Everything you need to know about low deposit home loans

Saving for a 20% deposit can feel like a major hurdle in today's housing market when you consider how high the median house price is. Low deposit home loans offer an alternative path to homeownership, allowing you to enter the market with a deposit as low as 5%.

How do low deposit home loans work?

Low deposit home loans are a popular option for those who wish to buy a home but may not have the traditional 20% deposit typically required by lenders.

A 20% deposit in todays property market is quite a tall order when you consider how high the median house price is. The ideal 20% deposit required by many lenders can amount to hundreds of thousands of dollars these days - an amount that could take a decade to save.

Low deposit home loans enable buyers to secure a property with deposits as low as 10% or even 5%. This allows for a smaller upfront saving, increased borrowing, and the possibility of purchasing a home more quickly.

However, there is a downside. When the deposit is less than 20%, lenders require the payment of Lenders' Mortgage Insurance (LMI). This fee protects the lender—not the borrower—and can significantly increase the overall cost of purchasing a property, adding thousands of dollars to your expenses.

Benefits and risks of low deposit home loans

Pros of low deposit home loans

• With a lower deposit requirement, buyers can enter the housing market sooner and start to build equity. This is particularly beneficial in markets where property prices are rising quickly, allowing buyers to get into the market before prices potentially increase further.
• Instead of the typical 20% of the property’s value, low deposit home loans can require as little as 5%. This makes home ownership more accessible for people who may not have large savings but are capable of managing monthly repayments.

Cons of low deposit home loans

• Buying a property with a low deposit means you will be taking on a bigger debt.
• Low deposit home loans generally have higher interest rates, which equates to higher monthly repayments.
• The approval process for taking out a low deposit home loan can be longer and may require more extensive documentation to prove that you are capable of repaying the loan.
• Borrowers who take out a low deposit home loan with a deposit of less than the ideal 20% will be required to pay Lenders Mortgage Insurance (LMI), which can be very expensive. This is to protect the lender in case you default on the loan, as you are a riskier borrower.
• There is a higher risk of experiencing mortgage stress due to taking on such a big loan.
• In a declining property market, people with low deposit loans might find themselves more vulnerable to falling into negative equity (where the value of their home is less than the amount owed on the mortgage).
• Some lenders may offer fewer loan options or less favourable terms for low deposit home loans compared to standard loans.

Government support for low deposit borrowers

Entering the property market can feel pretty daunting, especially when saving for a sizeable deposit. Luckily, the Australian government offers a helping hand through various programs designed to make homeownership more achievable for first-time buyers with a low deposit.

First Home Guarantee

The First Home Guarantee (FHBG) is part of the Home Guarantee Scheme (HGS), an initiative by the Australian Government to assist eligible home buyers in purchasing a home sooner.

Through the FHBG, Housing Australia guarantees a portion of the home loan from a participating lender for eligible first home buyers. This guarantee allows buyers to purchase a home with a minimal deposit of just 5% and without the need to pay LMI.

The guarantee covers up to a maximum of 15% of the property's value. This guarantee does not represent a cash payment or an actual deposit towards the home loan.

There are 10,000 places available in this scheme each financial year.

Regional First Home Buyer Guarantee

The Regional First Home Buyer Guarantee (RFHBG) is another part of the Home Guarantee Scheme (HGS).

Specifically, the RFHBG targets eligible buyers in regional areas, helping them to secure homes more quickly.

Under this guarantee, Housing Australia backs a portion of the home loan from a participating lender for eligible regional buyers. This support allows buyers to purchase a home with just a 5% deposit and without the need to pay LMI.

The guarantee covers up to a maximum of 15% of the property's assessed value. There are also 10,000 places available in this scheme each financial year.

Family Home Guarantee

The Family Home Guarantee (FHG) is a program under the Home Guarantee Scheme (HGS), set up by the Australian Government to help single parents or single legal guardians with at least one dependent buy their own home sooner.

The FHG is all about giving a leg up to single parents or guardians, whether they’re buying their first home or getting back into the housing market. For the period from 1 July 2023 to 30 June 2024, there are 5,000 spots open in the program.

Here’s how it works: Housing Australia guarantees a chunk of the home loan that you get from a Participating Lender. This means you can buy a home with just a 2% deposit and skip paying LMI.

The guarantee can cover up to 18% of your home's value as assessed by the lender.

How to apply for a low deposit home loan

While a smaller deposit might seem like a hurdle, with careful preparation, you can increase your chances of securing a low deposit home loan. Here are some key steps to take:

1. Strengthen your credit score. Improve your chances of getting approved for a low deposit home loan by obtaining a copy of your credit report and addressing any errors.
2. Consider something smaller. A smaller property with fewer square metres can be cheaper, so it might be worth considering something like an apartment or townhouse.
3. Look at outer suburbs or go regional. Suburbs further out of the city will generally be more affordable than those in the inner suburbs, so it can be worth considering suburbs further out.
4. Consider the property type and location. Some lenders have stricter lending criteria for apartments in certain areas, requiring a larger deposit. Depending on the location and the type of property you're interested in, you might need to put down 20% or even 30% as a deposit.
5. Examine your spending and debts. Boost your application by reducing your debts, like credit cards. As you pay these off, consider decreasing your credit limits to prevent future overspending. Also, try to cut back on your spending as much as possible before you apply.
6. Chat to a mortgage broker. Consider consulting with a mortgage broker, too. They do more than just link you with lenders; they can match you with one that's likely to approve your application based on specific eligibility criteria. Getting professional assistance could make a big difference.

