Lenders Mortgage Insurance or LMI, protects the lender if you default on your home loan.
In this situation the lender may need to sell your property to recover the cost of your home loan and there could be a shortfall.
A shortfall happens when the sale price of your home is not enough to cover the outstanding amount you owe your lender under your home loan. LMI is intended to cover this shortfall and ensure that the lender is not out of pocket. It does not protect you as the borrower.
You should aim to have saved 20% of the purchase price of your property when applying for a home loan and if you have, you shouldn’t need Lenders Mortgage Insurance.
But if you are finding it difficult to save a 20% deposit, you may still be able to borrow from a lender but you might need to take out LMI to reduce the risk to the lender.
Here’s an example of how it works:
Let’s say you default on your home loan and there’s still $600,000 dollars owing. Your lender then sells the property to recover this amount but they only recover $550,000 when the property is sold.
This means there’s a shortfall of at least $50,000 dollars.
In this case, your lender may claim the shortfall from the LMI provider and in turn, the LMI provider may seek to recover the $50,000 dollar shortfall from you.
So, it’s important to remember that Lenders Mortgage Insurance doesn’t protect you, it protects the lender.