The big, bag boogy man...LMI and why is isn't all that bad

LMI. What is it and why do so many people fear it?

Even for those starting out a fresh as first home buyers, while they may not understand the nitty gritty of what LMI is, many do want to incur it.

It's thought to be bad.

And expensive.

And whatever happens, it needs to be avoided at all costs.

But are these fears warranted?

The truth is, Lenders Mortgage Insurance (LMI), doesn't necessarily need to be something is avoided at all costs. And the truth be told, it can play a role in helping a new home buyer get into their first home sooner rather than later.

Hold up. So LMI can be good? Surely not. Well let me explain.

LMI is an insurance cost which is in most cases, added to your loan, when you have less than a 20% deposit. It is on a sliding scale - upwards - so the more money you borrow against a given property, the higher the LMI charge will be.

So a 95% loan has the most LMI applied? Correct.

LMI protects the bank in the event that you cannot repay your loan and, in an absolute worse case scenario, the bank is forced to sell your property to recoup the money they have lent you. This insurance policy protects the bank if they cannot get their money back.

And in truth, LMI can add thousands of dollars to your loan especially when you have a small deposit.

So how could it possibly be anything but bad?

In my experience, for many first home buyers, it is not necessarily their ability to borrow the loan amount they need that creates a problem for them in buying a home. In fact, in many cases, many borrowers can afford to borrow more than they need when applying for a loan, especially when a couple is buying together.

The truth is that what causes many first home buyers a problem is the size of the deposit required to buy a home. And how long it takes for them to save it.

Without a doubt, it is hard for many people to save, especially in the current environment. And the capacity for new home buyers to save the deposit needed has continually fallen in line with the rising cost of living.

However, if a first home buyer is fearful of LMI and wants to avoid it at all costs, unless the first home buyer can secure a place under a government supported scheme to avoid LMI, they must come up with a 20% deposit. That 20% deposit is the price of the property plus stamp duty and government costs.

This can pose an issue in itself as the time it could take to save that 20% can, in some cases, be many years.

So we come back to the question of LMI insurance. If a first home buyer has the capacity to make repayments on a loan which includes mortgage insurance, is LMI therefore justifiably feared. Could a first home buyer bring their dream of buying a home forward if LMI can help them to achieve this?

There is no right or wrong answer here. However, more than ever, LMI should be understood and a first home buyer needs to have it explained to them with regards to their situation and how it can impact their ability to buy a home.

If that home could be bought a lot earlier than feared and the loan is still affordable - even with LMI - is that a bad thing?

The answer to this question will be unique to you.

First home buyers need to:

• Understand the role LMI can play in buying a home

• What government schemes are available to avoid it (and whether you meet the eligibility criteria)

• What it means to borrow both with - and without - LMI with regards to repayments and your deposit

LMI doesn't need to be the big boogey man. But it does need to be understood.