Picture This

1. A friend of yours wants a loan from you.
2. You ask them to insure your money against the risk of you not being able to return it or pay it back.
3. They don’t repay the loan.
4. You claim your insurance on the funds you lent them and the insurance company pays you the cash.

That is what mortgage lenders do everyday to ensure their money is lent ‘Fully Insured’. They get to make money, fully insured, sounds like a great business!

Lenders Mortgage Insurance (LMI) is a payment made by the borrower that protects the banks or financier in the unlikely case that a borrower defaults and a loss is evident after the mortgaged property is sold.The premium for LMI is payable once only at the commencement of the loan and protects banks for the life of the loan.

Most banks usually require Lenders Mortgage Insurance whenever the Loan to Valuation Ratio (LVR) is above 80%. LMI may be required when LVR is below 80% for some types of property. The funds are always insured, but above 80% you pay, and below the financier pays.

The premiums are determined by the underwriter based on the amount of the loan and the Loan to Valuation Ratio. They are usually an arms length from the banks and will vary upon location and type of house you are looking to secure.

Most of the time the LMI figure is simply a percentage of your loan. When the bank lends you the 95%, or whatever you borrow above 80% you need to cover the insurance premium.

For example

• $288,000 loan.
• LMI at 95% lend is 1.35% of that loan amount
• LMI payable is $3888.00

So you will borrow the $288,000 however the bank usually takes off the $3888 off that amount. You are then required to cover the shortfall of this amount. The banks are more than likely to add it onto your loan or capitalise it. Therefore you will find that the approved loan value will be less the LMI payable upon settlement. Either way you will need to have the cash to complete the purchase.

This insurance is not covering your ability to repay the loan it is simply an insurance that the banks will get their money regardless if you pay your loan or not.

If you default you will most likely see very little from the banks in the way of a cheque to cover what you own. Before you fall into this situation find an investor who can help you out of paying a mortgage you cannot afford.

There are 2 Lenders Mortgage Insurance Providers in the Australian market covering both national and international lending. They are GE and PMI. They both have fantastic websites showing the lending levels they will cover in postcodes all over the country. There is talk of another company coming into the market, but we are yet to see more than just rumours. Banks usually self insure their lending whilst the mortgage lenders like Aussie and Rams use PMI and GE.

It’s interesting to note the banks rarely refuse your applications on residential lending. It’s the insurance company that has more than likely refused to guarantee your loan according to the information that the broker has supplied to them. The LMI companies do cross check themselves and if you provide false information or lie on your applications you will be blacklisted for future loans.

Serious investors understand that borrowing money does come at a cost and LMI is another cost of investing in real estate. Unless you can buy everything with cash then consider paying the LMI premium and getting heaps of leverage in your portfolio.

Don Christie

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