15 Aug 2024 Podcast: Deep Dive – “LMI is Bad”, How Mortgage Brokers Get Paid & other Mortgage Myths
In this episode, Evelyn breaks down common mortgage myths that often mislead potential homeowners. With interest rates in flux and the RBA recently pausing the cash rate, it’s crucial to understand these misconceptions.
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Evelyn debunks myths such as needing a 20% deposit, the idea that mortgage brokers select lenders based on commission, and the belief that you must be in your job for a specific period before applying for a home loan.
She also discusses why Lenders Mortgage Insurance (LMI) isn’t always a negative and sheds light on how banks actually assess your spending habits and credit score.
Tune in to gain a clearer understanding of the mortgage landscape and make informed decisions on your journey to home ownership!
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You Have My Interest is brought to you by Everlend, a mortgage and finance broking firm built for the purpose of educating and empowering you to make informed financial decisions tailored to your wealth goals. Find out more and book in your free initial consultation at https://www.everlend.com.au/
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Podcast Audio Transcript
(00:01.928) Hi everyone, I hope you’ve had a fantastic week. We are back for another episode of You Have My Interest. Today is a solo episode with myself and we’re actually gonna be breaking down a few mortgage myths. This is one that I’ve been wanting to do for a while because we keep getting similar questions or people coming in on our discovery calls with a preconceived idea of how mortgages work that’s actually not 100 % correct.
And I’m very, very aware of the power of social media and how that can definitely educate people, but it can also educate people in the wrong way as well when people don’t take that understanding and convert it into their personal circumstances. You’ve got to remember that everything that goes out online is often just a snippet of the full picture and you can’t always take every piece of information as gospel. And that’s actually very true for our content as well.
As much as we love to educate and empower people, until you actually have a one -on -one conversation with someone, sometimes it’s a little bit hard to actually translate does this piece of information that I’m picking up on from social media actually translate into my personal circumstances. So I want to break down some of the things that I hear time and time again that aren’t 100 % correct for everyone and can actually potentially prevent you from getting into a home loan sooner.
So we are going to jump into that. A little bit of an update. We had the RBA met this month earlier this month and decided to leave the cash rate on pause, which was fantastic news for everyone. Actually one of the first times that we’ve heard the RBA sort of make reference to the economy and politics in a sense of inflation. So that was quite interesting.
What’s going to happen next? No one knows, of course, in regards to the actual cash rate. But this is good news for the time being, which is fantastic. A little bit more of an interest rate update is we’ve actually seen some fixed rates come down significantly in the last week. So just for reference, when you are listening to this, is I’m actually recording on the 13th of August.
When this episode comes out, it’ll be the 15th of August. Just this week, we have had two lenders yesterday announce pretty significant reductions to their fixed rates. So we’re looking at some owner-occupied two and three year fixed rates in the high 5 % around the 5 .79 mark up to sort of 6%, which is definitely lower than where we’re seeing the variable rates. So that’s great. Now, one of the questions that I am receiving off the back of that is
(02:25.766) does that mean that banks think that rates are going to be going down? Now, there’s a few ways to look at this. Yes, that could allude to the fact that the banks are sort of pricing their two year fixed rate at roughly where they think the ongoing rate is going to sit for that period of time. That is one way to look at it. But there are other factors that come into play when banks are actually promoting fixed rates.
One of those is sometimes banks will try and even out their split between a fixed and a variable portion in their books. So if they’re too heavily weighted in variable rate loans, they may try and bring in more fixed rate loans, for example. Another part of that is they might actually be trying to drum up business. So there’s that side of the equation as well. And then the other thing to consider too is it could also mean that the bank has acquired funds at a particular interest rate and they know that they can offer a fixed return for the next two years on those funds.
So it may not necessarily be indicative of the future two years, but it could also be reflective of how much it has cost them to acquire the funds that they’re going to then lend out to borrowers. So there are a few factors that come into play. They’re sort of the top three that I would consider that I see most commonly with one of those being, it could allude to where rates are going in the future. So let’s jump into some of these mortgage-breaking myths.
