Simply put, mortgage insurance protects the mortgage company against financial loss if a homeowner stops making mortgage payments. Mortgage companies usually require insurance on low down payment loans for protection in the event that the homeowner fails to make his or her payments. When a homeowner fails to make the mortgage payments, a default occurs and the home goes into foreclosure. Both the homeowner and the mortgage insurer lose in a foreclosure. The homeowner loses the house and all of the money put into it. The mortgage insurer will then have to pay the mortgage company's claim on the defaulted loan.

For this reason, it is crucial that the family buying the home can really afford it, not only at the time it is purchased, but also throughout the time period of the loan.

Although the cost of the mortgage insurance is paid by the homebuyer, or borrower, the mortgage insurer works directly with the mortgage company. Mortgage insurance is available to commercial banks, savings & loans and mortgage bankers, all of whom offer mortgage loans to homebuyers.

Remember that mortgage insurance is not the same as credit life insurance, also called mortgage life insurance. This type of policy repays an outstanding mortgage balance upon the death of the person who took out the insurance policy.