Is your home loan death proof? Find out what will happen to your home loan if you die
As a general rule we try to avoid thinking about the negative things that could happen in life. In an ironic twist, failing to think them through can actually make your worst-case scenario a nightmare – especially for the people you love.
Unfortunately our debts don’t disappear if we die. In fact, they are handed over to the people who are closest to us to deal with. This is a huge responsibility to leave someone, especially considering debts like our mortgage average around $434,000 in Australia.
There are three main factors that determine what will happen if you have a mortgage when you die: your will, your mortgage agreement and your insurance policies. Let’s have a closer look.
A will is the key to ensuring your wishes are carried out in the unfortunate event of your death. It clearly distributes your assets and gives instructions about your funeral and any legal outcomes and yet a recent newspoll indicated that over 45 per cent of Australians die without a legal will in place.
I don’t have a will
- Rod is the manager of Slater & Gordon's Wealth Protection & Estate Planning Division.
- He has 34 years of experience in law and practice.
- He also has lectured on a national level for a range of topics.
If a person dies without a valid will, they are said to die ‘intestate’. In this case, the government employs a default will, appoints an executor of their choice and divides your assets, including your house, according to a particular formula. Each state in Australia has a different process and formula but chances are, it’s not the formula you would choose yourself.
According to Rod Cunich, the National practice group leader for succession and wealth management at Slater Gordon, intestate can get very complicated, especially in the event of divorce and blended families, and the variation in how each state approaches it is huge. He explains, “In NSW, for example, if a person is married but separated and has a new de facto spouse, both are considered spouses with an equal claim to the assets. In another state, the former spouse might get the first $50,000 and then the rest would be divided with the new de facto spouse. It can get messy very quickly.”
I do have a will
In order to ease the burden and minimise disputes in the event of your death, a legal will is a must. A will is considered legal if it’s written by someone over the age of eighteen who has mental clarity and is signed by two objective witnesses. It needs to completely dispose of all of your assets and be up-to-date with your current circumstances. New assets like a business, or a change to your family situation like children or divorce, must be updated as soon as possible.
While will kits can be purchased through Australia Post and can even be completed online, you should ideally prepare your will with the assistance of a solicitor who specialises in the area of wills and estates. They will be able to advise you for your particular situation and ensure you have thought through everything completely.
Tips for preparing your will
- Keep a copy of your will with your important paperwork and include a note on the front stating where the original is and who to contact if you should die.
- Ensure your will is valid by updating it annually or as soon as your financial or family situation changes.
- Keep in mind that any beneficiary you name for your property will also be responsible for the debt you have remaining on it.
Your home loan
There are few times that you feel the weight of responsibility for such a big loan more than when you are considering your death. The person who inherits your house will also inherit your mortgage repayments. While you may not get a say in whether the house is kept of sold, you can ease the burden of that decision by entering into any mortgage agreement with your eyes wide open.
Most commonly, a home loan is cosigned with a spouse or partner. If this is the case, the co-borrower automatically assumes the mortgage – and is responsible for the debt remaining.
If you are the sole borrower on your property and you pass away, the responsibility for your debt goes to the person you name as the beneficiary. In the event of your death, the bank has the right to request the payment of the loan in full from this beneficiary. Ideally, you will have enough assets to pay off the home so they can inherit it in full. Alternatively, there would be enough equity in the property that it can be sold to pay off the loan with extra left over for the beneficiary.
If there isn’t enough equity or assets, however, it can become a big problem for the beneficiary. According to solicitor, Rod Cunich of Slater Gordon, mortgages have an all money cause. “You can sell the house to try and pay it off but if there is a short fall, your bank has the right to sue you and take your other assets to make up the difference,” he explains.
In some situations, borrowers will have a guarantor loan. This type of loan enables people to enter the property market, purchase a property they could otherwise not afford or put down a bigger deposit and avoid paying Lenders Mortgage Insurance (LMI). The guarantor offers up his or her own property as security for your loan. In the event of your death, the bank will expect the guarantor to cover the debt or difference between what the house sells for and what is owed.