The first one, just, can we just cut that a little bit? I’m actually gonna summarise them and then we’ll go through them. What I’m gonna do is I’m actually gonna read through the myths that I’m gonna go through so that you can get an overview of what this episode has to cover. Then we’re gonna break them down one by one. So here they are.
Number one. I need to be in my job for a minimum of three to six months before applying for a home loan. Number two, I need to sharpen up my spending and cut back for three months before applying for a home loan. Number three, getting a credit card will improve my credit score before getting my first home. Number four, I need a 20 % deposit to buy a home. And off the back of that, number five, lender’s mortgage insurance is bad. Number six, interest-only rates give you a higher borrowing capacity.
(04:41.264) And number seven, mortgage brokers choose lenders based on how they get paid. I threw that one in at the end because it’s not super common, but it is one that I really want to unpack because it is definitely not true. And I thought also what we would then do at the very end is just run through a standard list of documents that you actually are required to have ready to go when you’re applying for a home loan. So now you know what today’s episode has to cover.
Let’s get into the first myth which is I need to be in my job for three to six months before applying for a home loan. Now, why this is somewhat true and somewhat untrue is because it really depends on the actual lender and what type of role you’re in. Where I’m going to unpack this as a myth is if you are in a full-time or part-time, so a permanent position, PAYG, and you have been in, let’s say you’ve been working in your field for at least 12 months and you decide to go and get a new job.
You do not need to be in that role for an additional three months, that new role, an additional three to six months before a lender can consider you. You can still be on probation. Generally, you only need to have received your first pay slip or be working in the role from day one for a lender to consider you, providing that, and this is the key component, providing that you are in a similar field to what you were doing prior to or we can show some sort of role transition. maybe you’re working in, doesn’t have to be the same role necessarily.
It can either be the same role or the same industry. So I could have been a finance broker working in a finance broking firm. And then I go and work and I’ve been there for 12 months. And now I’m gonna go and be a finance broker in a totally unrelated field, but they have a finance position available. As long as I can show that role continuation.
I could be approved as of only working day one, even though I might still be on probation. Another example, this is actually one that we see quite commonly. We have had people that work in the medical field. And I’ll give you an exact example. We have had a chiropractor in the past who’s been working in a role for two or three years in a chiropractic clinic. And she’s actually gone and started working for an insurance agency because she is assessing claims
(07:08.764) and the medical knowledge translates into the new role. And therefore we were able to get her approved off day one of income. So that’s where it is a myth. Where it is actually true is if this is basically the first role that you’ve ever had in a completely new industry and completely new role, or you’ve had a really big gap in your previous employment that can sometimes make an impact, or you’re not working in a permanent position, AKA you’re on a contract, you are casual.
Or if we need to be able to use overtime or allowances or any sort of variable income from your new role, commission income even, then we may need to see more time in the new role before we can actually use that income. It doesn’t mean you won’t be approved for the home loan. We just can’t use the variable component of the income until you’ve been there for three months as a minimum. So that is myth number one.
I was going to say that’s myth number one busted and I thought that’s going to be really corny. Let’s not do that. Let’s go on to myth number two. I need to sharpen up my spending and cut back for three months before applying for a home loan. So where I’m going to go with this one is what are banks actually looking for in your bank statements? So we all have this idea that banks are going to look into your bank statements and really analyse your spending when you’re applying for a home loan.
There are a number of things that banks are actually looking for when they request bank statements other than reviewing your spending. Now, pre -royal commission reviewing spending was actually something that they were really, really quite anal about. And they did go through with a fine tooth comb and they actually itemised all your expenses. And they said, no, you’re spending an extra $200 a week on Uber Eats.
Therefore, we don’t believe that you spend what you say you do. And they were doing a little bit of that. There was a lot of scrutiny on banks for a short period of time. That’s not so much the case anymore. When banks are asking for your bank statements, what they’re typically looking for is things like, does your pay slip align with a salary credit?
