The Dangers of Low and No Deposit Home Loans
The Global Financial Crisis (GFC) resulted in the end of lenders granting you a deposit for 100% of the property value. However, there are still some low deposit or even no deposit home loans on the market today.
With the high cost of living, particularly in our capital cities, saving for a deposit can be extremely difficult. Many buyers, particularly first home buyers, argue that they have no choice but to get a low or no deposit loan.
How do I get a home loan with no deposit?
Find a Guarantor
Unless you have a guarantor, getting approval for a no-deposit home loan is unlikely. Most people who apply for a low or no deposit loan are fist home buyers who will live in the homes they purchase.
A guarantor is usually a parent, or someone with an existing property and is legally responsible for paying back the entire loan if the borrower cannot make the loan repayments. The guarantor is also responsible for paying any fees, charges and interest if the borrower can’t. The guarantor can use their property as security so long as the value of the security is great enough that the loan to value ratio (LVR) is 80% or lower. In other words, the guarantor must have a certain amount of equity in their property, which acts as a security against the loan in case you can’t meet or make your payment obligations under the loan contract.
Equity from another property
If you already own another property, another option could be to borrow against the equity in that home. To work out how much equity you have in your property, you’ll need to subtract any debt remaining on your mortgage from the property’s overall value. So, if your property’s worth $500,000, and you have $300,000 left on your mortgage, then your equity is $200,000.
Your property’s equity will increase both as you pay off your mortgage and as the property’s value increases. So, if your $500,000 property increases in value by 10% over 12 months that’s an extra $50,000 in equity. Add to this any deduction to the mortgage gained through repayments, and your equity has significantly increased over the year.
The best place to start is to talk to your existing lender, or a financial adviser to find out how much you can draw from it.
Save up for a very small deposit
Some lenders will let you borrow 95% of the property’s value, or even 97% (if you include the Lenders Mortgage Insurance), which means in some cases you will only have to come up with a 3% deposit. These types of loans are harder to come by and most will have a higher interest rate, so weigh up your options by comparing interest rates.
Will I need Lenders Mortgage Insurance?
If you apply for a low deposit home loan, you will most likely have to pay LMI. Lenders mortgage insurance (LMI) often comes as an unexpected surprise when you finalise your home loan, but only if your deposit is less than 20 per cent of the purchase price. Anyone with a loan to value ratio (LVR) of under 80 per cent, gets out of paying this expensive extra.
LMI is generally about 2 – 3 per cent of the purchase price of your property but it also depends on how large your deposit is, so if you are scraping through on the bare minimum, expect to pay over $10,000 in insurance, even for a reasonably priced property. Before you have a small heart attack though, you can capitalise (or add) this to the total loan amount.
This insurance helps lenders broaden the net of who they are able to lend to by taking some of the risk out of lending, which means more people are likely to get a loan and the home they want sooner. However, be aware that while having that insurance sounds like a sensible thing to have, LMI is actually there to cover the lender, not you.
What are the dangers of a low or no deposit loan?
Although this type of loan can help you buy your home sooner, having little to no money saved for a deposit can classify you as a high-risk borrower and therefore lenders may implement certain provisions in order to protect themselves in case you default. These special conditions are not always clear from the advertising point of view.
They are:
· higher interest rates
· additional fees, including a ‘risk fee’
· additional security required for the loan, for example, your car
· requirement for mortgage insurance
· use of deposit bonds
· in some cases, more stringent credit assessment
· short term loans only
According to the Australian Securities and Investments Commission (ASIC), one of their biggest concerns is that these loans are being aggressively marketed in some cases, to consumers with a troubled credit history, casual workers or self-employed people who may be in a weaker position when it comes to dealing with the financial risks involved.
Executive Director of Consumer Protection, Mr Peter Kell said, “ASIC recently took enforcement action against a finance broker offering ‘100 per cent’ loans for misleading and deceptive advertising and business practices.”
Also, an important thing to remember, and as mentioned earlier, is that the mortgage insurance typically required with such loans protects the lender, not the consumer. If forced to sell, you may lose everything you invested in the property and still owe money if the sale does not cover what you borrowed.
