Different Types of Insurance
I had initially planned to discuss mortgage insurance today, but in the process I’ve encountered some folks who are confused about the different types of insurance involved in the real estate business. So I’m going to do a quick overview of the major types of insurance involved in owning a home.
This is your standard insurance against damage to the home and land. It also may cover damage or loss to your personal belongings kept on site, and medical bills for people injured on your property.
If you’re buying a house with a mortgage you have to get a Homeowner’s Insurance policy, and your lender will escrow the premiums as part of your monthly payment, then pay your insurance company out of escrow. If you’re buying a condo, it’s the association that has to provide proof of a building-wide condo insurance policy.
Your lender will probably require you to name them as an “additional insured” party on your policy. This major reason behind this is that catastrophes involving your house may also kill you. If your lender is also on the policy, they will be able to approach the insurance company to recoup their losses without going through probate.
This would be the point where I say that cash buyers don’t need homeowner’s insurance. I’m going to phrase it slightly differently. Cash buyers are not legally obligated to buy homeowner’s insurance, but they still need it.
Condo and Renter’s Policies
Condo Owner’s Insurance and Renter’s Insurance only covers your belongings and the surface of your walls and floor. The policies usually cost far less. Until very recently, condo owners were not required by their lenders to have insurance policies. This has changed in recent years – if you’re buying a condo with a loan, your monthly premiums will be escrowed by your mortgage lender just as if you were buying a house. You will need to have your policy in place at closing.
More and more landlords are requiring their tenants to provide proof of renters insurance within a month of moving in. There’s no bank to escrow the payments for renters, though. They’ll have to pay the insurance company directly, just like with car insurance.
As with homeowner’s policies, landlords and condo lenders may require you to add them as additional insured parties. In the case of condos, a condo association may also want to be named on your policy.
If you are buying property as an investment, you will need to get landlord’s insurance instead of homeowner’s insurance. If you change from living in a home to renting it year round, you will need to switch to a landlord’s policy. They cover a broader range of incidents, with bulked up liability coverage to protect you from tenants seeking the deepest pockets in the room. Some landlord policies will also be able to reimburse you for rent income that you lose due to property damage.
Premiums for landlord policies can be escrowed like homeowner’s policies or paid directly to the insurance company.
Most owners of small homes and condos will not need an umbrella policy, but large condo developments and landlords will want to look into it. In the event of a massive incident that causes huge injuries, loss of life or large-scale damage beyond the limits of the standard policy, the umbrella policy will kick in to help with the rest of the repair costs. If you have a higher risk feature on your property like a pool, or if you use the land for crops or livestock, or if you’re planning on allowing renters to stay in your home, I recommend that you consider an umbrella policy.
Title Insurance policies are available for homeowners and for their mortgage companies. The way American land rights work, there is no way to be absolutely certain that you are the only one with a claim to the title of the house you’re buying. Your lawyer will do their best to make sure that all previous owners, contractors, lenders and the government have given up any claim to the property, but the records only go back so far. In the event that someone else comes forward and claims to have a right to your house, your title insurance will protect you.
In Illinois, title insurance is issued by the company where you have your closing. That’s why many closings happen in such odd locations – they’re held at the offices of title insurance companies. Your closing is basically the time when the title insurance policy is issued. You pay for it in one lump sum as part of your closing costs.
If you take out a loan for more than 80% of the cost of a home, your lender will think that you don’t have enough skin in the game. It would be too easy for you to walk away from your loan with so little invested. The risk of default on these kinds of loans is much higher. To cover some of the cost of foreclosure, lenders will require that you have mortgage insurance on your loan.
Mortgage insurance for conventional loans is called “PMI” – private mortgage insurance. These policies are covered by third party companies that specialize in this particular type of insurance. For FHA loans, mortgage insurance is called “MIP” – mortgage insurance premiums. They’re covered by Ginnie Mae.
PMI rates vary depending on how much or little you put down. They are usually less than 1% of your total loan amount per year. Once you have paid down your loan to the point where you have at least 20% equity, you can contact your bank and have them discontinue PMI. However, if you don’t request it, they won’t stop charging you for it.
MIP rates are the same for any loan regardless of down payment. If you took out an FHA loan prior to this year, your rate was 1.25% of your total loan amount per year or less, and you will be able to terminate those premium payments when you reach 22% equity. However, rates are going up for people who take out FHA loans after the end of March 2013. If you wait until the 2nd half of 2013 to take out an FHA loan you will also be required to make MIP payments for the life of the loan regardless of your equity.
MIP and PMI premiums are added to your monthly mortgage payment that you send to the bank. They count towards the maximum amount you can pay in a month, which means they can really put a crimp in your buying power. Mortgage insurance is often the most expensive policy a buyer can have. Homeowner’s insurance in Chicago is usually less than $80 per month. Condo insurance is often less than $30. But PMI on a $300k loan could be as high as $225 per month, and MIP on that same $300k loan will be $437 starting in April.
Monday we’ll be talking about various signs you should look for to determine if the market has recovered in your neighborhood. See you then!