On that deposit, how much do you really need?

It’s the question hanging over the heads of most first home buyers. And the answer can vary significantly – depending on how quickly you want to get onto the property ladder and which lender you go with.

Ultimately, you’re going to need at least a 5% deposit. So start to work out what you’re aiming to buy and how much it’ll cost, and then you can start saving with a clear goal in mind. Let’s take a look at your options when it comes to the deposit on a home loan, so you can lock in a savings goal with more confidence.

Learning some home loan lingo

Before we dive into detail about deposits, you may want to wrap your head around some common terms used by lenders. These things can influence how much you need to save.

Loan to value ratio (LVR)

This is a percentage, calculated by dividing the amount you borrow against the lender-assessed value of the property. For example, if you borrow $400,000 to buy a property valued at $500,000, the LVR of your loan is 80%.

Lenders mortgage insurance (LMI)

This is an insurance that you usually have to pay if your LVR is higher than 80%. It’s insurance cover for the lender to protect them in case you default on your home loan and the property sale isn’t high enough to cover what you owe.

Family guarantee

This is where someone in your family (a guarantor) uses the equity in their own property as security for your loan, which means they agree to be responsible for your loan if you default or are unable to pay.

What’s with the 20% rule?

The number you’ll hear most when talking deposits is 20%. There’s this unspoken rule that you should save at least 20% of the lender-assessed value of the property to get a home loan. But … this is only true if you don’t want to or can’t pay LMI or use a family guarantee.

With a bigger deposit of 20% under your belt, you don’t need to borrow as much money. Which means you’ll pay less in interest over the life of your loan. And you don’t need to worry about having LMI.

So, saving up a 20% deposit could be worth it. But if it feels way too unrealistic, you’ve got other options.

Does 20% feel out of reach?

These days, most lenders accept deposits of as low as 5% (in other words, the LVR is 95%). But, as mentioned above, a low deposit comes with a big caveat. LMI.

LMI – it can be a big additional cost on top of the home-buying process. But in urban areas, such as Sydney, where property prices are quite high, then people can see LMI as an opportunity to get on board the property ladder much faster. Instead of spending years living frugally and saving every penny towards a massive deposit, they save a smaller deposit and use LMI to buy – so they don’t miss out on the opportunity to buy.

Your other option is to enlist the help of a family member. With their support, you could only need a 5% deposit. Just remember, it’s a big ask. So talk it through carefully, give your family member the opportunity to properly consider the implications for themselves and their property, and make sure you’re all clear on everyone’s responsibilities if you go down this path.

It is also important to understand that borrowing 95% of the property value may mean your repayments are quite high. Then you’ll need to ensure that you are able to afford these repayments ongoing.

Crunching the numbers

Once you’ve decided whether to aim for the 20% mark or not, you can start crunching the numbers on just how much you’ll need to save. Working out your borrowing power helps at this point.

Let’s use a $650,000 house as an example to show how much deposit you may need (for simplicity’s sake, we’ll ignore costs like stamp duty for now but it is worth noting that those costs needs to be paid on top of the deposit):

If you want a 20% deposit, then it will look like this:
$650,000 x 20 / 100 = $130,000

If you only want to save a 5% deposit, then it could look like this:
$650,000 x 5 / 100 = $32,500 (the LMI can be or included in the loan)

That’s a pretty big difference, isn’t it? Taking the second route could get you into home ownership earlier – just factor in the extra cost of LMI (which could be substantial) and the fact that you’re going to have to borrow a lot more money ($618,500 versus $520,000), which means your repayments will be higher and you’ll pay more in interest over the term of the loan.

Whichever way you go, working out roughly what your deposit looks like is a great first step in saving.

The bigger the better?

The jury’s out on this one. While a bigger deposit definitely has its benefits, for many the ability to start house-hunting earlier is more important.