So can we marry up those two items? And is it the same net income that’s showing on your pay slip that is showing on the actual salary statement? They’re looking for, do you have any overdrawn accounts? So are you either missing repayments or are you not managing your cashflow in your banking?
(09:31.384) And are you basically spending above your means and letting your accounts go into negative? That’s a big one. They’re also looking for are there any undisclosed liabilities? So is there buy now pay later transactions that maybe aren’t showing on your credit report or you haven’t declared in your application? They’re also looking for things like, do you have potentially, they’re also looking for things like is your rent?
The same as what you said it would be if you’re buying an investment property, for example, or are you do you have regular transfers to a partner that hasn’t been declared? So they’re the types of things that they’re looking for outside of how much are you actually spending on? And I’m just going to use the Uber Eats example because it’s an easy one, but they’re not really analysing to the nth degree how much you’re spending on Uber Eats.
We also get so commonly clients have just come off a holiday and they’re like, now we’ve had a holiday, we’re ready to buy our first home. The banks are not going to look at what you just spent one month over in Europe and say, well, that must be your regular expenditure on a 12 month basis. Therefore, we’re going to assess you off that.
No, that’s all very self-explanatory and can be mitigated with the bank. And if you’ve got a savings history prior to that one month of you going and enjoying yourself in Europe, that’s absolutely fine. yeah, it is. Look, I would say for your own personal sanity, if you haven’t been able to save anything up until the point that you wanna buy your first home and you have hardly even a deposit and you’re using a guarantor, therefore you don’t need a deposit, you haven’t been paying rent, you’ve been living at home with mom and dad and you’ve been spending berserk amounts of money, then yeah, I would say maybe give yourself three months to actually commit to the minimum, at a very, minimum, save the amount that you would pay on a home loan repayment. That I would say just for your own personal benefit you should be doing.
But it’s not that the bank is actually going to necessarily look at you that way. And in some cases, the banks aren’t necessarily requesting bank statements. We do need to request them as mortgage brokers, definitely. But not all banks will actually request them as well. So that’s myth number two. On to number three, getting a credit card will improve my credit score before getting a home loan. And this is more specifically tailored to first-time buyers.
(11:47.142) I actually asked someone who works in credit repair this question because we get it all the time and it’s definitely one that I think a lot of first-time buyers ask their parents about and their parents recommend that they should do it. And he said it is completely false. And part of the reason to that is so our credit reporting system does not work the same way that American reporting system works in America. The higher your credit card limits, generally the better credit you have in terms of the more you can be approved for credit, therefore the better credit score you must have.
That’s kind of the way that the American system works. Australia is very different. We report on a lot of negative data, meaning the higher credit limits, particularly if you’re using those credit limits, can actually worsen your credit score. If you have a mobile phone plan or a utility bill in your name, so if you’ve been renting and you’ve got an electricity bill in your name, you will have a credit score. So don’t bother going out and getting a credit card to improve that because it won’t actually do any better for you.
Myth number four, I need a 20 % deposit to buy a home. There are so many ways to get into the property market now without a 20 % deposit. And there’s probably five or six that you could just list off immediately. But what that really means is, don’t wait until you’ve got a 20 % deposit to buy a property.
Buy a property when you are ready and when you have saved enough and you’re comfortable with your financial position enough to actually buy a property. I’m just gonna list off a couple of ways that you can get into the market without borrowing 80%, as in borrowing more than that and therefore taking out and using less than a 20 % deposit. So number one is you can pay lenders mortgage insurance, which is generally a premium that is added to the loan.
If you are borrowing over 80 % of the purchase price. Number two is depending on some industries, you may actually be eligible to have Lenders Mortgage Insurance waived. And typically those industries, and we have done a whole episode on this, so you can go back and look at that up. But typically those industries are things like medical, accounting, legal, are sort of the top three. So you’ve got pay,
(14:02.248) have your 20 % deposit or pay lenders mortgage insurance or potentially have a lenders mortgage insurance waiver. You’ve also got the government guarantee scheme that allows you to borrow up to 95 % of the purchase price without paying lenders mortgage insurance. And the reason that that works is because the government is guaranteeing your mortgage very, very similar to the way that a parental guarantee or a they’re not so much called parental guarantees anymore because they’re can be extended to people beyond just your your actual blood parents, but a guarantor loan can also be a way to do that.
