Let’s talk about LMI
We all want to save as much as possible before buying our dream house – the more you save, the less you pay interest on! But sometimes you find the house you know you want while still on your saving journey. So what happens if you don’t have that 20% deposit?
Well, when you apply for your home loan, the bank or lender wants to see savings of at least 5%. Low, right? Too good to be true? The bank may lend you the other 95%, but you will have to pay something called Lender’s Mortgage Insurance – LMI.
LMI was introduced in 1965, and exists to protect the lender because you are borrowing a sum of money close to the full value of the house. As a result, there is a lot more risk to the bank if you cannot repay your home loan. Typically, LMI will be required if you need to borrow more than 80% of the house purchase price – if your deposit is less that 20% the value.
LMI applies both to buying an existing house, or building a new house. Here’s an example of how it can look:
House Price: $600,000
Deposit: 5% or $30,000
Interest rate: 4%
| House Cost | $600,000 | ||
| Deposit (5%) | $30,000 | ||
| Loan Balance. | .Interest charged. | .Total Cost. | |
| Loan Amount | 30 yrs | 30yrs | |
| With 5% Deposit | $570,000 | $409,656 | $979,656 |
| Est. Lender’s Mortgage Insurance (LMI) | |||
| With 5% Deposit | $25,080 | $18,025 | $43,105 |
| Loan Amount (incl. LMI) | |||
| With 5% Deposit | $595,080 | $427,681 | $1,022,761 |
Note: the LMI amount can vary amongst lenders and banks, this is provided by 1 lender.
In this example the LVR (loan to value ratio) is at over 99% now with LMI which a lender would NOT allow. You would need to decrease your loan amount. Most lenders don’t allow the loan and LMI value to go past an LVR of 97%, for example in this case $582,000 (97%).
As the table shows, the true cost of LMI in this situation is $43,105 over 30 years, with your monthly repayments $120 more! The total cost of the loan including LMI over 30 years on the $595,080 you originally borrowed is $1,022,761.
It is easy to forget about that extra you pay, as you can be so focused (and excited) on getting your own home. Besides, you have 30 years to pay it off (according to your lender).
If you cannot avoid LMI, then a strategy we adopt with clients is to do a ‘loan split’ on the LMI component – where we have a separate loan amount that’s still linked to the main home loan, but that we focus on paying down in quicker than 30 years (anything to avoid paying more than you need to your bank).
So what can you do to avoid paying LMI but also get that perfect house? Here are our six tips to avoid paying LMI.
1.Save More. We bang on about this a lot, but everyone can save that little bit extra. You can also aim to increase your income, allowing you to save more and still live your current lifestyle.
2.Find a cheaper house. Perhaps look at spending less on a house by looking in different areas or smaller properties.
3.Use another property. You may have another property you or your partner owns – if you have equity in this property then the lender may be able to use that equity as a deposit for the house you’re trying to buy.
4.Bank of parents. It may not be an option for you, but one way to grab that house sooner is to leverage your parents. It’s not ideal, but they could be guarantors (use some of the value of their property for the bank to use to provide money for yours). This can basically act as a deposit for your house.
5.Utilise all available government grants and concessions. There are several different grants available to first home buyers, with the amounts depending on the state you live in and the type of property you are purchasing – new/old, and how much the total price is.
6.First Home Super Saver Scheme. From July 2018, eligible first home buyers can make voluntary contributions of up to $15,000 per year into their super, then withdraw these amounts and any associated earnings. This scheme is intended to help you grow your deposit more quickly, and while additional rules may apply for your situation, make sure you do your research and speak to us before making any decisions.
So, by now you should understand LMI and the impact it can have financially over the long term. If you have any questions or want to review your personal situation and how you should structure your debt, then feel free to reach out to us.
7Wealth Pty Ltd ABN 44 609 210 246, is an Authorised Representative of AMP Financial Planning Pty Limited ABN 89 051 208 327 Australian Financial Services Licence 232706 and Australian Credit Licence 232706
This blog contains information that is general in nature. It does not take into account the objectives, financial situation or needs of any particular person. You need to consider your financial situation and needs before making any decisions based on this information. If you decide to purchase or vary a financial product, your financial adviser, and other companies within the AMP Group may receive fees and other benefits. The fees will be a dollar amount and/ or a percentage of either the premium you pay or the value of your investment. Please contact us if you want more information.
