called an 80/10/10 split, with an 80 percent first mortgage, 10 percent second mortgage and a 10 percent down payment.
• Find a lender with its own mortgage insurance program: These are also called portfolio loans, and they do not require mortgage insurance. They are usually available from certain banks and credit unions that are more flexible in how they lend to potential homeowners.
• Look into down payment assistance: Down payment assistance could help you put more money down for your home and get past the 20 percent threshold. These programs are often available through your state’s housing finance agency. Some cities and counties also offer their own down payment assistance programs.

How long do I have to pay for PMI?

If you use a conventional private lender loan, once your home reaches 20 percent in equity based on the appraised value or purchase price (whichever is lower), you can typically request PMI be removed. There are several ways to remove PMI from your mortgage:

• Request cancellation: Once you reach the 80 percent loan-to-value ratio, you may request in writing to have your PMI canceled. You must be current on your payments, have a good payment history and may be required to provide proof the value of the home has not declined and there are no other mortgages or liens. Keep in mind that this figure is based on the original appraised value at the time of sale, not your home’s current market value.
• Automatic termination: Once the principal balance reaches 78 percent of the original home value, the mortgage insurance servicer must automatically terminate PMI.
• Final termination: Once you have reached the halfway point of your mortgage’s amortization schedule, the lender must remove PMI. For example, the midpoint for a 30-year loan would be after 15 years of payments, regardless if you have reached 78 percent of the original value.
• Check your home’s value: After at least two years of regular mortgage payments, you can contact your lender and order what’s called a broker price opinion (BPO), which assigns a new market value to your house. If the new value, in combination with your mortgage balance, puts you at 75 percent loan-to-value, PMI is removed. If you’ve been in the home for five or more years, that number changes to 80 percent loan-to-value.
• Refinance: If you have owned your home long enough to meet a lender’s eligibility requirements, you may be able to refinance your existing mortgage into a new loan to remove PMI. Most of the time, you need at least 20 percent equity in your home in order to do so. Refinancing can get expensive, so it may not be worth it to refinance solely to get rid of PMI. But, if you were already planning to refinance your mortgage, this could be an effective strategy.

Remember that private mortgage insurance protects the lender’s financial interest — not yours — if you fall behind on your mortgage payments. If you don’t make your payments on time, your credit score will likely take a hit and you could default on terms of the loan, which may result in the loss of your house.

What is homeowners insurance?

Homeowners insurance may protect you from financially devastating losses if your home’s structure, other structures on your property or your personal belongings are damaged or destroyed by a covered peril. Without homeowners insurance, you would likely have to pay to repair your home or replace all your belongings yourself, which may not be a viable option depending on your financial circumstances. A home insurance policy also includes liability insurance, which can help if you are found negligent for someone else’s injuries on your property.

Even in rare cases where your lender does not require you to have home insurance, or if your home’s mortgage is paid off, most financial experts recommend purchasing home insurance to protect your investment in your home. The home insurance premium you will pay is likely small compared to the cost of repairing or replacing a home and belongings out of pocket.

You might consider consulting with a licensed insurance agent to help compare home insurance quotes and buy the right amount of homeowners coverage.

What does homeowners insurance cover?

Homeowners insurance policies offer different levels of financial protection based on the policyholder’s preferences. For example, a policy may offer coverage to replace your personal property at either actual cash value or replacement cost. Your policy may also have open perils coverage or named perils coverage depending on the type of home insurance policy.

Generally, most standard homeowners insurance policies include the following coverage types:

• Dwelling coverage: Covers the physical structure of your home.
• Other structures coverage: Covers other structures on your property, including detached garages, fences and gazebos.
• Personal property coverage: Covers your personal belongings, including furniture, clothing and electronics.
• Medical payments coverage: Pays to cover some medical fees if a visitor in your home injures themselves.
• Liability insurance: Protects against financial losses if you are found legally responsible for personal injuries or property damage others incur.
• Additional living expenses coverage: Helps pay for additional costs associated with living elsewhere while your home is being repaired after a covered claim. Expenses may include hotel costs, food expenses and pet boarding.

The most common homeowners insurance perils that are covered include:

• Fire and smoke
• Windstorms and hail
• Lightning strikes
• Explosion
• Vandalism and malicious mischief
• Aircraft or vehicle
• Theft
• Falling objects
• Weight of ice, snow or sleet
• Water damage (but not flood damage)

Most standard home policies do not cover earthquakes, floods, mudslides and sinkholes. For coverage against these perils, you’ll likely need to purchase a standalone policy or, if your company offers it, add a separate endorsement for an additional fee to be insured against a specific peril. 

Flood insurance, for example, may be purchased through the federally backed National Flood Insurance Program or private insurers. Alternatively, if you live in an earthquake-prone area (like California), you may be able to buy earthquake insurance from your homeowners insurance company. Your insurance agent can help you purchase these additional coverage types.

How much does home insurance cost?

The national average cost of home insurance is $2,242 per year for a policy with a $300,000 dwelling limit. However, this is just an average figure for comparison purposes. Your exact home insurance rate will depend on several factors that are unique to you like your location, home age, deductible, policy type, claims history and more. Depending on your state, your credit-based insurance score and marital status may also affect how much you pay for your policy.

Frequently asked questions

• Do I still need homeowners insurance after my mortgage is paid off?
  

  Most insurance experts recommend having home insurance, even if you own your home outright. Your home is most likely your largest financial investment, and owning a home is more than just having a roof over your head. Homeownership can help build generational wealth, and homeowners can borrow against their home equity. One bad storm or break-in could take all of those options off the table if you are unable to repair or rebuild your home on your own, but home insurance can help protect the investment you’ve made in your home.

• Am I required to carry mortgage insurance?
  

  Whether you are required to carry mortgage insurance depends on the circumstances of your mortgage. Most conventional loans without a 20 percent down payment will require private mortgage insurance. Similarly, FHA loans require another type of mortgage insurance, known as mortgage insurance premiums (MIP). With a conventional loan, you can drop PMI once you’ve reached 20 percent equity in your home based on its appraised value. Whether or not you can cancel MIP depends on when you took out your mortgage and the size of your down payment.

• Is homeowners insurance included in my mortgage?
  

  Your monthly mortgage payment generally contributes funds to your escrow account. Your escrow account, which your lender manages, then pays your homeowners insurance and property taxes on an annual basis. You will want to make sure the correct mortgagee clause is listed on your homeowners insurance policy so that your property insurer knows where to send your homeowners insurance premium bill. Without that information listed on your insurance policy, you could run the risk of your homeowners insurance being canceled for nonpayment.

• Is home insurance more expensive if I have a mortgage?
  

  Having a mortgage on your home won’t have a material effect on the cost of home insurance. But, if you have a mortgage on your home and fall behind on your insurance payments, you may need to pay for forced-place insurance. This type of coverage usually costs more and has more limited coverage than a typical home insurance policy.