There are plenty of words and phrases that are inappropriate to say in polite company but Lender’s Mortgage Insurance isn’t one of them.
My three year old son thinks talking about bodily functions when we’re out in public is an absolute riot. The Funniest. Thing. EVER.
There’s one three word phrase however, that has attracted a reputation it doesn’t quite deserve. That phrase is ‘Lenders Mortgage Insurance’ (LMI). When some people hear ‘LMI’ they warn others to BEWARE and ‘avoid at all costs’ (even if that means NEVER buying a home because you can’t save the 20% deposit to avoid LMI).
Some hate LMI, but others understand the opportunities it offers. And any others aren’t quite sure what it is.
Where do I sit on the topic? Well, ideally, I’d love for my clients to not have to pay LMI, but for many, it’s the only way they will ever be able to buy a home. I respect the opportunity it presents whilst being mindful of the potential downside.
The truth is Lenders Mortgage Insurance is NOT a dirty phrase. We just need to understand it and know how and when to use it to our advantage.
What is Lenders Mortgage Insurance?
If you want to buy a home but you don’t have a 20% deposit saved, chances are you will need to pay LMI. It’s a one-off charge that usually gets included in your loan amount, but occasionally it is paid up front.
LMI provides protection to the bank in case your home loan goes into default. It protects the bank, but it doesn’t protect you.
It guarantees the bank will get their money back if your home needs to be sold and there is a shortfall in repaying the loan.
What are the benefits of LMI
My wife Jo and I recently attended my client’s Andrea and Glenn’s housewarming party. I’d helped them buy the home, their first home. After being stuck renting for years, they were so proud to invite people to their own home. They have two 2 kids, earn a decent income and were previously paying a significant chunk of their household income on rent.
During the party our little boy Marcus played with their kids in the cubby house in the back garden. As Andrea and Glenn proudly took their guests on a tour of their new home, they excitedly shared plans of how they were going plant a veggie patch and perhaps convert one of the bedrooms into a home office.
They’d dreamed about buying their first home for years but didn’t believe that it would ever be possible. After paying rent and other living expenses they simply couldn’t save a large enough deposit. A very common problem for many of my clients.
By paying LMI they were able to buy their own home with the deposit they had saved. I found a home loan for them with a competitive interest rate and minimal fees. They now pay less each month on mortgage repayments than what they were spending on rent! They couldn’t believe it could be like this, that not only could that own their own home, but they could save money as well.
The property market is hot at the moment and in many areas, prices are rising quickly. Paying LMI so that you can buy now could work out cheaper in the long run than taking more time to save a bigger deposit. In the time it takes to save a higher deposit amount, property prices may well have risen by more than the cost of the insurance. In some cases, it can make good financial sense to buy earlier, even with the added cost of LMI, especially when you consider the rent that you would also be paying whilst you’re saving.
What are the concerns about LMI
There’s often confusion about who LMI protects. Unlike other insurances, LMI does NOT protect YOU the borrower. LMI only protects the bank. This means that if you default on your mortgage, you are not protected. If you do default, the bank may sell your home and you may have to pay their insurers for any leftover costs.
LMI is an extra cost in the property purchase process and can be quite expensive. Often LMI is added to your loan, which will increase how much you owe each month. If LMI is added to your home loan, it also means you will pay interest on it.
If scraping together a 5% deposit is a struggle, it’s important to be sure that you can service the loan. I recommended also factoring in any risk that life changes could present. For example, ask yourself, ‘would we be able to make my repayments if my partner lost their job?’
The more deposit you have the less risk you are taking on. A higher deposit provides a buffer.
My approach to finance is very much ‘risk adverse’. I am quite cautious and conservative when it comes to finance. If I find that a client will struggle to service a loan, I have a very honest discussion with them about how much they want to borrow. I encourage them to ensure that their expectations align with reality. I want my clients to enjoy their new home and lifestyle, rather than feeling imprisoned by oppressive debt.
It’s smart to seek professional advice from a Mortgage Broker like myself before taking on a loan with LMI.
How much does LMI cost
The cost of your LMI premium can vary.
Each bank/lender uses different LMI providers. The cost is calculated on the price of the home you want to buy, how much deposit you have, and the term of the home loan (e.g. 30 years).
How can I avoid paying LMI?
Save 20% Deposit
A higher deposit means a smaller loan amount. If you have 20% deposit or more the bank will view you as being less of a risk.
Security Guarantor Loan
A Security Guarantor Loan is when someone, usually a close relative such as a parent, uses the equity in their property to help you secure yours.
Having a guarantor on your loan often means that you won’t need a deposit at all. Guarantor Loans may also help you to avoid paying Lenders Mortgage Insurance.
This option isn’t right for everyone however, as there are some risks involved for the Guarantor. It’s smart to speak to a professional before applying for this type of loan.
Lenders view some professions as being less risky and may waive LMI fees. For example, medical professionals and doctors usually enjoy waived LMI fees because lenders perceive their professions as being stable and with a high income.
Some lenders offer special loan benefits to professionals earning $150,000+ a year because they consider them to be ‘low risk’ borrowers.
How to reduce how much LMI you pay
If you can’t avoid paying LMI, then try to save up as much deposit as possible. There can be a big difference between premiums paid if you have, for example, a ten percent deposit saved compared with a five percent deposit.
LMI has gotten a bad rap, but it needn’t be that way. In many cases, LMI can be the only way that people can enter the property market. It means that you can still purchase a home even if you don’t have 20% (or more) deposit.
LMI can be expensive and the risks it presents do need to be weighed up, but it certainly is a viable option for many of my clients.
If you’d like more information on LMI and would like to take the first steps towards buying your home, book an initial chat with me – I’d love to help.