Lenders Mortgage Insurance (LMI) is an insurance policy that some home loan borrowers need to pay for. The purpose of LMI is to protect the lender from financial loss if the borrower can’t afford to meet their home loan repayments.
Saving a 20% deposit when Australian house prices are soaring can seem like an impossible task. Let’s say for examples sake that an average aussie couple has the ability to borrow 500K from the bank. This would mean that a 20% deposit on that loan would still be 100 thousand dollars saved. YIKES, that is a huge amount of money to save even between a couple let alone if you are single.
Luckily (or maybe unluckily) the reality is you no longer need a 20% deposit to be approved for a home loan. Probably because the bank realised that if you actually needed 20% they would halve the amount of mortgages they hand out. The banks WANT to loan you the maximum amount of money they think you can afford. If you max out your borrowing capacity it will mean that you will be unable to make extra payments and result in taking the whole term of the mortgage (usually 25-30 years) to pay the bank back. This is exactly what they want as this means you will pay a lot more interest to line their pockets then if you ended up paying your loan of early, say in 10-15 years.
10%, 15% or some banks will even offer 5% deposit loans to people who they believe will have the ability to service the loan. This however comes at a cost. The banks never want to lose and they don’t want to take risks when it comes to recouping their money if repayments aren’t being made.
If you have less than 20% deposit the bank will in most instances make you pay Lenders Mortgage Insurance (LMI) This is because they view you as risky, due to having a high loan to value ratio. You will be paying the Lenders mortgage insurance to insure the bank against yourself if you default on the loan. (Sounds funny doesn’t it, usually insurance that you pay for is to insure yourself for damages. LMI costs also depend on your deposit and LVR.
The closer your deposit is to total 20% the less LMI you will need to pay. For example, let’s say you are buying a 500K house but only have a 10% deposit of 50K. This means you need a mortgage of $450K. This means you have a Loan to Value ratio of 90%. To work this percentage out you divide the property value by the total loan cost and then multiply by 100. I used this LMI calculator online to show you what the premium for LMI in this instance would look like. Nearly $8000 would be added to your mortgage for this.
https://www.yourmortgage.com.au/calculators/mortgage_insurance/
When you think about how hard it is to save $8000 and how much time that would take it is devastating that this is a part of the fees some of us have to pay in order to get into our first home.
However not all is lost, there are some ways to avoid paying LMI.
- The First Home Loan Deposit Scheme. If you are a first home buyer, the First Home Loan Deposit Scheme may allow you to buy a property with a 5% deposit, without paying lenders mortgage insurance. Eligibility depends on where you are buying, your income and the value of the property you are buying. This is currently only available for new builds but you can read more about this here https://www.finder.com.au/first-home-loan-deposit-scheme
- Certain types of employment. If you earn a high salary or work in a certain professional industry such as medicine, accounting, law, athlete etc then LMI may be waved.
- Save a bigger deposit. Obviously if you have the time and ability to do this because getting locked out of the real estate market is not ideal.
- Use a Family Guarantor to make up the rest of the deposit. Some banks may allow you to use a suitable family member to partially guarantee the rest of your deposit up to the 20%. For example using our previous example if you have a 10% deposit of 50K your parents could guarantee the other 50K bringing you to the 20% deposit mark and eliminating the LMI costs. However they are liable for 50K of your loan if things ever went south so it’s important that they understand what they are signing up for.
Overall LMI is a Bitch and in an ideal world hopefully, you will never have to pay it. But for some people a 20% deposit is just unattainable with our crazy prices and they will not have family in a position to act as a partial guarantor. If you have to pay it to ensure you have a stable roof over your head and that you don’t get locked out of the property market forever then by all means pay for it! In the long run LMI is a small price to pay for the financial security of owning your home and never having to rent again.
