Saturday, April 21, 2012

Is Lenders Mortgage Insurance required when Home Refinancing?

Questions frequently asked, are "Do I need Mortgage Insurance when Refinancing a Home?" and "What is Mortgage Insurance?"

In this article I will make clear Lenders Mortgage Insurance, when it is required and the benefits when Home Refinancing.

The function of Lenders Mortgage Insurance (LMI) is to protect the mortgage lender from incurring a loss of funds in the event of a borrower defaulting on their loan , ending in foreclosure and a ensuing mortgagee sale. If the proceeds from the mortgagee sale are not enough to pay back the mortgage in full, LMI will meet the loss for the home loan lender.

LMI shouldn't be confused with Mortgage Protection Insurance (MPI), which protects a borrower against their incapacity to repay their loan in the event of an unforeseen circumstance like unemployment, illness or death. MPI covers payment of your loan instalments and/or your loan balance. CPI insurance is not mandatory and is solely the decision of the borrower. The premium for CPI is paid annually and usually varies based on the size of the mortgage.

Why is Lenders Mortgage Insurance required?

Lenders including Banks, Building Societies, Credit Unions and non-bank lenders, either use money from deposits held in savings accounts and term deposits, or borrow cash to provide home loans to borrowers for home refinancing, purchasing, construction or equity purposes. By using other peoples' money to fund home loans, the lenders initiate an obligation to repay that cash to the suppliers of the money while at the same time taking on the risk that they may not get all or some of the funds back that they loan.

Even though they hold real estate property as security for the mortgage, the value of the property may decline due to market forces, contagion or damage to the improvements, concluding in the security not having adequate value to cover the amount of the home loan. To cover their obligations to the suppliers of the home loan funds, the lending institutions take out LMI to cover any possible shortfall.

Do I benefit from Lenders Mortgage Insurance?

Before LMI was available, lenders required borrowers to have a deposit of no less than 20% when buying a home or equity of 20% when refinancing a home to minimise the risk of lending and protect them against possible loss in the event of foreclosure. Nowadays with the ability to pass on the risk of loss to an insurance company through LMI, lending institutions are prepared to agree to a lower deposit for purchases and less equity for home refinancing.

Also, if lenders did not use LMI to relieve lending losses, then those losses would need to be recouped from the profits of other mortgages, in effect increasing home loan interest rates. To stay away from this, lenders opt to effect LMI and have the insurance company take on the risk and bear any loss. By lending institutions using LMI, the advantage to borrowers is that they are able to buy a home using a lesser deposit or refinance a property with a reduced amount of equity and/or receive lower interest rates than they would otherwise be able to do with no LMI.

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