06 Jun What is LMI all about?
Andrew Mirams from Intuitive Finance explains what LMI or Lenders Mortgage Insurance is all about.
Kevin: I was approached by a young couple recently who were very concerned about getting into their first property and, I guess like a lot of young people, have been trying to save but they can’t get a full 20% deposit and were very concerned about the LMI – lenders mortgage insurance – and asked me what it was all about. I thought I’d get more detailed insight into LMI. Joining me, Andrew Mirams from Intuitive Finance, a regular contributor to our podcast.
Andrew, what is LMI? What is lenders mortgage insurance?
Andrew: Hi, Kevin. A great question. I think there’s still a little bit of a mish out in the markets about what it is. Firstly, lenders mortgage insurance is these companies that sit around the banks. The banks want everyone to have a 20% deposit plus their fee, so they’ll lend you 80%. They’ll put that on their own books and that 20% is basically their buffer for any market movement.
Can you go over that? If you have a smaller deposit, you can do that, but then we have a group of mortgage insurers that actually insure the debt. They actually then do their own assessment on whether you’re a good risk and they insure the debt. What that means is it’s the only insurance in the world, I guess, that you pay to insure someone else. What the lenders mortgage insurance is doing is actually securing the bank’s position in case of default.
Kevin: It’s hardly fair, is it?
Andrew: Well, I think if you don’t have it, you don’t get into your property, so I think it’s actually a necessary evil in our markets, because for the young people of today, it’s not so much the holding costs with rates being at all-time record lows; it’s actually their ability to save a deposit and get into the market. That’s becoming the harder thing. So I think mortgage insurance has a definite opportunity within the market to use. We have both homebuyers and investors using it all the time.
Kevin: Give me an idea on the costs involved in LMI.
Andrew: There’s not a set formula because there are a number of insurers; they all have different premiums. Generally, what they do is it depends on your actual loan-to-value ratio. What the loan-to-value ratio means is if you have your loan at $400,000 and your property is worth $500,000, that’s the 80% LVR is what we call the acronym. If you can only do your loan at $450,000 against your property at $500,000, that’s then your 90% LVR.
Now, the premiums go up in 2% increments so whether you borrow 82%, 84%, 86%, 88%, etc. in increments. For an investor, it’s kept at 90% nowadays, and for owner-occupiers, they’re still able to go up to 95%.
It’s basically your risk and reward. The more you can contribute to your property, the lower the mortgage insurance will be because their risk is actually lower. There is not actually a set formula or premium that you can just say that’s the amount, but that’s how that’s roughly calculated. There are also a couple of tiers in your loan amount. Under $500,000 and over $500,000 tend to attract different premiums, as well.
Kevin: Does the premium have to be paid in a lump sum, or can it be part of the loan?
Andrew: There are two parts to that question. It’s a one-time lump-sum payment, but most of the time, you can actually capitalize it onto your loan, so it’s not actually an on-cost, like your stamp duty that you need to be able to fund up at the start. You can add it and capitalize it on top of your loan.
Kevin: Are there any mortgages where LMI wouldn’t apply, as in, say, a reverse mortgage?
Andrew: Yes, there are in those circumstances. There are also certain high-income-earning professions that lenders will waive their right to mortgage insurance because they’re trying to attract a certain profession; they know that they’re higher income and things like that. Yes, there are opportunities. There are some lenders that will do an 85%. Again, it’s a bit of a give-and-take relationship. You might not pay the mortgage insurance but you’ll pay a little bit more in interest rates. No free ride, Kevin.
Kevin: No. We learn that in life very quickly. What about off the plan, Andrew? Does it apply there?
Andrew: You can get it for off the plan. Off the plan is a really interesting market because as we know, when a developer is actually building something, they have their margins built in because they’ve paid someone else to market and, then there are commissions and fees. It’s not uncommon… It doesn’t happen all of the time. There are really good projects out there and the market might have been kind where the purchase price will marry up to the actual valuation at the time. It’s not uncommon for valuations to come in a little bit less or lower than what the actual client has purchased.
Then you can take mortgage insurance out against generally the lower of the two – or most of the time now. Because they’re greater than a 12-month purchase, the valuation will be what the lender uses and then you’ll sign a mortgage insurance premium based on the valuation.
Kevin: I imagine it might have happened in Sydney where people purchased a property and maybe it went up in value. They were paying lenders mortgage insurance then they wanted to borrow against the increased equity. Do you need to adjust that insurance?
Andrew: Yes. Once you have the insurance premium in place, you can actually do what we call a top-up. What the lender does is if you, let’s say, paid the $5000 in your first application and then you want to take out a little bit more equity, you’ll only pay the difference. The premium for the new loan and the new loan amount might have been 5½; you’ll actually only pay that $500 in the differential being the top-up mortgage insurance. It’s a really good strategy we use for our investors to keep that insurance in place, and if I’ve used it at 90% from the start, we’ll try to keep that policy in place and take it back up to 90% again and just pay a top-up premium. It’s a really great strategy for our investors.
Kevin: Would a way to avoid paying LMI be to get some kind of a family guarantee?
Andrew: Absolutely. For first-home buyers, that’s a great opportunity. Like we said from the outset, it’s getting harder and harder for our young people today to save that required deposit, so using a family guarantee – which is where the parents use the equity out of their property to assist a young person getting both a home or an investment; it might be a great way for them to start adding investing, as well – they can put their property up and that way, they’ll avoid the insurance.
Kevin: If I’m not backed for finance on a property purchase because I don’t qualify for LMI, can I find out why?
Andrew: It’s generally the same reasons as what you would get for a lender. The answer is yes; however, because the insurers are taking on a greater risk, it’s their calculators and their reasoning and rationale around whether they’ll accept the property in the first place. So that’s where some of those off-the-plan properties, they might have a certain exposure already to that development or they might be postcodes they don’t want to lend to.
Then if clients are actually stretching themselves a little bit but it works at the bank, it still doesn’t mean it’s a guarantee to work at the mortgage insurer because they have stricter and tighter policies around, because again, they’re insuring the lender and they’re going to be at risk if a client was to not make their payments. The lender basically knocks on the insurer’s door and says, “Thank you, we need those funds back,” and then it’s up to the insurer to pursue the client.
Kevin: Always good talking to you. Andrew Mirams from Intuitive Finance. Andrew, thanks for that insight into lenders mortgage insurance. I appreciate your time.
Andrew: My pleasure, Kevin. Thank you.