If you’re struggling to save a 20% deposit for your new home, lenders mortgage insurance (LMI) may offer you a way to reach your homeownership dreams sooner. LMI protects lenders from any possible losses they may suffer if you default on your loan.
Before getting excited at the prospect of breaking into the property market sooner, you should get to know LMI. Our guide will help you understand what LMI is, how much it will cost and how it works.
LMI was introduced into the Australian market in 1965 to help borrowers enter the property market sooner whilst safeguarding the lender. LMI is a one-off premium you will pay if your lender deems your loan to be a higher risk and they want to protect their financial investment.
Lenders mortgage insurance is a policy that covers the lender if you are unable to fulfil your mortgage repayments and default on your home loan. It's not to be confused with mortgage protection insurance that protects you the borrower if you can't make your mortgage repayments.
We know LMI protects the lender if you’re unable to repay your repayments and default on your loan, but why would they need to be covered? They get the money back when they sell your property, right?
Consider this scenario, you purchase a property for $900,000, but you only have $90,000 or 10% of the purchase price as a deposit. Your lender will require you to pay LMI, a few years after your purchase the economy takes a turn and you lose your job. You can't make your mortgage repayments, so you default on your home loan. The economic downturn causes a dip in the property market, and the lender can only get $700,000 when they sell your property.
LMI will cover the $110,000 the lender lost as well as any:
Plus any other costs they incurred when they sold the property.
The cost of lenders mortgage insurance differs based on multiple factors including loan amount, deposit amount, loan type and mortgage insurer. There are two LMI providers in Australia QBE and Genworth, but some lenders also have their own LMI products.
You will also be required to pay stamp duty on your LMI premium, which is separate to the stamp duty you will be paying on your property.
If you're trying to work out how to calculate LMI, it would be best to use an LMI calculator and enter:
Once entered into the LMI calculator, you will be able to get an idea of how much your LMI premium will be. The results are only a guide, and your lender will give you an exact cost when you apply.
Suppose we use the example used above when discussing LMI costs, a $900,000 property with a $90,000 deposit. Add that our example borrower is a first home buyer, owner occupier and taking out a loan for up to 30 years this would mean the premium is estimated to be $19,926. The estimated premium includes GST but excludes stamp duty, which varies depending on your state of residence.
Most lenders will allow you to capitalise your LMI premiums into your home loan. Which means it gets added to your total loan amount and included in the calculation of mortgage repayments. You will repay the premium along with your home loan for the duration of your loan term.
You can also pay your LMI premium upfront if you have the funds available.
You will be required to pay an LMI premium if you are taking out a home loan that is considered higher risk.
The most common scenario a lender will implement LMI is if you're not able to save a deposit of at least 20% of the property price. The other common reason is for low-doc loans used by self-employed borrowers. LMI for a low-doc home loan is usually payable if you aren't able to save a minimum 40% deposit, but this may differ based on the lender.
There are simple things you can do as a borrower to help you avoid having to pay lenders mortgage insurance.
Before you sign your loan documents and agree to LMI, it's best to make sure you do as much research as you can. You want to understand the process of getting LMI, how it impacts your home loan application, if it's refundable and how it affects you if refinancing.
Lenders mortgage insurance is a substantial cost, and if you opt to add the expense to your home loan, it will impact your mortgage repayments. You will need to make sure you have appropriately adjusted your budget to cover the increased costs.
On top of this increased long-term cost, LMI means you also need to pass the qualification guidelines from the LMI provider. Waiting on this additional approval can extend your home loan application process depending on the insurance providers criteria and speed at which they approve.
You may find that your home loan application is rejected due to you failing the LMI application process. If this happens, you should shop around for another lender who either uses a different LMI provider or offers its own LMI product. But don't apply for multiple loans at once as it will leave marks on your credit file, which will also impact your home loan application.
The lender is in control when it comes to LMI. They will let you know if you need it, will organise all the paperwork and will choose the insurance provider. Lenders often have commercial agreements with individual providers or offer their own LMI products.
The premium for your LMI policy will be payable on settlement day once your application has been processed and the sale is finalised. At this time your lender will ask you to pay the premium unless you have chosen to capitalise it into your home loan.
Most often, LMI is 100% non-refundable, but there are some specific and rare circumstances where you can get a refund. Depending on the lender and LMI provider, you may be eligible for a partial or full refund if you terminate your home loan early, within the first couple of years.
Your lender may have a deal in which they obtain a discount on the premium, which they pass onto you, rather than allow for refunds. Make sure to check with your lender the refund policy of your lenders mortgage insurance.
Lenders mortgage insurance is a non-transferable policy as it is attached to your lender and not your loan. If you refinance your home loan and change lender, your LMI policy won't move with you.
You will be required to pay another LMI premium when refinancing if the equity you have built isn't over the threshold that triggers LMI to be paid. Typically 20% for a standard home loan or 40% for a low-doc home loan.
This equity may be created through repayments or your property value increasing. You might be better off to delay refinancing until you have built this equity to avoid paying more LMI.
There are pros and cons to lenders mortgage insurance. Still, like all other decisions you will make when purchasing a home, you should consider all the costs and make an informed decision. If you are ready to get started comparing your home loan options, check out Yards range of home loans.