As your finance specialist, I often encounter clients grappling with the decision of whether to pay Lenders’ Mortgage Insurance (LMI) or wait until they’ve saved a 20% deposit.
Let’s dive into what LMI is and explore its advantages and disadvantages to help you make an informed decision.
What is LMI?
LMI is an insurance policy that protects lenders if a borrower defaults on their home loan and the sale of the property doesn’t cover the outstanding loan balance. It’s typically required when borrowers have a deposit of less than 20% of the property’s value.
PROs OF LMI
Entering the property market sooner
The most significant advantage of LMI is that it allows you to enter the property market with a smaller deposit, potentially years earlier than if you waited to save a 20% deposit. This can be particularly beneficial in a rising market where property values may be increasing faster than your ability to save.
Build equity faster
By purchasing a property sooner, you can start building equity earlier. This equity can be used for various purposes later on, such as growing an investment portfolio or financing home renovations.
No need for a guarantor
LMI often eliminates the need for a guarantor if you don’t have a large enough deposit. This can be a relief for those who don’t have family members able or willing to act as guarantors.
Potential for capital growth
In some cases, the capital growth achieved by entering the market earlier can outweigh the cost of LMI, especially in rapidly appreciating markets.
CONS of LMI
Additional cost
The most obvious drawback is the cost. LMI premiums can be substantial, typically around 2% of the loan amount. This additional expense could instead be used to pay down your mortgage directly.
It protects the lender, not you
It is crucial to understand that LMI protects the lender, not the borrower. If you default on your loan, you’re still liable for any shortfall after the property is sold.
May result in a higher interest rate
Loans with LMI often come with higher interest rates as lenders price their products based on the loan to value ratio (LVR). This means you could be paying more in interest over the life of the loan.
Capitalised cost
In most cases, LMI is capitalised into your loan, meaning you’ll pay interest on it over the life of your mortgage. This can significantly increase the total amount you repay over time.
Is LMI right for you?
The decision to pay LMI or wait until you have a 20% deposit depends on your individual circumstances and the current property market.
Here are some factors to consider:
- Property market trends
If property prices are rising rapidly, paying LMI to enter the market sooner could be beneficial. - Your savings rate
Consider how long it would take you to save the additional deposit and whether the potential property price increases during that time would outweigh the cost of LMI. - Loan term
If you’re planning to refinance or sell within a few years, paying LMI might be less impactful. - Interest rates
Compare the long term costs of a higher interest rate (often associated with LMI loans) against the potential benefits of entering the market sooner. - Government schemes
First home buyers may be eligible for schemes that allow them to purchase with a smaller deposit without paying LMI.
Remember, LMI isn’t necessarily good or bad – it’s a tool that can help you achieve your property goals sooner. Our finance team can help you crunch the numbers and determine whether paying LMI aligns with your finance objectives and circumstances.
If you’re considering a property purchase and would like to explore your options including whether LMI might be right for you, please reach out.
Together, we can develop a strategy that best suits your unique situation and allows you to purchase your dream home sooner rather than later.