Achieving the dream of homeownership is one of the most exciting milestones in life. It is also the largest investment you may ever make. The purchase costs of buying property can be high, particularly if you are borrowing at a high gearing level and incur the additional cost of Lenders Mortgage Insurance (LMI). LMI doesn’t sit well with some people, however if you look at LMI as an investment in your future, you will welcome it with both arms!
As a general rule, LMI is triggered when you borrow in excess of 80% of the purchase price (or 80% of the value of the property, if refinancing). The cost of LMI ranges between 1% and 3% of the loan amount, and the premium is often capitalised (added) to the base loan amount. LMI is a one-off cost and not an annual premium (unlike house insurance).
So what is LMI?
A higher Loan to Valuation Ratio (LVR) is considered to have more risk for the lender and as such the lender takes out an insurance policy against the debt in the event you default on your loan. In the event of default the lender will sell your property (with no emotion) and if the loan amount cannot be repaid from the proceeds in full, the lender makes a claim to the mortgage insurer.
Why LMI is an investment rather than a cost?
LMI can be a real enabler for borrowers, essentially allowing them to borrow more than 80% of the purchase price, or more than 80% of the property value when releasing equity from your property. For first home buyers, this can assist by buying the home now as oppose to waiting for a larger deposit. And for investors, this can assist in buying the next investment property sooner rather than waiting to come up with more cash for a larger deposit.
TIME is the most valuable resource for all of us, and waiting for the right time, or waiting for a higher deposit may cost you dearly. How? Imagine for one moment that 3 years ago (prior to the current property cycle) you decided to wait to save more cash before you jumped into the property market. As an example, Melbourne’s median property prices recorded double digit growth over the last couple of years and waiting to buy property would have cost you dearly, certainly much more than the cost of the LMI premium.
Minimising your borrowing cost should always be a priority for you, however in some cases the cost of LMI may be worth incurring as a cost of doing business (so to speak). The opportunity cost is the biggest mistake and forgotten cost that many people forget about. The cost of missing out on an opportunity will be much greater over time when compared to the one-off LMI cost that you may incur upfront.
Do all Lenders charge the same premium?
Definitely not. As a Mortgage Specialist firm, one of the key considerations we make when advising clients on the best loan is the cost of LMI.
For example, we recently assisted a client with the purchase of a $600,000 property borrowing at 90% LVR. The cost of LMI varied significantly between two lenders. Commonwealth Bank were charging $11,400 and Bank of Melbourne were charging $16,383. A 44% difference which is significant I’m sure you’ll agree! LMI premiums vary between lenders as it depends on which insurer they use. Some lenders even insure in-house, which means they can be more competitive or they can charge a higher premium.
Getting the right mortgage advice from a trusted source can save you thousands!
Is there another way to avoid LMI?
There are some instances where first home buyers (for instance) have willing parents that are happy to offer their home as Guarantor to remove the cost of LMI. Reason for this is that the parents are putting up a property as security, so the bank gets two properties to secure the debt against. This is not always possible particularly if the parents only own one property (i.e. their home) and they’re retired receiving a pension. There are many issues to address for both parties and personal advice is key.