What is lenders mortgage insurance [explainer + case study]
What is Lenders Mortgage Insurance and how much will it cost? The basic’s are covered here.
Lenders Mortgage Insurance can be a bit tricky to get your head around at first, however it’s an important concept to understand if you are buying a home with less than a 20% deposit saved. The key point is this – you should always have a mortgage broker analyse your finances to suggest ways to reduce your premium. It often saves my clients several thousand dollars.
What is Lenders Mortgage Insurance?
If you do not have a 20% deposit saved when you go to buy a home, you will need to pay an extra fee called Lenders Mortgage Insurance (LMI).
LMI is a one off, upfront insurance paid by you, to protect the bank, incase you are unable to repay your home loan.
Fortunately the cost can be added to your mortgage so it won’t come out of your deposit. However it is a significant additional cost of buying a home.
Banks have worked out that those with lower house deposits saved, are at greater risk of defaulting on their home loan. In short, you are seen as higher risk so you end up paying more.
As an example, if you were buying a property for a $500,000, you would need $100,000 saved to avoid paying LMI (so you borrow $400,000). If instead you only had $50,000 saved (deposit of 10%) then you would borrow $450,000. This would means you pay LMI of $9,419.
So as you can see it is a substantial extra cost to wack onto your home loan.
How much will Lenders Mortgage Insurance cost me?
If you decide not to save the 20% deposit and you need to pay Lenders Mortgage Insurance (LMI) instead, then it is crucial you have a (top*) mortgage broker look at ways to reduce your LMI.
Often in life it pays to seek the advice of an expert and reducing LMI, is one of these things.
You could save thousands of dollars right here, right now.
For those interested in getting their heads around it, here are some of the basics:
- The cost of LMI increases as you borrow more;
- But LMI does not increase proportionally, with how much you borrow; and
- If you can’t save 20%, then save a 10% deposit.
The key thing is this… there are hotspots where if you have the right deposit amount and a few other factors, then you can save thousands of dollars when you go to buy a home.
CASE STUDY – How we saved our clients $2,816 by reducing their Lenders Mortgage Insurance
Imagine first home buyers who want to spend $500,000 on a home (see scenario 1 in the table below).
They come to see me with $40,000 saved (8% deposit).
As they don’t have a 20% deposit, they need to pay LMI of $12,234.
Now $12,234 is a lot of money for anyone, not just first home buyers, wouldn’t you agree?
Let’s look at our options to reduce this.
My advice was they go with option 3, where they would save $2,816 versus their current situation (as shown in scenario 3 table 1):
- Aim to save $50,000 (10% deposit), so they;
- Borrow $450,000 (borrowing 90% of the value of the home);
- So the LMI payable is $9,418;
- This saves them $2,816 compared to their original situation;
- The extra $10,000 saved in deposit reduces how much they borrow.
* It is worth knowing that these LMI hotspots are a bit of an unknown in the home loan industry. If your broker isn’t talking about it, then chances are they may not even be aware of this little nugget of gold.
My advice: See an experienced mortgage broker and ask them to run different scenarios for you to find the LMI hotspots – this could save you several thousands of dollars right now.