When your deposit is less than 20% of the value of the property you’re buying, a lender is going to charge you a hefty lender’s mortgage insurance (LMI) premium to reduce its risks.
LMI is one of those extra costs that often catches home buyers by surprise, particularly first-home buyers.
It can cost thousands of dollars or even tens of thousands of dollars.
But it’s sometimes worth the cost, especially when you have a choice between paying LMI or spending years saving up for a 20% deposit.
How much does Lenders Mortgage Insurance cost?
LMI premiums vary a little by the lender.
But generally, you pay more in premiums the more expensive your property is, and the smaller your deposit is.
Using Finder’s LMI estimate calculator, we can see that LMI is a lot more expensive if you’re trying to buy a $1 million home with a 5% deposit than if you were buying a $600,000 home with a 15% deposit.
$1 million property
- 5% deposit ($50,000)
- LMI premium = $43,728
$600,000 property
- 15% deposit ($90,000)
- LMI premium = $5,941
Paying Lenders Mortgage Insurance premium vs saving a bigger deposit
LMI can be a big expense, but sometimes it’s worth it to get one foot on the property ladder – especially in a market where property prices are rising fast.
Here’s a simple example…
Let’s say you wanted to buy a $500,000 property but you had only saved a 10% deposit.
That’s $50,000.
You have 2 options: Buy it now and pay LMI, or wait and save another $50,000 to get a 20% deposit and skip LMI.
1. Paying LMI
- Deposit: $50,000
- Property value: $500,000
- Loan amount: $450,000
- LMI premium (estimate): $8,428
2. Avoiding LMI
- Deposit: $100,000
- Property value: $500,000
- Loan amount: $400,000
- LMI premium (estimate): $0
Now in that example, you can save yourself over $8,000 by saving a bigger deposit and avoiding LMI.
But how long will it take you to save another $50,000 for your deposit?
Let’s assume you can save $12,500 a year to put towards a deposit.
You’d need 4 more years to get to that 20% deposit.
That’s 4 more years of renting, 4 more years of not paying off your own property, and building equity.
And what about rising property prices?
Let’s assume property prices rose a conservative 6% a year.
This would mean your $500,000 property would now cost you $631,000.
And to make matters worse, a 20% deposit is now over $126,000.
Now, if you’d entered the market with a 10% deposit 4 years earlier, you’d have been paying off your loan principal for years, so the mortgage is likely to be paid down to around $430,000.
You’d also have a home worth $630,000, so you have $200,000 equity.
That’s probably worth paying an extra $8,000 for.
We can assist you to determine what will work best for you and start planning for the lifestyle you want in retirement. Give us a call at 08 82314709 or send us an email at info@centrawealth.com.au.
Article courtesy of Michael Yardney’s Property Update.
