Depending upon where you live and how much money you owe on your mortgage, your lender may require you to carry up to four different kinds of insurance on your house. Some of these policies benefit both you and your lender; one benefits your lender only -- however, you pay for all four.
If you have a mortgage, the lender requires that you have homeowners insurance. Most lenders require you to prepay the first year of coverage, either by putting that amount in escrow, or by providing proof you've paid the insurance company directly. Occasionally, lenders require prepayment of 14 months, rather than 12. The most-often carried homeowners policy, commonly called H0-3 coverage, covers any losses not specifically excluded, and pays the costs of replacement. Coverage includes fire and lightning, hail and, often, windstorm. There are many exclusions, but the most important are earthquake and flood. Consult your policy for a complete list of exclusions.
Required Flood Insurance
If you live in a high-risk flood area -- one designated a "Special Flood Hazard Area" -- you must purchase flood insurance equal to the least of these amounts: the maximum coverage available, the outstanding principal balance on your loan or the insurable value of your home. If your property is in a lower-risk area subject to flooding, your lender still may require that you buy flood insurance although federal law doesn't. Lenders generally do not require you to buy earthquake insurance, even if your house is in a known earthquake area, such as San Francisco, Los Angeles, or the area around the New Madrid fault, though some states may require insurers to offer it.
Required Mortgage Insurance
If you buy your home with less than 20 percent down, your lender requires you to carry mortgage insurance. Mortgage insurance doesn't really protect you -- it protects your lender in case you default. Mortgage insurance is unpopular with homeowners for a couple of reasons. First, for what it covers, it's not cheap, and the cost varies considerably, depending on the down payment amount, your credit rating and the specifics of your loan. Second, it's hard to get rid of. While the lender is legally required to terminate it when your loan balance equals 78 percent of the original cost of the home, many lenders won't terminate the coverage when you pay the loan down early.
A 2012 "New York Times" article on forced-place insurance -- insurance your lender places for you if you fail to get the insurance on your own -- noted that some lenders required some borrowers to get additional windstorm insurance and in some instances, forced placement of the coverage without notifying homeowners, often at rates far higher than homeowners might have obtained on their own. The article noted that once forced-placed insurance is on your house, it may difficult to get the lender to allow you to replace it with coverage you obtain, so it is advantageous to you to sit down with your lender when you first obtain the loan to discuss what windstorm coverage, if any, is required.
- Bankrate: Surprising Things Your Home Insurance Covers
- The Mortgage Professor: Questions About Homeowners Insurance
- Bankrate: How to Get Rid of Mortgage Insurance
- The New York Times: Coping With High-Priced Insurance That Lenders Make You Buy
- IEG: HO3 Home Insurance Policy
- FloodSmart: Why Does My Mortgage Lender Require Me to Buy Flood Insurance
- California Earthquake Authority: About Earthquake Insurance
- My Insurance Agency: Windstorm Coverage
I am a retired Registered Investment Advisor with 12 years experience as head of an investment management firm. I also have a Ph.D. in English and have written more than 4,000 articles for regional and national publications.