The costs of home loan insurance

These days it feels like we need insurance for everything. It’s one of those things, we often don’t realise we need until it’s too late. Lender’s Mortgage Insurance on the other hand, is not an optional insurance but instead a compulsory insurance some lenders enforce onto borrowers whom they consider a higher risk customer.

What is lenders mortgage insurance?

Home loan insurance, otherwise known as lenders’ mortgage insurance (LMI), protects your lender in the event that you default on your home loan and the property is repossessed and sold. This insurance covers the gap if the sale price is not enough to pay off the loan, meaning that the lender avoids a loss.

Contrary to what some believe, this means that lender’s mortgage insurance doesn’t protect the borrower.  You’ll have to take out a separate insurance policy for that.

What types of loans need home loan insurance?

Usually, you will need to pay for lenders’ mortgage insurance if your deposit is less than 20 per cent of the loan amount. The types of home loans that LMI covers is comprehensive, and includes owner-occupied, investment, construction, interest only, low doc loans, as well as many others.

It’s also important to note that borrowers who refinance and don’t meet the minimum required equity, may still need to pay LMI, even if refinancing for the same property! That’s because LMI is not transferrable or portable, it’s a one-off payment.

What’s in it for me?

Paying for LMI is a safeguard for your financial institution, meaning that they are more likely to approve your loan, and with much smaller deposits.

Therefore, instead of saving $100,000 for a $400,000 loan, those who pay for LMI may be eligible for a loan after saving only $20,000 (5 percent) for instance.

The clear danger here is that people may be taking on debt before they are ready to do so. To avoid this pitfall, home loan applicants usually undergo rigorous credit checks in order to prove their potential.

How do I pay for LMI?

Mortgage insurance usually comes in the form of a fee, paid once the loan is settled. The lender will then set up the insurance without too much hassle and paperwork.

If the financial crisis has taught us anything, it is that we should never borrow above our means. Saving up a while longer and putting down a sizeable deposit will reduce your repayments and the likelihood that you will undergo hardship if your circumstances change. Of course it can also save you thousands of dollars if you don’t have the added cost of paying LMI!

Crunch the numbers to work out how you can avoid lenders’ mortgage insurance by using the RateCity home loan comparison and home loan repayment calculator tools.

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