How to get ahead on your down payment

With the number of first home buyers in the mortgage market continuing to languish near record lows and property prices peaking ¹, it’s clear first home buyers need a savvy savings strategy to round up a deposit.

But getting ahead is often easier said than done. Life has to be lived and bills need to be paid, while hikes in basics, such as electricity and private health cover, make saving pennies harder.

So how do you squirrel away enough to stake your claim in the property market? There’s no magic wand but there are some steps you can take to make your first home dream a reality sooner.

As mundane as it sounds, the only way to save is to spend less than you earn. And it’s a habit lenders expect you to master before you take on a mortgage.

Most lenders require entry borrowers to demonstrate a history of ‘genuine savings’ before approving a loan. Lender policies vary but they all require evidence you have been socking away savings for a certain period, especially if your deposit is less than 20 per cent. Cash injections from parents and other sources generally don’t fit the bill as they don’t show you can manage your budget to make your mortgage payments.

The only way to show you can save is to save!

Similarly, your credit history – or credit score – will tell your lender whether you can handle a home loan, so make sure you pay your bills on time. If you miss a $100 monthly credit card payment, it doesn’t send a strong signal that you can manage a $2,000-per-month mortgage.

Your credit score comprises your borrowing and repayment history, and how often you have applied for credit.

A low credit score could affect your loan approval. You have the right to access your credit report for free from an approved credit reporting body (CRB) once a year or if:

You have applied for, and been refused credit, within the past 90 days.

Your request relates to a decision by a CRB or a credit provider to correct information included in your credit report.

For CRBs and more information on accessing your credit report visit the Office of the Australian Information Commissioner by clicking here.

A 20 per cent deposit is a hefty chunk of change for first-time buyers, especially for those in Sydney or Melbourne. With property prices climbing in most markets, saving a 20 per cent deposit is getting increasingly tougher.

The rub is if you don’t put 20 per cent down, you will have to pay Lenders Mortgage Insurance (LMI), which can cost thousands. LMI applies when the mortgage is higher than 80 per cent of the lender’s property valuation. It covers your lender if you default on your mortgage. LMI does not cover you, the borrower, if you can’t make repayments.

Two factors influence the cost of LMI: the size of the loan and the loan to property value ratio. The bigger your deposit, the smaller your LMI bill.

Ask your broker to run the maths on LMI if your deposit falls short of 20 per cent. If the market is moving up, it might make financial sense to pay the LMI rather than strive for a bigger deposit and risk being outpaced by increasing property prices. LMI premiums vary so talk to your broker to find the right loan for your circumstances. One other thing to consider to potentially help avoid LMI (or at least save on it) is that several lenders accept a family member as guarantor, using the equity in their home to help secure the finance. Again, speak to your broker to find out if this is something that may suit your situation.

Pay down your debt as quickly as possible if you want to get ahead faster. You might think you have more in your pocket by paying just the minimum monthly payment on your credit card, but you are only increasing how much you owe and how long you owe it – which makes saving for your first home harder.

Take, for example, a balance of $6,000 on a card with a 20 per cent annual interest rate (assuming that there are no credit card fees or minimum monthly payments). Your minimum monthly payment is about $100. If you pay just this amount, it will take you more than 75 years to rid yourself of the debt and you will pay more than $30,000 in interest charges. Far better if you up your payments to $310 per month, knock the debt over in two years and pay $1,308 in interest. Once you are free of credit card debt, you will have more to sink into your home deposit.

Low and no-interest credit cards may also put a dent in your debt quicker. Many balance transfers on credit cards have a zero-interest offer for a period of time (although watch out for transfer fees).

You can also ask your credit card provider to lower your limit. While you may never spend to your maximum allowance, lenders will look at your credit card limits when assessing your home loan application. Keeping a lid on your limit also removes the temptation to spend.

You have stuck to your savings plan and have your deposit. Now it’s time to secure a loan. While you want a low interest rate, it’s not the only factor you should consider. Talk to your mortgage broker about finding the loan that suits your situation, now and in the future. If, for example, you want to start a family a few years after you move into your first home, you might value a loan with flexibility to switch from a variable rate to a fixed one, or from principal-and-interest to interest only.

Your broker has access to a host of loan products and can take the hard work out of shopping around and making comparisons. The more information you can share about your financial situation and goals, the better your broker is equipped to find the loan that suits your circumstances.