Alternatives to low deposit home loans

While low deposit home loans offer an accelerated path to homeownership, they come with a price tag in the form of higher interest rates and LMI. Fortunately, there are several alternative strategies to consider that can help you achieve your property goals without the drawbacks of a low deposit loan.

Guarantor home loan

A guarantor home loan is where a close relative, typically a parent or grandparent, agrees to act as a guarantor for your loan. This essentially means they use the equity in their own home as additional security for your mortgage.

Guarantors take on significant responsibility. If you default on the loan, they are liable to cover the outstanding amount using their own property. This can strain relationships and put the guarantor's financial security at risk. Before proceeding, thoroughly discuss the potential risks and implications with your guarantor. Ensure a legal agreement is drafted outlining the terms of the guarantee, responsibilities, and exit strategies to protect both parties.

Save up for longer

This approach may seem like the most traditional route, but it offers significant long-term benefits. By diligently saving for a larger deposit, you'll be able to reduce the overall loan amount you need to borrow. This translates to lower monthly repayments and potentially qualifies you for a more favourable interest rate. Additionally, this extended saving period allows you to improve your financial standing. Building a strong financial track record and a healthy credit score makes you a more attractive borrower in the eyes of lenders.

Joint application

Another strategy to reach a bigger deposit faster is by teaming up with a partner, friend, or family member. This allows you to combine your deposit contributions, increasing your buying power and allowing you to qualify for a bigger mortgage. Sharing the financial responsibility of the loan repayments also eases the burden on each individual applicant.

Use equity as a deposit

This strategy can be particularly helpful if you already own a property with built-up equity. Equity is the difference between the market value of your property and the outstanding loan balance. By refinancing your existing mortgage, you can potentially access a portion of this equity to use as a deposit for your new home purchase.

Get your deposit as a gift

Receiving a financial gift from family members can be a game-changer when saving for a home deposit. It can significantly reduce the time it takes to accumulate the necessary funds, allowing you to enter the property market sooner and potentially benefit from long-term property value appreciation.

However, there are some lender requirements you need to meet to ensure it meets their policies. If the money is gifted close to the purchase date, lenders often require a gift letter or statutory declaration from the family member providing the funds. This document serves two purposes. Firstly, it confirms that the money is indeed a gift intended for the property purchase. Secondly, it emphasises that the gift is unconditional, meaning it doesn't need to be repaid.

There are also restrictions on who can provide a qualifying gift. According to most lenders' rules, the funds need to come from an immediate family member. This typically includes parents, grandparents, siblings (including de facto partners), and sometimes even step-parents or step-siblings depending on the specific lender's policy.

Take advantage of government schemes

Several government initiatives can provide valuable assistance to buyers with low deposits (such as the ones we’ve outlined above). These schemes offer financial support in the form of deposit assistance grants or concessions on stamp duty, making homeownership more attainable.

Can you get a no deposit home loan?

Traditionally, lenders wouldn't offer a loan for the full value of the property, requiring a deposit of at least 5%. But there's an alternative – a guarantor home loan.

With a guarantor loan, a trusted family member, typically a parent, steps in. They essentially use their property's equity as a guarantee for a portion of your deposit shortfall. This can be attractive to first-time buyers, but it's important to understand the risks.

If you miss repayments, the lender can seize your property. They might also go after your guarantor's property to recoup the remaining debt. It's a big commitment for both parties, so it’s wise to consider it carefully.

The bottom line: Guarantor loans offer a way to bypass the traditional deposit hurdle, but they come with significant risks for both the borrower and the guarantor. It's the only true no-deposit option available in Australia, but one to approach with caution.

Speak to a mortgage broker for more advice

A mortgage broker can be your guide through the maze of home loan options and costs. They'll explain different loan products, deposit strategies, and ensure your loan aligns with your budget and goals. Plus, they'll negotiate with lenders to get the most out of your current savings and future financial plans.

Here’s how a mortgage broker can help you:

• Review your personal finances to determine if a low rate home loan is the most suitable for your financial circumstances.
• Assess your eligibility for government home ownership schemes.
• Estimate the initial costs of a low deposit home loan, including deposit, LMI, fees, and other charges, to help you understand how much more you need to save.
• Recommend lenders that provide low deposit home loans with features and benefits that may match your financial needs.
• Negotiate with lenders on your behalf to secure a better deal on loan products.
• Guide you through the loan application process.

If you are looking to purchase a house, here are some of the best home loan in the market with no upfront fees:

Important Information and Comparison Rate Warning

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