What is Lenders Mortgage Insurance, and who does it protect?
Lenders Mortgage Insurance (LMI) is a financial guarantee that insures the lenders against loss in the event a borrower defaults on a home loan.
If a borrower defaults, and the lender takes title to property, the mortgage insurer reduces or eliminates the loss to the lender. In effect the mortgage insurer shares the risk of lending money to the borrower.
However, the insurance company may seek to recover the shortfall from the borrower.
Lenders usually require the borrower to pay LMI if they cannot provide a 20% deposit on the property they are wanting to purchase, or if they are applying for a non conforming (low documentation) loan. In some cases the lenders will pay the LMI premium.
The mortgage insurance premium is a once only payment that is required at settlement. The premium is calculated according to the amount of the loan, the value of the property, the type of loan and stamp duty.
LMI should not be confused with life insurance, income protection insurance etc. Although there is no single insurance product to protect your home if you can’t make your mortgage repayments, it would be wise to carefully consider personal insurance to assist you in making your repayments in the event of illness, accident, injury or death.
WHAT DOES LMI DO FOR BORROWERS?
Without LMI, lenders would normally require 20% of the property purchase price as a deposit, which would mean years of saving for some borrowers. With LMI, lenders are willing to accept as little as 3% and in some cases no deposit from the borrower.
It allows you to become home owners sooner, and dramatically increases your buying power. As a first home buyer it can help you to afford your first home sooner, and investors can put down less deposit and may gain tax advantages because they have more deductable interest to claim. You can use the money you would have used for further investments, moving costs, or other expenses.
Although it provides broader options, it is always wise to carefully consider your financial situation and not over commit. Remember every one that goes bankrupt was approved for the home loan!
A borrower is obligated to insure their home to its full value for the duration of the loan, and must ensure that they do not do anything that will void the policy.