One of the biggest hurdles to purchasing your next home is to gather enough of a deposit.
To many lenders, 20% is considered a “safe” deposit level for them to offer you the loan. If your next dream home is worth about $1.5M, you would be stumping up $300,000 in deposit and this is a lot of money to have lying around. A smaller deposit such as 5% or 10% may be acceptable, but this often comes with some strings attached.
In this piece, I am going to show you the options available on how to access a higher purchase price than you expected with less deposit.
What lenders require from you if you have less than 20%
Lenders will charge you a one-off fee called Lenders Mortgage Insurance (or “LMI”) in order to lend you money at less than a 20% deposit. This insurance protects the lender if the sale of your property doesn’t cover the outstanding loan funds. However, it does not change your normal repayment obligations.
Secondly, since a loan with less than 20% deposit is deemed a riskier loan, you face higher rates and tougher policy restrictions. These vary depending on the lender, but can include limited lending to certain types of property in high density postcodes and having to prove your deposit is made up of genuine savings.
Genuine savings is simply funds you have accumulated over a minimum 3 month period in your name. But if that’s not the case for you and instead of genuine savings, for example if you received a lump sum, some lenders in conjunction with this, also consider clean rental history through a licensed agent as a way to consider whether you satisfy their genuine savings criteria.
Now, while it sounds like a painful exercise to acquire a loan with a deposit that’s less than 20%, there are three solutions to work around all of the above conditions.
1. Use Equity from Existing Property
The first option is to use equity from your existing property. This is a strategy that a lot of our existing clients who have bought their first home or investment property deploy to buy their next home.
Equity is the difference between your current property value and the existing loan. If you are paying down your loan and/or the property has increased in value, then your equity value grows over time.
You can borrow additional funds against this equity to fund the deposit of your new purchase. When these funds are released, it’s known as a cash out or equity release.
Typically we suggest a separate loan split for these funds on a variable with offset interest only structure, so during the interest only period, there is no interest or repayments incurred until the funds are used.
The maximum amount you can access, before incurring Lenders Mortgage Insurance or LMI, is 80% of the equity value.
If there is enough equity value you may not have to put any cash towards the deposit!
But remember this is borrowed money so you need to get a current bank valuation, demonstrate borrowing capacity and meet the lender’s credit criteria.
Maximising the bank valuation and your borrowing capacity is what this option [using equity from existing property] hinges on.
2. Make Use of Family Guarantees
This is a popular for first home buyers because if you don’t have an existing property, BUT your family does, they can offer it as additional security for your loan.
However it is also possible to use this option for next home buyers, provided there is insufficient equity in your existing home or investment property, otherwise you would revert to the equity release option we previously mentioned.
Your family members would become guarantors, which will allow you to put in as little as 0% deposit!
The caveat with this though, is that while you are still responsible for all of the day to day repayments, in the event of a default where you can’t pay and selling your property still does not recover the loan, then the guarantors are required to pay.
This should be viewed as a temporary solution because once your loan reduces to 80% of your property value then the guarantee can be discharged.
Caveat: there are many legal and financial considerations so you must seek the relevant professional advice first!
3. Industry Professionals Can Have LMI Waived
For Medical, Health, Accounting, Legal and Actuarial professionals, certain lenders will waive the LMI on loans with deposits as low as 5%. You even circumvent the Genuine Savings requirement we mentioned earlier.
This option does come with a suite of requirements though, and different lenders apply them differently or they may not apply at all!
For example, some have a minimum income hurdle, mandatory principal and interest repayments, and you may still face the tougher policy restrictions that standard borrower would face, such as limited lending to certain types of property in high density postcodes.
Regardless of that, you would at least save thousands if not tens of thousands of dollars, on the LMI fee, and if you use a broker who specialises in this area of loans, you often find you’ll fit certain a lender’s criteria and get the most out of this option!
And for those next home buyers you can even combine this LMI waiver with the equity release strategy!
Speak to a Broker
I hope these three deposit solutions may be helpful for you – using equity, a family guarantee or an industry professional LMI waiver to buy your next home sooner.
Because of the complexity of these options, it’s recommended that you speak to an experienced mortgage broker, to navigate the nuances, as they are always changing and vary substantially between lenders.
If you have any questions or comments on this topic, you are more than welcome to get in touch with me () or anyone in our broking team.
For more tips on getting your next home, please stay tuned or head to our Youtube channel – “The Next Home Series“