Mortgage Deposits: How Much Do You Need?

The amount of money required for a deposit on a mortgage can vary depending on several factors. Generally, a deposit of 20% of the property's value is considered a good amount, but this can be challenging for many people to save. Some lenders may allow you to borrow more than 80% of the property's value, with some offering loans of up to 95%, resulting in a deposit as low as 5%. However, a smaller deposit may require you to pay Lenders Mortgage Insurance (LMI) and can lead to a higher loan-to-value ratio, increasing the overall cost. It's important to consider your financial situation, upfront costs, and potential grants or schemes when determining how much deposit you need for a mortgage.

How much deposit do I need?

The amount of deposit you need for a mortgage depends on a range of factors. Generally, a 20% deposit is considered a good amount for a house valued at the median value. However, this may seem like an absurdly low amount for a deposit on some apartments or units. For example, a $600,000 house would require a deposit of 120,000, which is a significant amount of money, especially when considering other living expenses.

Some lenders may be willing to lend you more than 80% of the property's value, with some lending up to 95%, which would mean a 5% deposit. However, a smaller deposit comes with greater risk and usually requires Lenders Mortgage Insurance (LMI). LMI is a type of insurance that you may need to pay for if your loan-to-value ratio (LVR) is over 80%. It provides protection to your lender in case you default on your loan. You can pay your LMI as an upfront cost or add it to your loan amount.

If saving for a deposit is challenging, you may be able to get help from a family member who can act as a guarantor on the loan. This option typically requires a smaller upfront amount but can be more expensive in the long run due to additional fees. You can also look into government-backed grants and schemes, such as the First Home Buyers Guarantee, which can help you become a homeowner sooner.

To determine how much deposit you need, it is essential to know your price range and the potential upfront costs. You can use affordability and repayment calculators to estimate the range of property purchase prices that fit your financial situation and how different interest rates, repayment types, and loan terms can affect your repayments.

Lenders Mortgage Insurance (LMI)

LMI is a one-off, upfront cost paid when a borrower's deposit is less than 20% of the home's price. The borrower pays the fee to the lender at the time of settlement, who then pays the insurer. The policy is valid for the life of the mortgage, regardless of its length. While LMI provides protection for the lender, it also makes it easier for borrowers to obtain mortgage financing by reducing the risk of loss to the lender if they default on their loan repayments. This increased protection for the lender makes them more likely to lend to borrowers who may not have a substantial deposit.

The annual cost of PMI can vary depending on various factors, including the total loan value, loan term, loan type, proportion of the total home value financed, coverage amount, and frequency of premium payments. The PMI may be paid upfront by the borrower or capitalized onto the loan in the case of a single premium product. In some cases, the lender may pay the LMI premium, which is then passed on to the borrower as a fee added to their loan repayments. It is important to note that LMI is distinct from other types of insurance, such as home and contents insurance, and does not allow the borrower to make any claims.

There are ways to avoid paying LMI. One option is to make a deposit of 20% or more of the property's value. Alternatively, you can use a guarantor home loan, where a parent or family member uses their home equity to help secure your loan. Another option is to obtain a home loan through the Home Guarantee Scheme (HGS) with a participating lender or consider rent-to-own homes, although this may result in additional fees and higher costs in the long run.

How your credit score affects your deposit

The general rule of thumb is to put down a deposit of 20% of the property's value. However, the amount you'll need for a house deposit can vary depending on various factors, including your credit score.

Your credit score is an important factor in determining whether you'll be able to get a mortgage and the interest rate you'll pay. A higher credit score can help you secure a larger loan at a lower interest rate, while a lower score may result in a smaller loan with a higher interest rate. Lenders use your credit score to assess your ability to repay the loan and manage your credit.

If you have a good credit score, you may be able to qualify for a lower interest rate on your mortgage. This is because a higher credit score indicates to lenders that you are a trustworthy borrower with a history of managing your finances responsibly. A good credit score can also give you more negotiating power with lenders, potentially resulting in better terms for your mortgage.

On the other hand, if you have a low credit score, you may face challenges in obtaining a mortgage. Lenders may view you as a higher-risk borrower and may be less likely to offer you a loan. Additionally, a lower credit score may result in a higher interest rate, which can increase the overall cost of your mortgage.

To improve your credit score before applying for a mortgage, consider the following:

• Make on-time payments: Ensure that you make all your payments on time, including credit card payments and loan repayments. Late payments can negatively affect your credit score.
• Reduce credit card balances: Lower your credit utilisation ratio by paying down credit card balances. Aim to keep your utilisation ratio below 30% to show lenders that you can manage your credit effectively.
• Avoid opening new credit accounts: Refrain from opening multiple new credit accounts or taking out additional loans before and during the mortgage application process. This can temporarily lower your credit score and make you appear higher-risk to lenders.

How to save for a deposit

Saving for a deposit on a mortgage can be a daunting task. The first step is to research the housing market and decide on the type of property and location that meets your needs and budget. This will give you a clear idea of the price range you should be looking at and help you set a savings goal.

Next, assess your financial situation, including your credit score, income, expenses, and any existing savings or investments. This will help you determine how much you can realistically save each month and create a timeline for achieving your goal. Consider using a budget calculator to identify areas where you can cut back on spending and increase your savings.

To boost your savings, you could also explore options such as downsizing your current living situation, getting a housemate, or selling any items you no longer need. Additionally, look into government-backed grants, schemes, and first-time homebuyer programs that can provide assistance.

Another option is to open a dedicated savings account with a competitive interest rate. Some accounts may require you to commit your funds for a fixed term, but they often offer higher interest rates. You could also consider a certificate of deposit (CD) or a taxable brokerage account, keeping in mind the associated risks and taxes.

Finally, remember that saving for a deposit takes time and discipline. Write down your plan, set clear targets, and make regular deposits towards your goal. By combining these strategies, you'll be well on your way to saving for the deposit on your dream home.

Other upfront costs

When it comes to upfront costs for a mortgage, there are several other expenses to consider aside from the deposit itself. Here are some of the key additional upfront costs to keep in mind:

Lenders Mortgage Insurance (LMI): If your deposit is less than 20% of the property's value, you may need to pay LMI. This insurance protects the lender in case you default on your loan. You can avoid LMI by using a guarantor or through the Home Guarantee Scheme (HGS) with a participating lender. Alternatively, rent-to-own homes typically require a smaller upfront amount, but they can be more expensive in the long run due to additional fees.

Stamp Duty: Stamp duty is a tax that may be incurred when purchasing a property. In some cases, this cost can be waived or reduced, such as through the First Home Buyers Guarantee for properties under a certain value.

Legal Fees: There may be legal costs associated with the property purchase, such as conveyancing fees and legal advice.

Moving Expenses: Costs related to physically moving your belongings from one place to another can add up quickly, so it's important to factor these into your budget.

Building and Pest Reports: Before finalising a property purchase, it's essential to obtain building and pest reports to ensure you are aware of any potential issues. These reports can be costly but are worth the investment.

It's important to note that upfront costs for a mortgage can vary depending on your location and specific circumstances. It's always a good idea to consult with a financial advisor or mortgage broker to get a comprehensive understanding of the costs involved.

Frequently asked questions