If you’re planning to buy a home and need a home loan, you’ll likely hear the term “lenders mortgage insurance” or LMI. But what exactly is LMI, and how does it work? In this article, we’ll dive deep into the topic and answer all your questions about lenders mortgage insurance.
What is Lenders Mortgage Insurance?
Lenders mortgage insurance is a type of insurance that protects the lender in case the borrower defaults on their home loan. It’s usually required when the borrower has a small deposit, typically less than 20% of the property’s value. In Australia, LMI is generally provided by a few major insurance companies, and the cost of the insurance is usually passed on to the borrower as a one-off payment, added to the loan amount, or both.
How Does Lenders Mortgage Insurance Work?
Lenders mortgage insurance works by providing a safety net for the lender if the borrower is unable to repay the loan. If the borrower defaults on the loan, the lender can make a claim on the insurance policy to recover any losses. This means that if the property is sold for less than the outstanding loan amount, the insurance company will cover the difference, up to the amount specified in the policy.
It’s important to note that LMI doesn’t protect the borrower in any way. If the borrower defaults on the loan, they will still be liable for any outstanding debt, and their credit score will be negatively affected.
Why is Lenders Mortgage Insurance Required?
LMI is usually required when the borrower has a small deposit, typically less than 20% of the property’s value. This is because lenders consider borrowers with a smaller deposit to be more of a risk, as they have less equity in the property and are therefore more likely to default on the loan. By requiring LMI, the lender can protect themselves from this risk.
How is Lenders Mortgage Insurance Calculated?
The cost of LMI varies depending on a number of factors, including the size of the loan, the amount of the deposit, and the borrower’s credit score. Generally, the cost of LMI is a percentage of the loan amount, and can range from 0.5% to 5% of the loan amount.
The cost of LMI can be a significant expense for borrowers, especially if they have a small deposit. However, it’s important to remember that LMI allows borrowers to get a home loan with a smaller deposit, which can be a great option for those who are unable to save a large deposit before buying a home.
How is Lenders Mortgage Insurance Paid?
The cost of LMI can be paid in a number of ways, depending on the lender and the borrower’s preferences. Some borrowers choose to pay the cost of LMI as a one-off payment at the time of settlement, while others choose to add the cost of LMI to their loan amount, which means they’ll pay interest on the insurance premium over the life of the loan.
Another option is to split the cost of LMI between a one-off payment and adding it to the loan amount. This can help reduce the upfront costs of buying a home, while still allowing the borrower to get a home loan with a smaller deposit.
What are the Benefits of Lenders Mortgage Insurance?
While the cost of LMI can be a significant expense, there are a number of benefits to having LMI as part of your home loan:
- Allows borrowers to get a home loan with a smaller deposit
- Protects the lender in case the borrower defaults on the loan
- Allows borrowers to get a home loan without having to save a large deposit before buying a home
What are the Risks of Lenders Mortgage Insurance?
While LMI can be a great option for borrowers who have a small deposit, there are some risks to be aware of:
- It can be a significant expense, especially if added to the loan amount
- It doesn’t protect the borrower in any way
- It can increase the amount of interest paid over the life of the loan
Conclusion
Lenders mortgage insurance is a type of insurance that’s designed to protect the lender in case the borrower defaults on their home loan. It’s usually required when the borrower has a small deposit, and the cost of the insurance can be a significant expense. However, LMI allows borrowers to get a home loan with a smaller deposit, which can be a great option for those who are unable to save a large deposit before buying a home. If you’re considering LMI as part of your home loan, it’s important to weigh up the benefits and risks before making a decision.