Tips for being prepared with your home loan
- Enter into your mortgage with your eyes wide open. Make sure you fully understand the lender’s policy for what happens in the event of your death and have a signed agreement with any co-borrowers or guarantors that outlines where the money will come from and who is responsible for executing it in the event of your death.
- Encourage guarantors and co-signers to address your mortgage in their own will and insurance options.
- If you are considering being a guarantor, put some boundaries in place such as the amount you are willing to guarantee (limited guarantor loan options are available), take out adequate insurance for yourself and insist that the borrowers you are guaranteeing have insurance as well.
- Michal is a senior financial planner and financial coach with Sydney Financial Planning.
- He has a huge range of qualifications, including Masters of Engineering (Commerce), an Advanced Diploma in Financial Services (Financial Planning), a Diploma in Financial Services (Financial Planning), and Certificate IV in Mortgage Broking to name a few.
While your death might mean you are passing on a significant amount of debt and responsibility, you can do something to minimise or even eliminate that stress right now.
According to Michal Bodi, of Sydney Financial Planning, “Insurance can be seen as a nuisance and an unnecessary cost but we actually see it as a crucial part of your wealth management plan.” Insurance can safeguard your family from making tough decisions and drastic lifestyle changes in the aftermath of your death. A financial planner can help you work through exactly what insurance you need and ensure you are adequately covered.
A life insurance policy will pay out a lump sum to the designated beneficiary in the event of your death - usually to your spouse or remaining family members. “Something that many people don’t realise is that life insurance is a protected asset,” Solicitor Rod Cunich explains. “This means it isn’t automatically applied to debt but given to the assigned beneficiary as a lump sum. A good life insurance policy is usually enough to pay off the house and replace the income you were bringing in to cover bills, education costs and the costs of raising a family.”
“Keep in mind that the assigned beneficiary is not forced to pay debts with the life insurance amount. If the beneficiary gets bad advice or chooses to spend the money elsewhere, they could still end up losing the house,” Cunich warns.
Mortgage protection insurance
There are two types of mortgage insurance but there is only one that works in your favour if you should happen to die. Lenders Mortgage Insurance (LMI) is compulsory if you borrow more than 80% of the house value but it doesn’t protect you at all. This insurance protects the lender if your house is repossessed. It will ensure the lender is reimbursed for the amount owed to them, regardless of how much the house sells for.
Mortgage Protection Insurance, on the other hand, protects you and covers your mortgage repayments in the event of death, sickness, unemployment or disability. This form of insurance is generally more expensive than life insurance and it is not necessary to double up specifically for death cover. It can be very beneficial if you are planning on leaving your house to a different beneficiary than the one who will be getting your life insurance or if you don’t have income protection or trauma insurance.
Tips for insurance policies
- Solicitor Rod Cunich advises: “It is almost impossible to understand the fine print of an insurance policy so find an insurance broker that you trust and who can confidently explain what your particular policy covers. Get them to write their interpretation down saying what is and isn’t included so you have something to fall back on and can sue the broker if need be.”
- Financial planner Michal Bodi recommends steering clear of insurance companies who offer easy application processes and cheap cover without medicals. “This usually means they don’t underwrite at the time of application but instead at the time of claim. They decide if they insure you during your claim.”
- Bodi also recommends that you ‘lock in’ your premiums on level premium structure. “This means they don’t increase with your age and you’ll be able to afford the cover, even later in life.”
- Both of our experts agreed on this point: Don’t delay getting insurance. The younger you are, the cheaper it is and you won’t have any issues like bad backs or heart problems that might prevent you from obtaining it.
- A final note of caution from financial planner, Michal Bodi: it is important to remember that we’re more likely to get seriously sick or injured during our working life, than die prematurely (before retirement) so income protection insurance and trauma insurance are really worth investigating.”
Living in hope that you won’t die before your time is not enough. Get prepared now with a legal will, carefully considered home loan structure and adequate insurance policies to provide peace of mind for you and security for your loved ones who are left behind.