If only this question had a simple answer, however it does not. The amount of deposit needed to buy a house is dependant on a few things, each largely unique to you, your financial status and the property you intend to buy. Generally speaking, a deposit should be between 5% and 20% of the purchase price of a property. More lenders have been accepting 5% deposits in recent years, and incentives like the First Home Loan Deposit Scheme will encourage many buyers to start out with smaller deposits.
Can Less be More?
In a word – no. Smaller deposits certainly fast track you into the property market, but they also come with burdens that some buyers overlook in their haste to purchase. A smaller deposit inevitably means you’ll need to borrow more towards the purchase price, but this should be done with careful consideration. A larger loan means you’ll be managing higher repayments, and, if interest rates go up, you may find yourself out of your depth financially. It can also be more challenging to be approved for a loan if you’re trying to borrow 90 – 95% of the principal. Prospective home buyers need to show they have an exceptional history when it comes to employment, income and credit ratings, as well as evidence they have lived well within their means. Not having evidence of good budgeting, or consistent savings can work against you if you’re hoping a 5% deposit will get you over the line.
Another important thing to consider is the cost of insurance on a low deposit loan. Loans applicants with a deposit that’s less than 20% are considered high risk, and will need to pay Lenders Mortgage Insurance (LMI). This is calculated based on the estimated property value, the available deposit amount and the loan term. For example, if 95% is being borrowed for a family home, the LMI can add up to 5% - in which case it’s worth considering whether to hang in there a bit longer, and put that money towards saving up to a 20% deposit. In a previous article, we discovered that in Melbourne alone, prospective homebuyers can expect to spend 5 years saving for a 20% house deposit, which is achievable for many, especially young couples and first home buyers who have time on their side.
When More is Actually Less.
The general recommendation is that a 20% deposit puts buyers in a safer zone when it comes to home loans. More deposit means less of everything else – a smaller loan amount, lower repayments and lower interest charges over the lifetime of the loan. It also provides somewhat of a buffer in times of financial stress, or when interest rates spike (no matter how unlikely that looks right now). As mentioned above, a larger deposit requires more patience and a greater time commitment to saving, but it does mean you can avoid hefty insurance costs and are less likely to need a guarantor.
From a philosophical perspective, saving a 20% deposit is taking the ‘short term sacrifice for long term gain’ approach. Committing to a significant financial burden for a couple of decades takes its toll, assuming the burden can even be managed for the life of the loan. Deciding to dedicate just a few years to living more frugally and sacrificing life’s pleasures can be much easier than expected and comes with its own reward in the long term. There are plenty of ways to fast track your savings, with some homebuyers even able to save for a home deposit in just one year. A deposit can come together quite quickly when creative thinking is applied – consider things like cash gifts from family or friends, selling a high-ticket item like a car or half your expensive wardrobe, or even taking on a side hustle like driving for a ride share company, or offering yourself up for evening and weekend babysitting.
Additionally, the range of grants, incentives and concessions should not be overlooked. First Home Buyers may be entitled to up to $20,000 plus the stamp duty waived in some instances, and the Super Saver Scheme for First Home Buyers (FHSSS) has enabled many buyers to make good progress on their investment plans.
As we always recommend – get yourself a good financial advisor and speak to some mortgage brokers for advice. Touching base with a few preferred lenders would also be useful and search online for Home Loan Repayment Calculators. These allow buyers to play around with varying deposit amounts and somehow settle on the least terrifying option.