When you apply for a mortgage, you'll find that there are several types of insurance you must buy that will add to your closing costs and monthly payments. There are also some policies you'll have to decide whether or not to buy.

Here's our best advice on what to expect and what to do.

Let's start with the three types of insurance that you will have to buy:

Homeowners insurance

This insurance provides the money you'll need to:

• Repair or rebuild your home if it's damaged or destroyed by a storm or fire.
• Pay legal and medical bills if someone is injured on your property.

Since your home is the collateral for your mortgage, your lender will insist that you have a homeowner's policy that's paid for, and in effect, when you close on the purchase.

The annual cost of this insurance will depend upon the value of your home and the type of coverage you choose. But the average cost of homeowners insurance has steadily increased from $593 in 2002 to $668 in 2003 and $729 in 2004, according to the latest data available from the National Association of Insurance Commissioners. Estimates from the Insurance Information Institute (III) showed a decline to $677 in 2005.

Expenditures vary widely by state.

The most recent data available are for 2004. They show Texas had the highest average expenditure ($1,362), followed by Louisiana ($1,074), Oklahoma ($991), Florida ($929) and Mississippi ($907). Idaho had the lowest average expenditure ($448), followed by Utah ($473), Wisconsin ($483), Delaware ($488) and Oregon ($492).

After the 2005 hurricane season we know insurers raised premiums and deductibles, while narrowing terms of coverage and turning away new customers in 18 coastal states from Maine to Texas.

The III estimated the rate increase for those homeowners at between 20% and 100%, compared with about a 4% rise in the rest of the nation. The New York Times found some Gulf Coast properties where premiums rose an astounding 10-fold.

For more information we recommend the insurance commissioners' Consumers Guide to Home Insurance.

Mortgage insurance

If your down payment is less than 20% of the purchase price, your lender will require you to buy mortgage insurance of its choosing.

This protects the lender from losing money if you default on the loan and the sale of your house doesn't fully repay the loan and cover the lender's foreclosure costs.

Mortgage insurance is charged as a percentage of the loan amount borrowed. It depends on how much money you put down on the home and the type of loan you get. The lower the down payment, the higher the percentage will be. But as a rule of thumb, expect to pay $40 to $60 a month for every $100,000 you borrow. These premiums, however, are now tax deductible if you bought your home in 2007 and this deduction will apply to homes bought or refinanced at least through 2010. There are income restrictions.

Once your equity in the house has grown to 20%, through price appreciation, paying down the principal, or a combination of the two, homeowners have the right to have this insurance discontinued. FHA loans, however, require that you have 22% of paid equity in your home (price appreciation doesn't count) before you can cancel mortgage insurance.

Title insurance

Since your house serves as collateral, you will almost always be required to have title insurance that protects your lender against the possibility that the person who sold you your home was not the full and rightful owner.

Consider the worst-case scenario: Another bank says the previous owner never paid off his or her mortgage and it will now foreclose on you to recoup its money. The title insurer would be expected to step in and pay the bank if it had a legitimate claim to your property.

Title insurance typically costs about 0.5% of the purchase price. Your real estate agent will almost certainly have a title insurer to recommend. But you can and should shop around for the lowest cost policy.

You may be required to buy:

Flood insurance

Your homeowner's policy pays for water damage caused when a pipe bursts inside your house or wind blows off a portion of your roof during a rainstorm. But if the water is on the ground before it enters your home, that's a flood and it's not covered.

You need a special flood insurance policy for that, and if you live near the ocean or in a federally designated flood plain, your lender will insist that you buy it.

The policies are purchased through private insurers who participate in the federal government's National Flood Insurance Program. They typically cost $300 to $400 a year.

You have the option to purchase:

Death or disability insurance

A life insurance policy pays off your loan if you or your spouse dies. A disability policy will make your mortgage payments if you're sick or injured and cannot work.

Many mortgage lenders offer life and disability policies, but as a general rule, you can do better elsewhere.

The life insurance policies they offer typically cover the amount you initially owed on your mortgage. So while your balance steadily declines, the premiums remain the same.

You'll usually find a term life policy for the amount of your loan to be cheaper and a better deal. If you die, your family will get the full amount of the policy, which is usually more than you still owe on your mortgage.

Again you should shop around and compare costs.

By Stef Donev

Interest.com Contributing Editor

and Mike Sante

Interest.com Managing Editor

Have questions about your finances? Ask us at editors@interest.com

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