And it’s very similar to the government guarantee. The government guarantee has a lot of parameters that you need to meet in terms of eligibility criteria, such as income caps, property caps, such as location, such as you kind of obviously bought a property before, it must be owner occupied, all of those sorts of things. Whereas the standard guarantor loan can be used for a variety of reasons, owner-occupied or investment.
You’re not restricted on the actual purchase price and location, and you can be earning whatever you want to earn so long as you can service the debt. You can also borrow a little bit more with a standard guarantor than you can through the government guarantee scheme. So the government guarantee scheme is capped at 95 % of the purchase price in terms of your maximum loan amount.
With a guarantor loan, you can actually borrow over 100 % of the purchase price, which is crazy. So you can borrow the purchase price plus the stamp duty. Again, we have a whole episode on guarantor loans. So I encourage you if you really want to dig into that to go and have a look at that one. So there are just four or five ways that you can get into the market without a 20 % deposit.
If you’re buying your next property, that’s where you can also leverage equity to get into your next property. So once you’ve bought the first one, you can actually start to use the wealth in your existing property and borrow against that to help with your deposit on your next. So there’s definitely ways to do it before you hit that 20 % mark.
So on to number five, Lenders Mortgage Insurance is bad. Lenders Mortgage Insurance does get a bad name and it’s because it is a cost. It’s going to be a premium that’s added to the loan.
(16:20.424) It protects the bank in the event that you default, not yourself. It is not insurance that you’re taking out to protect your mortgage. It’s insurance that the bank is capitalising onto your home loan or adding onto your home loan to protect them because they deem people who are borrowing more than 80 % to be a more risky borrower.
Now I can tell you the percentage of first home buyers that we assist, 90 % of them do not have a 20 % deposit. So if you’re in that territory where you’re either using one of those schemes that we mentioned earlier, or maybe mum and dad are giving you a gift, that’s another way to avoid, that’s another way to get yourself to the 20 % deposit.
But if you’re getting some sort of parental assistance or government assistance to buy your first home, you are in the 90 % of first home buyers. So Lenders Mortgage Insurance does have a bad name, but when you look at the difference sometimes between saving that extra 10 % deposit, versus paying a mortgage insurance premium. That could be the difference of you waiting another two or three years versus getting into the market now and maybe only having a mortgage insurance premium of five to $10,000.
So I wouldn’t necessarily say it’s bad. I think it’s really poorly misconstrued and you need to look at every circumstance individually with its own merits and look at, okay, if I were to go ahead now, number one, are there ways I could avoid lenders mortgage insurance without compromising on what I want to buy and my purchase price?
If that’s not the answer, how much is the mortgage insurance premium? is it something that number one, I can afford on top of my loan. And number two, is my or are my home loan repayments as a result of borrowing that bit more going to put me in a position where now I’m over my budget, for example, on a monthly basis? And also then looking at am I buying a property that I’m not going to be overly geared on and it’s going to come back in benefits down the track?
Like if I buy now versus waiting another two years, am I going to achieve X amount of dollars in capital growth and therefore I should use the mortgage insurance to help me get into the market sooner? They’re the types of questions that I would be asking and just reframing how you feel and think about lenders mortgage insurance because it’s not inherently bad. It’s actually a way to help you get into the market sooner without having that full 20 % deposit.
(18:44.996) On to myth number six, interest-only rates give you a higher borrowing capacity. Where this myth comes from is when you look at the difference between the repayment on an interest-only home loan versus a principal and interest home loan, you will pay less on a monthly basis on an interest-only loan because you’re only paying the interest. Whereas on P &I, you’re paying the interest plus a portion of the principal back.
