A hot topic that is always brought up when talking about home loans is ‘What is Lenders Mortgage Insurance’? How Does It Work? What is the Benefit of it? How can I avoid paying it?’
A lot of borrowers are under the impression that Lenders Mortgage Insurance is a policy that you pay for to protect yourself if you can no longer make your home loan repayments. Unfortunately for those borrowers, you’ve been misled.
In this article, we explore the world of Lenders Mortgage Insurance and how it relates to different types of borrowers.
WHAT IS LENDERS MORTGAGE INSURANCE?
Lenders Mortgage Insurance (LMI) is an insurance policy that the bank takes out to protect themselves against financial loss caused by the borrower not repaying their home loan. If a borrower can no longer afford their loan, then the bank will repossess that home, and sell it.
If the property is then sold, for less than the outstanding amount of the loan, then the bank would make a claim on the insurance policy.
In other words, LMI is there only to protect the lender, and in no way does it protect the borrower. If you are looking for something to protect the borrower, then Mortgage Protection Insurance is what you should be considering or speaking to a professional about ensuring your risk insurances are adequate, like Income Protection, TPD, Trauma & Life Insurance etc.
WHEN IS LENDERS MORTGAGE INSURANCE REQUIRED?
A general rule is that if you are borrowing for than 80% of the property’s value from the lender, then you are required to pay to LMI. Fortunately, it is organized by the bank during the loan application process, so you do not need to organize anything and depending on your circumstances, it can sometimes be capitalised into your loan.
This does also mean that you can’t choose which insurer you get your LMI through, as usually different backs have commercial agreements with different insurers.
WHAT WAYS CAN I AVOID LMI?
The easiest way would be to have 20% deposit. However, we all know that it is easier said than done. So other ways could be; have a family member gift you the funds or have a family member go guarantor over the loan.
Certain lenders are willing to accept non-refundable gifts as a deposit. Generally speaking, they prefer it to be held within a bank account for a minimum of 3 months.
Alternatively, if your parents have the ability, they can go guarantor over the loan. Which means if the borrowers can’t afford to pay the loan, the responsibility would fall to them. This can be a risky decision, and professional advice should be sought before making any decisions
DOES THE INSURER HAVE A SAY IN WHETHER MY LOAN IS APPROVED?
Yes, the application is submitted to both the bank and the mortgage insurer to get approved. This process is arranged by the bank as part of the approval process. Some Lenders do have an authority to approve loans where LMI is involved and there is no need for the application to also be assessed by the LMI provider.
Due to the higher risk associated with the loans with little or no deposit, the Mortgage Insurer will put a greater emphasis on the borrowers to have a good credit history, stable employment history, and in most cases, they’d want to see savings.
What is LMI Capitalisation?
One of the good things about LMI is that it’s not something you have to pay for out of pocket. Lenders allow the borrowers to borrow the funds to pay for the premium by capitalising it into their loan.
Allowing borrowers to have a smaller deposit since they are not having to pay the LMI premium from their deposit.
So, to conclude, LMI can be a relatively expensive additional cost that you may need to consider. This cost protects protects the lender rather than the borrower, but allows access to higher loan amounts, with smaller deposits.