If the perfect new home or investment property you have been waiting for comes onto the market before you have saved your full deposit, your bank or financial institution is likely to require that you take out Lenders Mortgage Insurance.
It is a very common practice. In fact, the Insurance Council of Australia estimates about 20 per cent of all mortgages are insured with an LMI provider.
A bank or financial institution takes out LMI to insure itself against the risk that it will not recover the full loan balance, should the borrower default on their loan payments. The Insurance Council of Australia states it is important for consumers to understand LMI covers the lender, not the borrower, or any guarantor of the loan.
LMI offerings hit the headlines recently, with St. George reducing its LMI to $1 for eligible first home buyers with a Loan to Value Ratio (LVR) of up to 85 per cent.
St. George general manager Ross Miller said the move was made after research showed one of the biggest hurdles for first home buyers was the length of time it took to save for a deposit.
The bank estimated the move would save those with a 15 per cent deposit thousands of dollars. It stated generally, a family home with a property value of $650,000 would incur a one-off payment of more than $6000 for the cost of LMI if they had less than a 20 per cent deposit.
"By reducing the expense of Lenders Mortgage Insurance, first time purchasers may be able to afford a property that meets their needs sooner and save thousands of dollars," Mr Miller said.
The change was made in the wake of COVID-19 impacts on the housing sector. It is unclear at this stage whether other banks or lending institutions will follow suit.
The insurance was introduced after banks and financial institutions recognised that, while some lenders met the other lending requirements for a loan, they had not saved a substantial deposit. Australia's big banks generally require a 20 per cent deposit for a home loan which is not secured with an LMI. That means, for a $600,000 home, prospective home-buyers would need to save a $120,000 deposit.
LMI gives lenders the security they need to provide home loans to customers who may otherwise have been considered high-risk, including those on lower incomes or who have low equity in their home. It also allows customers who have been saving towards a deposit to buy sooner.
The Insurance Council of Australia states this kind of insurance covered the amount left to pay on the loan if the amount recouped from the sale of the property was not enough to pay off the loan in full to the lender. The LMI premium was payable at settlement by the lender, and its cost was usually passed on to the borrower. The amount varied depending on the lender, how much was borrowed and the size of the deposit.
Insurance Council of Australia manager of communications and public relations Lisa Kable said it was important to make sure LMI was part of the discussions you had with your lender when negotiating a loan.
"Pay really close attention to the product disclosure statements. It is a legally binding agreement and you need to be completely aware of the inclusions, the exclusions and where you stand in certain circumstances. If you don't understand it, speak to the insurer and your lender, especially in this circumstance, where such a large sum is involved," she said.
The premium may be able to be included as part of the loan amount or paid upfront on settlement. Policies cannot be passed from one lender to another. When refinancing, you may need to pay for a new LMI policy if you still have low equity in your home.
If you are having problems making repayments, the Insurance Council of Australia stated the best policy was to contact your lender as soon as possible.