So your cash flow in terms of how much you actually repay back to the bank on a monthly basis is going to be more on a principal and interest loan. As a result, a lot of people have this idea that, well, if I only pay interest, then I can borrow more because I’ve got to pay less on a monthly basis. Therefore, I could get approved for a higher loan amount, right? Incorrect.
The reason why this is a myth is because when you pay principal and interest, let’s look at a 30 year loan term. I apply for a 30 year home loan. And I pay that off in principal and interest repayments over 30 years. I’m gonna have probably the minimum amount that I can, that’s gonna lower my initial loan repayments, right?
Because I’m paying P &I over the longest period of time possible. So it’s stretching out the principal over 30 years. If I pay interest only for the first five years out of a 30 year loan term, that means at the end of five years, I haven’t reduced my debt by $1.
And now I have 25 years left to pay the principal and interest that I would have previously paid off over 30 years. So if I squish, and this is a visual, if I squish that timeline down from 30 years to 25, I’m gonna have more that I need to pay off from year one to 25 in that first month because I’m gonna have more principal to pay back in a shorter period of time.
So the bank’s actually not assessing you on the first five years, they’re assessing you on the 30 year loan term, meaning they’re gonna go, okay, come year, well, five years and one month, what are you then repaying and can you afford that loan? And they compare that to day one, month one of your 30 year P &I loan. Hopefully that makes sense, but basically what that’s saying is, yes, initially your cashflow will be more favorable for you, but in year six, when you switch to P &I,
(21:05.65) you’re going to have a spike in your repayments compared to if you did P &I from day one. So it doesn’t actually give you a higher borrowing capacity. It actually lowers your borrowing capacity. Myth number seven, mortgage brokers choose lenders based on how they get paid. This unfortunately came out of the Royal Commission and for whatever reason it did. Where this comes from is mortgage brokers get paid a commission from the bank.
Now, that commission doesn’t add to the cost of the loan. So let’s just break down how mortgage breakers get paid. That commission does not break. That commission does not actually add to the amount that you need to pay or add to the interest rate or the cost of the loan in any way.
That commission is taken out of the bank’s profits. It’s like a referral commission that they basically give us for bringing them a customer that is, you know, basically on a silver platter ready to go that we’ve sort of pre-screened. So where there started to be some queries around this is there are some lenders that do pay mortgage brokers different premiums or different percentages. Now in saying that, they’re usually within 0 .005 or 0 .05 of a percent. So very, very minimal.
And I couldn’t actually tell you, you’d probably ask a lot of mortgage brokers this, probably couldn’t tell you which bank actually pays them the highest amount of commission. Now, the second part to this is off the back of the Royal Commission, something came out called best interest duty. We are legally obligated to abide by best interest duty, which means when we present you with a short list of loan options, we must recommend the one that is in your best interest.
So we must show how that one is benefiting you over every other lender that we’ve considered. And especially if it is not the lowest cost option to you why that loan was recommended. And we get audited on that. And it is actually a legal obligation now as well. So if a mortgage broker was recommending something that was not the cheapest or the lowest cost product to you, and they could not explain why that product was actually the most suitable and in your best interest, then there would start to be some questions. So we can’t actually pick products based on how we get paid anyway. Not that I think any mortgage broker
(23:29.83) would because the primary goal is to actually educate you and empower you to find the best product and the most suitable product. And I think very quickly any mortgage broker that was doing that would get weeded out because it would be obvious. And finally, we’re going to run through the standard documents that you would be required to get ready for a home loan application.
I just thought this one might be beneficial when we were talking about bank statements. So a few key categories to consider. Number one, ID documents, you’re generally going to need to have 100 points of ID. So generally passport and driver’s license is going to be your primary documents. And these are going to be standard documents.
