Why is a deposit needed?
When you borrow money lenders expect to get their money back from the repayments you’ll make over time. However, if you fail to make these repayments lenders can force the quick sale of any property linked to the loan (known as the loan ‘security’).
A quick sale is unlikely to get full value for the security property so lenders decide the maximum amount you can borrow to reduce their risk of ever losing money. Lenders are comfortable with loans up to 80% of the value for most residential homes and units. They may set restrictions of less than 80% for some specialised or unusual properties. The property value is usually the price you pay, so in an ideal world you will contribute at least 20% of the purchase price.
Lenders are not prepared to fund additional costs like stamp duty and legal fees, so you also need to contribute money for these. A First Home Buyer in Victoria should allow up to 4% of the purchase price (5% if the price exceeds $600,000).
The ideal deposit
The ideal deposit is 20% of the purchase price plus a further 4% to cover costs. As an example, if you want to buy a property for $500,000 the ideal deposit is $120,000 (20% of $500,000 plus 4% of $500,000). If saving this much is going to be a real struggle you can consider the following options.
The minimum deposit
Nearly all lenders will allow you to borrow above their normal comfort level (eg 80%) if you are prepared to pay an insurance premium that protects the lender from the risk they are taking. In this case the deposit can be as low as 5% plus enough for costs. Using the example of a $500,000 purchase price again, the deposit can now be as low as $45,000 (5% of $500,000 plus $20,000 costs). The insurance is known as ‘Lenders Mortgage Insurance’ and the premium is added to the amount you borrow. The premium can be many thousands of dollars but reduces if you can save more.
An option gaining in popularity over recent years allows you to purchase a property without any deposit and without paying for Lenders Mortgage Insurance either. You can borrow up to 100% of the purchase price plus all the additional costs. For our example of a $500,000 purchase price you could borrow $520,000. A close family member, usually a parent, becomes a guarantor to your loan by allowing their property to be linked to your loan. This ‘family guarantee’ means the family member is sharing the risk with the lender – if you fail to make loan repayments their property (as well as yours) could be sold by the lender. There are options to remove the guarantee without waiting for the loan to be fully repaid.
Why you need to call us
The above explanation is a guide only. There are many options so it’s important to talk to us to about your circumstances.