In economics a transaction is said to take place when each party to the transaction derives value from the transaction over and above the opportunity cost associated with that transaction. Given the shear numbers of individuals and couples taking out mortgage protection insurance it is clear that there is value to the product both for consumers and insurers.
With mortgage protection proving a viable type of insurance policy it is obviously important to those who have purchased this cover, but the real question is why it is so important? Why have consumers parted with their hard-earned money to purchase such a product? Discussing answers to these questions form the basis of this article.
When a mortgage protection insurance plan is bought there are two sides to the transaction. On the one side sits the seller (in this case the insurer) and on the other side sits the consumer (in this case the mortgage holder). For this transaction to take place mortgage protection insurance must be important to both sides.
Before looking at the importance of the policy for the consumer it is worth looking at its value for the insurer. As a commercial entity it is clear that insurers offer mortgage protection plans to make a profit. In its most basic form, in order to make a profit the insurer needs to collect more in revenues than it pays out in claims. The insurer generates its revenue form the premium income it collects from issuing insurance policies.
When the insurer sets the rate or premium it charges for offering mortgage cover there is a significant amount of risk. If the insurer sets the premiums too low then the amount in claims it pays out to consumers would outweigh the amount of income it receives from consumers, resulting in the insurer making a financial loss. Understandably, insurers are not in the business of making losses so they will set the premium at a level where they make a level of profit, subject to the competition they face.
The point of the above example is one of risk. Insurers face risk because consumers make claims. Thus, the insurers risk is a risk transferred from consumers, which is essentially what insurance is, a transfer of risk. In this light, the importance of mortgage protection is that it allows consumers to lower the amount of mortgage default risk they face.
Some of the largest causes for mortgage default relate to accident, sickness, unemployment and death, which are all important risks that can be covered with mortgage protection and mortgage life insurance. Thus, mortgage protection insurance is important simply because it covered important risks.