December 19, 2013
If you are saving for a deposit with the aim of avoiding lenders mortgage insurance, you might be surprised to learn that 20% of the purchase price might just not be enough.
Saving up for a deposit on your dream home can be a long and drawn out process, while you strive to save every cent possible to allow you to finally reach the goal of owning your own property and the freedom that comes with it.
What are your goals
The goal of most people is to save the 20% deposit required to avoid the extra expense of lenders mortgage insurance (LMI), resulting in a lower overall loan amount and lower monthly repayments.
Most people are under the impression that if they have saved up 20% of the value of the property, they will have enough cash to avoid having to pay LMI.
Generally speaking though, this is not the case.
Loan To Value Ratio (LVR)
To understand why your hard earned 20% deposit isn’t actually 20% it is better to first understand how the lender calculates your loan as a percentage of the purchase price of the property and what this means to you.
The lender uses a ratio called the Loan To Value Ratio, or LVR,
This is used when determining whether LMI is payable and as one of the tools to measure the strength of your application.
For this example let’s assume that you are looking to purchase a property for $500,000 and you have saved $100,000 (20% of the purchase price) in the hope of avoiding LMI.
The LVR would be calculated as;
- The Purchase Price $500,000
- Stamp Duty $17,765
- Mortgage Registration $135
- Transfer Registration $250
- Application Fee $600
- Total - $518,750
- Minus Your Deposit $100,000
- The total loan amount required $418,750
- The Purchase price $418,750 / $500,000
- The Loan To Value Ratio 83.75%
You can see that with the extra fees and stamp duty added on top, the loan is 83.75% of the value of the property, meaning the original deposit only comes to 16.25% of the purchase price.
In general whenever the loan is more than 80% of the purchase price LMI would be payable. In this case the LVR is over 80% so LMI would be payable and therefore increase the overall loan amount you will require from the lender.
Of course if you are a first home buyer in Western Australia you are eligible to apply for an exemption from paying the stamp duty allowing your deposit to go further.
In addition to avoiding LMI by making sure your Loan to Value Ratio is below 80% this also gives your application to the lender more strength.
A larger deposit shows that you have good saving habits and are more likely to be able to repay the loan over time.
Also, generally speaking most lenders will offer greater discounts on things like the interest rate or application fee for those applications where the LVR is 80% or below.
So when looking at your options and deciding on a savings plan to reach your goal of a 20% deposit, remember to factor in the relevant fees and charges that will apply to the loan.
If you’re not sure what these are, feel free to give Peter Hale a call at Mortgage Choice North Perth on 0402 252 150 or email at email@example.com to discuss your options.
*All fees and charges quoted were correct at the time of publishing and are for illustration purposes only and not to be relied upon for mortgage purposes.