What is Lenders Mortgage Insurance (LMI) and why it matters

By any measure, achieving the Great Australian Dream of home ownership is getting more difficult, particularly for first-time buyers trying to save a 20% deposit.

See also: How much do you need for a house deposit?

While there are myriad low deposit home loans on the market, they often require the borrower to pay lenders mortgage insurance - or LMI - as a condition of home loan approval. But what exactly is LMI and how does it work?

What is Lenders Mortgage Insurance (LMI)?

Lenders mortgage insurance (LMI) is an insurance policy that protects the lender should a borrower default on their home loan. The catch? The policy is usually paid for by the borrower.

It generally applies to borrowers who have a deposit of less than 20% of a property's value - or a loan-to-value ratio (LVR) of more than 80% (but not always).

LMI can be a one-off upfront payment levied on the borrower during home loan settlement, but it can also be added into the overall cost of the loan. That means the borrower essentially pays it off over time - along with their home loan.

In effect, LMI paves the way for many lenders to approve home loans to borrowers with smaller deposits who may be regarded as higher-risk borrowers.

For borrowers, though, it can add a significant expense to the cost of taking out a home loan.

How does LMI work?

When you apply for a home loan with a deposit of less than 20%, your lender will assess the risk you pose and determine if it will levy LMI.

Some lenders don't automatically levy LMI on all borrowers with lower deposits. This will depend on the policies of individual lenders and their assessment of your specific circumstances.

See also: Are you eligible for an LMI waiver?

But if your borrower deems the insurance necessary, you will be responsible for paying the LMI premium.

It's important to understand LMI only covers your lender in the event you default on future home loan repayments. It doesn't protect you, the borrower.

It's also worth noting LMI is not transferrable should you later choose to refinance your home loan, even if it's with the same lender. If your equity remains under 20% of the property value, you may need to pay it a second time.

How much does LMI cost?

The cost of LMI can vary depending on your lender and your financial circumstances at the time you're applying for a home loan.

Here are the factors that can affect the cost of LMI:

• The size of your loan - The larger the sum you wish to borrow, the higher your LMI premium.

• Loan-to-value ratio (LVR) - The greater percentage of the property's value you are borrowing through a home loan, the higher your LMI premium.

• Your deposit - As a rule of thumb, the smaller your deposit, the higher the premium is likely to be.

• Whether you're a first-home buyer, owner-occupier, or investor - Insurers apply different premiums for each type of borrower.

• The insurer used by the financial institution - Different lenders have different insurance providers (these are chosen by your lender) and their premium costs can vary.

• Your job and industry - Some borrowers in high-demand and well-paid professions may not be required to pay LMI.

Our Lenders Mortgage Insurance calculator can provide some guide as how much you might pay in LMI.

Here is a sample of projected LMI costs for a $600,000 property with various deposit amounts, as per our calculator:

Sample calculation of LMI for first-home buyers:

Property Value	Deposit (% of property value)	Loan Amount	LVR	Estimated LMI
$600,000	$90,000 (15%)	$510,000	85%	$5,100
	$60,000 (10%)	$540,000	90%	$9,828
	$30,000 (5%)	$570,000	95%	$31,008

Sample calculation of LMI for non-first-home buyers:

Property Value	Deposit (% of property value)	Loan Amount	LVR	Estimated LMI
$600,000	$90,000 (15%)	$510,000	85%	$5,100
	$60,000 (10%)	$540,000	90%	$10,800
	$30,000 (5%)	$570,000	95%	$34,485

The calculations assume a 30-year home loan term. Calculations can vary among lenders and insurers. It's recommended to check with your chosen lender for an estimate as to how much you will be charged for LMI.

Things you should know about LMI

Here are five crucial things to remember about LMI:

1. LMI is usually not optional. If your deposit is less than 20% of the property's value, your lender will likely require LMI. However, there are some lenders on the market that waive LMI for those with deposits as low as 15% while others offer non-LMI loans to eligible buyers purchasing eligible properties. It is worth shopping around.

2. Premium costs vary. The LMI premium rate is not standard across all lenders.

3. Premium payment options. You can choose to add the LMI cost to the loan or pay it upfront in a lump sum. It's worth noting the cost of LMI will be much more if you're paying interest on it over the term of your loan.

4. LMI is non-refundable. In most cases, any LMI you pay is non-refundable, even when the equity in your home accounts for more than 20%, if you sell the property, or if you refinance the loan at a later date.

5. LMI is insurance for lenders. LMI only protects your lender if you are unable to repay your home loan but offers no protection to you, the borrower.

See also: How to Avoid Paying LMI: Tips & Tricks

Frequently Asked Questions about LMI

Can LMI be avoided?

Yes, LMI can be avoided by having a deposit of at least 20% of the property's value. There are also instances where you can be eligible for an LMI waiver, such as being in well-paid and high-demand professions or, if eligible, participating in the federal government's Home Guarantee Scheme.

Is LMI a one-off cost?

LMI is a one-time - not an annual - payment, either paid upfront or added to the loan amount.

Can LMI be transferred to a new property?

LMI is not transferable between properties. If you sell and buy a new property, a new LMI premium may be required.

Can I negotiate the LMI premium rate?

No, the LMI premium rate is set by the insurer and is non-negotiable.

Can I claim LMI as a tax deduction?

In some cases, LMI premiums on investment properties may be tax deductible, but it's recommended to consult with a tax professional for advice.

See also: What tax deductions you can claim on your rental property?

Photo by @jittawit-tachakanjanapong on Canva.