17 Jan EXPLAINED: 5 essential property finance terms to succeed in buying your dream home
Lenders Mortgage Insurance. Pre-approval. Off-set Account. Property finance is filled with essential words and terms that can confuse even experienced buyers and sellers, let alone first-time buyers.
Making sure that you understand as much as you can before making a move will increase your chances of success of buying your dream home.
The cash rate serves as a benchmark to base interest rates of home loans and savings accounts on. In other words, it’s the interest rate at which banks borrow or lend money to each other.
The Reserve Bank of Australia board meets every month and sets a cash rate target. Lowering the cash rate makes home loans cheaper, which encourages borrowing and economic activity. Raising the cash rate increases the cost of borrowing and helps moderate economic growth, and is usually done to control inflation.
Usually, when the cash rate goes up or down, the repayment rates on variable loans also changes, but not always by the equivalent amount.
HOME LOAN PRE-APPROVAL
Home loan pre-approval, or conditional approval, is a non-binding amount of money that a specific lender may lend to a borrower. The amount is subject to several conditions, including a valuation of the property, and further verification of the borrower’s financial information.
Pre-approval gives buyers the confidence to submit offers for properties within a set price bracket and is usually valid for 90 days.
Buyers should organise a pre-approval as soon as they become serious about buying a property, and definitely before bidding at auction. Auction sales are absolute and cannot be subject to additional finance approval.
The loan-to-value ratio (LVR) shows the size of the loan in proportion to the value of the property. It’s expressed as a percentage and calculated by dividing the amount borrowed by the value of the property.
A lower LVR, such as 60 or 70 per cent, will usually make a mortgage less risky for a bank. If the owner defaults and the bank forces a sale, there is a lower chance that the property’s value will be less than the loan.
When a property is purchased with a higher LVR, buyers are usually required to buy lenders mortgage insurance.
LENDERS MORTGAGE INSURANCE
Lenders Mortgage Insurance (often shortened to LMI) protects the lender from a financial loss if the borrower defaults (fails to pay) on a home loan and there is a shortfall in value after the sale of the property.
LMI is usually a one-off payment made by the borrower at settlement, and is required when buying with a LVR above 80 per cent.
For example, for a $750,000 property, the LMI cost would be approximately $8000 for an LVR of 85 per cent. If the LVR is 95 per cent, the cost could be about $30,000.
Some borrowers with smaller deposits may choose to pay LMI to get into the property market sooner. Other buyers with smaller deposits may have a parent act as guarantor to avoid paying LMI, and it could be waived for borrowers in certain high-income professions.
An offset account is a bank account linked to a home loan that can reduce the interest payable on the loan.
When determining the interest to be charged on the loan, any money in the offset account is deducted from the loan balance.
For example, someone with a $500,000 loan and $50,000 in their offset account will only pay interest on $450,000. However, no interest is earned on money in an offset account.
Offset accounts run like standard transaction accounts. Keeping money in an offset account has the same effect of making extra repayments, but with added flexibility and no redraw limits or fees. This can increase household cash flow and help grow your savings in the offset account.
We at Forward Legal are dedicated to doing the utmost for your success, including helping you move into your dream home. Contact us to speak to our team of experienced solicitors today!