There’s always going to be exceptions to this and additions to this. But I just want to go through baseline things to have prepared. So ID, driver’s license and passport. If you don’t have a passport, a birth certificate is probably the next best option. Next, let’s talk about income. So if you are PAYG, you will generally need your two most recent pay slips consecutive where you can and generally your PAYG summary from the previous financial year, which you can download from myGov and you’ll generally need three months worth of bank statements that show the salary credits aligned to your pay as well.
So you’re going to need a few items there to get ready from a PAYG income perspective. If you are newly employed in a role or you’ve been, you know, if you’ve like let’s say you’ve been employed within the last financial year or within the last three months, you would probably want to prepare your employment contract as well. They’re the most minimum sort of standard documents required for PAYG.
For self -employed income, you’re generally going to need to prepare your two most recent financial years income tax returns. So that’s your personal tax returns. And if you run a company, company tax returns or trust tax returns. On top of that, you will also need the two most recent year financial statements for your business and your notice of assessments.
Now that’s a fair bit of info for self -employed clients, but 99 % of the time, if you ask your accountant, they will have all of that packaged up beautifully and can just forward it straight to you. But it’s generally two full years worth of financial documents, income tax returns, company tax returns, company financial statements, notice of assessments. There’s four items there.
(25:51.516) The next thing to look at would be your bank statements. And there’s a couple of things that you need to look at here. Number one is you generally always need to provide a mortgage broker three months worth of bank statements from where your primary expenditure is coming out of. So we talked about where your salary is going into. That’s one. You’ll also need to prepare three months worth of bank statements for your primary expenditure account. If that’s the same, easy. If it’s different accounts, just have them all ready to go.
If you are buying a property, you will generally need to also prepare three months worth of bank statements showing your savings that is going towards that purchase or shares like evidence of the value of your shares or whatever other means you are using to could be term deposit information, whatever other means you are using as a deposit on your purchase.
If you have an existing property and you’re looking to refinance or you have existing debts that you’re looking to refinance like a car loan or something to that effect. You would generally need to get the last six months worth of statements for that debt. So that would be, as I said, a car loan or a home loan. Generally, you need six months worth of that.
Any other debts, depending on the mortgage broker that you use. So we run credit reports on all of our clients. So we don’t need to get evidence of every single credit card that you have or every single debt that you have if we’re not refinancing it. Generally, all of that will show up in your credit report and it’ll show the account conduct on the credit report as well.
So if we were concerned about the account conduct in some degree, then we may ask for statements to make sure that it’s not over the limit or there’s been a missed payment or something like that. But generally, most of the time now, we don’t need to get every single bank statement that you have on every single debt. Rental income, generally for a standard long term property, rental property, it’ll just be your most recent, just one month most recent rental income statement.
The reason that we get one month is because that should show you the current amount that it’s being leased out at. If it is, and why I prefer that over 12 months is because if you’ve had a gap in the tenancy agreement where you’ve one tenant’s vacated and another one’s come in, that 12 month could actually be less than what you would typically receive on a monthly basis. And the bank won’t use, the bank will only use the full amount that we show them.
(28:17.128) So we want to be able to show them what it’s currently being leased at on a 12 month basis by the most recent one month statement. If you don’t have it that rented out on a standard like through a property manager, then either a tenancy agreement or bank statement showing the rental income coming in consistently or in some cases an income tax return would suffice to confirm that rental income.
So they are the most common standard documents that I would say. The other one I would add to that would be your most recent superannuation statement, which demonstrates to us the asset position of your super. But sometimes brokers will also ask for that so that they can have a conversation with you in regards to your personal insurances as well, such as your life insurance, your trauma, your total and permanent disability, et cetera.
I hope this episode today has been helpful and allowed you to really break down some of those mortgage myths and why they can sometimes be worded that way or led to, guess, make you believe that that is the case for you, but also allowed you to see the other side as to why that’s not going to be gospel for every single person in every single circumstance.
If you have any other myths that you would like me to break down or any other questions that you’d like me to go through on the podcast, I’m most happy to you can reach out to me via Instagram, via email, via phone, whatever is the most easy for you. And I look forward to speaking to you all next week. Have a great week, everybody.
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