What Is Mortgage Insurance and How Does It Work?
A first mortgage can be an overwhelming process for new homeowners as they try to work through all of the terms, fees, and jargon associated with mortgage applications. Loans can be complicated, even for people who consider themselves financially savvy.
Without a full understanding of how mortgages—and especially mortgage deposits—work, you may find yourself uneducated and unprepared for the prospect of mortgage insurance.
Lenders mortgage insurance is a probability for borrowers without access to the finances needed to make a significant deposit on a property. It can be avoided by those who have saved (or perhaps even inherited) a nice chunk of change, but for many Australians, these deposits are far out of reach.
We will take you through the ins and outs of lenders mortgage insurance and how it could impact your loan process.
What Is Lenders Mortgage Insurance?
Lenders mortgage insurance is a safety net for the mortgage lenders assuming a certain level of risk in working with you, the borrower. Lenders mortgage insurance (often called LMI) protects the lender in the event that you cannot repay your loan.
Think of it as you might any other type of insurance. For example, a home in a low-lying coastal region may be prone to flooding, hence the need for flood insurance. A loan where the borrower has little savings and a high debt-to-income ratio is a high risk for the lender—just like the homeowner facing the possibility of flooding. The LMI gives the lender the coverage needed if they are forced to repossess the property due to non-payment and its value has decreased.
Is Mortgage Protection Insurance The Same Thing?
First-time borrowers might confuse LMI with mortgage protection insurance; however, they are almost exact opposites.
While lenders mortgage insurance exists for the lender’s benefit, mortgage protection insurance helps the borrower. This type of policy might come into play if the borrower defaults on the loan due to health reasons, a disability, a job loss, or other similar circumstances.
Will Lenders Mortgage Insurance Automatically Be Added To a First-Time Home Loan?
No. The good news is there are ways to get around paying lenders mortgage insurance, and we will get to those below.
If lenders mortgage insurance is a requirement for your loan application to be accepted, you have options. It can be added to the loan to be paid out in instalments, or you might decide to pay it all upfront. This is something you will need to work out with your lender and mortgage insurer.
Help Me Avoid LMI: What Can I Do?
To avoid paying lenders mortgage insurance with your mortgage loan, you can start by saving, saving, saving.
The more money you can save for a deposit for your mortgage loan amount, the better off you will be when applying for a mortgage loan as a home buyer. Sometimes this means renting a small flat for a year (or two…or three…) longer than you would like. But the long-term win could be worth a few more years of cramped living if you can secure a loan with favourable terms and no LMI.
Paying down credit card debt to improve your credit score is also hugely important when it comes to home loans, as a poor credit score could affect your ability to secure a loan.
Your mortgage broker can help you with this, along with the whole loan process.
The Magic Number: 20%
The gold standard for a deposit that should help you avoid LMI (and possibly secure a better interest rate and loan terms) is 20%. So bear in mind if you have your eye on homes in the $500,000 range, you would ideally want a deposit of $100,000. This type of deposit signifies to the lender that you are less likely than other borrowers to default on your loan.
Use Your Profession To Your Advantage
Certain jobs help sway lenders when it comes to borrowers who may not have a 20% deposit on hand. For example, a lender might agree to bypass the LMI if the loan applicant is a doctor or lawyer whose future earnings make it possible for her to repay the loan in full.
Family Backing
A guarantor can make a big difference in home loans, especially for first-time mortgage applicants. This does not necessarily mean asking parents or other family members to fund the purchase of the property.
Rather, suppose a parent or other family member—in better financial standing than the borrower—is willing to sign on as a guarantor. In that case, it increases the likelihood that the lender will waive the lender mortgage insurance requirement as they know you have a party willing to accept responsibility if you cannot make the mortgage payment.
Consider a Government Home Owner Grant
Often first-time mortgage applicants are unaware of forms of assistance available to them, such as government grants.
Australia’s First Home Loan Deposit Scheme, administered by the National Housing Finance and Investment Corporation (NHFIC), supports up to 10,000 guaranteed loans per year, with the government paying the lenders mortgage insurance for applicants unable to make larger deposits on their first home mortgages.
Borrowers must be at least 18 years old, with a maximum taxable income of $125,000 per annum (or $200,000 for couples) to apply for this type of home owner grant.
How Lenders Mortgage Insurance Works (and what it costs)
If you cannot avoid lenders mortgage insurance with your home mortgage application, your lender will likely use one of Australia’s two main providers: QBE or Genworth Financial.
The mortgage insurance premium will vary based on factors such as:
- Whether you are a first-time borrower or an existing borrower
- The size of the loan
- The loan-to-value ratio (LVR)
This insurance premium range could find you paying as little as a few thousand dollars for LMI or as much as $20,000.
At Zanda Wealth, our trusted team of expert mortgage brokers can guide you through the ins and outs of lender mortgage insurance and everything else you need to know about a first-time home loan and a refinance of your existing loan or a strategy for investment properties.
Contact us today for a free strategy session; we are confident you will quickly see why our clients trust us.