When buying a property in Australia, you may come across mortgage insurance, a key consideration for many homebuyers, especially those with smaller deposits. Understanding what mortgage insurance is, when it’s required, and how it affects your overall mortgage costs is crucial to managing your home-buying budget.
In this blog, we’ll explain the ins and outs of mortgage insurance in Australia, helping you determine when it’s necessary and how it impacts your home loan.
Mortgage insurance is a type of insurance that protects the lender, not the borrower if you default on your home loan. In Australia, it’s often referred to as Lender’s Mortgage Insurance (LMI). LMI is typically required when you’re borrowing more than 80% of the property’s value, meaning your deposit is less than 20%.
LMI is designed to reduce the lender’s risk when lending to borrowers with a smaller deposit. While it protects the lender, the cost of LMI is borne by the borrower and is usually added to the overall mortgage amount.
Lender’s Mortgage Insurance is required in situations where the borrower is considered higher risk due to a smaller deposit. The general rule is that LMI is required when the loan-to-value ratio (LVR) exceeds 80%. The LVR is the percentage of the property’s value that you are borrowing. For example, if you’re borrowing $400,000 to buy a $500,000 property, your LVR is 80%.
Here are some common scenarios where LMI is required:
The cost of LMI depends on several factors, including the size of your deposit, the loan amount, and the lender’s policies. The higher your LVR, the higher your LMI premium will be. For example, a borrower with a 5% deposit will pay more for LMI than a borrower with a 15% deposit.
Factors That Affect LMI Premiums:
LMI can significantly impact the overall cost of your mortgage. Since it’s typically added to your loan amount, it increases the total you borrow and, as a result, the interest you pay over time. For example, if your LMI premium is $10,000 and it’s added to your $500,000 loan, your total mortgage will be $510,000, meaning you’ll be paying interest on the extra $10,000 as well.
LMI Example:
While LMI allows you to buy a property with a smaller deposit, avoiding it can save you a significant amount of money. Here are a few ways to avoid paying LMI:
The most straightforward way to avoid LMI is by saving a deposit of at least 20% of the property’s value. While this may take more time, it can save you thousands in the long run.
A guarantor loan allows a family member, usually a parent, to use their property as additional security for your home loan. This reduces your LVR and may eliminate the need for LMI. However, guarantors take on significant risk, as their property may be at risk if they default on the loan.
In some cases, first-home buyers may be eligible for government schemes that help avoid LMI. The First Home Loan Deposit Scheme (FHLDS) allows eligible first-home buyers to purchase a home with as little as a 5% deposit without needing to pay LMI. The government guarantees part of the loan, reducing the lender’s risk.
While LMI adds to your overall mortgage costs, it can be worth it for some borrowers. If waiting to save a 20% deposit would take years, paying for LMI allows you to enter the property market sooner. This can be especially beneficial in a rising market, where property prices increase faster than your ability to save a larger deposit.
For first-home buyers, LMI might be a way to secure your first property while prices are still within reach. In this case, the benefits of owning sooner may outweigh the additional cost of LMI.
Lender’s Mortgage Insurance (LMI) plays a significant role in the Australian property market, particularly for borrowers with smaller deposits. While it increases the overall cost of your mortgage, it also allows you to buy a property with less upfront capital.
Understanding when LMI is required, how it’s calculated, and how it impacts your loan is essential for making informed financial decisions. If you’re unsure about your options, consider speaking to a mortgage broker, who can help you find the best loan with or without LMI, based on your circumstances.
