When you’re buying a house and don’t have a 20% deposit saved up, you’ll likely be required to pay Lenders Mortgage Insurance (LMI). This insurance protects the lender if you default on your loan, and it’s often misunderstood by homebuyers who are eager to get into the property market. In this article, we’ll explain what LMI is, how it works, and why it’s an important consideration for anyone buying a home with a small deposit.
What is Lenders Mortgage Insurance?
LMI is a one-time fee that’s paid by the borrower when they take out a home loan with a deposit of less than 20%. This insurance protects the lender if the borrower defaults on their loan, and it’s designed to help mitigate the risk of lending to someone with a small deposit. Essentially, LMI is a way for lenders to protect themselves from potential losses if the borrower can’t make their mortgage repayments.
It’s important to note that LMI is not the same as Mortgage Protection Insurance (MPI), which is an optional insurance policy that borrowers can take out to protect themselves in case they can’t make their mortgage payments. LMI is specifically designed to protect lenders, not borrowers.
How Does LMI Work?
When you take out a home loan with a deposit of less than 20%, your lender will assess your risk profile and determine whether they require you to pay LMI. The cost of LMI varies depending on the size of your deposit, the value of the property, and the lender’s risk assessment.
LMI is usually a one-time fee that’s paid upfront when you take out your home loan. However, some lenders may allow you to add the cost of LMI to your loan, which means you’ll pay interest on the insurance premium as well as the loan amount.
If you default on your loan and the lender has to repossess your home, they’ll use the proceeds from the sale of the property to pay off the outstanding loan balance. If there’s a shortfall between the sale price and the outstanding loan balance, the lender can make a claim on the LMI policy to recoup their losses.
Why is LMI Important?
For many homebuyers, paying LMI is a necessary step to getting into the property market. Without LMI, lenders would be much less likely to lend to borrowers with small deposits, which would make it much harder for first-home buyers to get into the market.
However, it’s important to understand that LMI is not a guarantee that you’ll be able to get a home loan. Lenders will still assess your ability to repay your loan, and they may decline your application if they don’t think you’re a good risk.
It’s also important to consider the cost of LMI when you’re buying a home. LMI can add thousands of dollars to the cost of your home loan, which can make it harder to afford your repayments. You should factor the cost of LMI into your overall budget when you’re considering how much you can afford to borrow.
How Can You Reduce the Cost of LMI?
If you’re buying a home with a small deposit, there are a few things you can do to reduce the cost of LMI:
Save a bigger deposit: The more money you can save for a deposit, the less you’ll have to pay in LMI. If you can save 10-15% of the purchase price, you may be able to avoid paying LMI altogether.
Consider a guarantor loan: If you have a family member who’s willing to act as a guarantor for your loan, you may be able to avoid paying LMI. A guarantor loan is where a family member uses their own property as security for your loan. This reduces the lender’s risk and can help you avoid paying LMI.
Shop around: Different lenders have different LMI policies, so it’s important to shop around to find the best deal. Some lenders may have lower LMI premiums than others, so it’s worth getting quotes from a few different lenders to compare.
Conclusion
Lenders Mortgage Insurance is an important consideration for anyone buying a home with a small deposit. It’s designed to protect lenders if the borrower defaults on their loan, and it can add thousands of dollars to the cost of your home loan. However, paying LMI is often a necessary step to getting into the property market, and there are a few things you can do to reduce the cost of LMI. By understanding how LMI works and shopping around for the best deal, you can make an informed decision about whether LMI is right for you.