- A loan to value ratio refers to the amount of a given loan in comparison with the value of the property.
- LTV is one factor used by lenders when determining whether or not to approve a loan.
- An increased down payment will lower your loan to value ratio.
Whether you are an investor or a first-time homebuyer, chances are you are familiar with the process of taking out a loan and all that comes with it. It should come as no surprise that there is a metric for determining a given loan in comparison with the value of the product in question, known as a loan to value ratio. No matter your position in real estate, familiarizing yourself with this ratio can help you gain a better understanding of your own financial health and can provide a better picture of what lenders are looking for during the financing process. Keep reading to learn more about loan to value ratios, and what you can do with this information.
What Is LTV?
The loan to value ratio is an indicator often used by financial institutions and lenders during the mortgage approval or refinancing process to determine whether or not to move forward. For lenders, the loan to value ratio can reveal the amount of risk involved in a given investment. For investors, the loan to value ratio can serve as a benchmark for how much equity you have in a given property.
While a high loan to value ratio will not necessarily count you out of a given investment, it can be used to determine the specifics of your mortgage or financing options. The reason for this is because lenders often view the amount of equity in a home as a benchmark for the the likelihood that payments will be made. If an investor or homebuyer provides a low down payment, their loan to value ratio will be higher. Lenders may be more cautious of moving forward with the deal. It is important to keep in mind that LTV is just one of several factors being considered during the financing process.
There are a number of ways to decrease your loan to value ratio. The first way, and perhaps most obvious, is to increase your down payment. By doing so, you are immediately setting yourself up for a lower loan to value ratio. However, for some this may mean waiting to buy a property until you can afford a specific down payment. If making a larger down payment does not seem realistic, there are a multitude of options for those interested in buying a property with little or zero down. I encourage you to research your options before moving forward with a situation that may not be the best for your financial standing.
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Loan To Value Calculator
Calculating your loan to value ratio is relatively straightforward. Take the amount of your loan, divide it by the purchase price of your home, and convert that number to a percentage. Here’s a simple example: if you need a loan of $100,000 for a $200,000 property, your LTV will be 50 percent. When it comes to an investment property LTV or refinance, the numbers may look a little different, but the calculation process will be exactly the same. Look at the value of your loan in comparison to either the purchase price or appraisal value of the property. For those looking for an easier way, you can always plug your numbers into a loan to value calculator to get a better understanding of the process.
LTV real estate calculators are not hard to come by, though I recommend using the one provided by Bankrate.com. This calculator allows you to input the variables of your situation and make note of your possible loan to value ratio. Tools such as this should serve to guide you as you consider your financial standing. While your LTV ratio is not the only factor being considered by lenders, I do recommend investors and potential homebuyers keep it in mind in order to have a strong understanding of the deal at hand.
What Is Considered A “Good’ Loan To Value Ratio?
Considering the formula for a loan to value ratio, a higher LTV will mean you owe more on the property and vice versa. It’s fair to say that a good LTV is typically associated with a lower ratio, meaning the owner has more equity in the property. A high loan to value ratio will not necessarily count you out from being approved for a mortgage; however, you may find yourself with a higher than average interest rate. It is worth noting that, as a whole, there is not one specific loan to value ratio that could be considered “good,” rather there are limits and ranges used by lenders when considering a given loan or refinance.
There are some examples you should take into account when calculating your loan to value ratio, and they all depend on which form of financing you are aiming for. Pay attention to the specific eligibility requirements for the type of financing you want, and keep them in mind as you calculate your estimated loan to value ratio. Here are some examples to consider:
- If you decide to move forward with a conventional mortgage you will want a loan to value ratio of 80 percent or below, or you may be required to get private mortgage insurance and pay a monthly premium in addition to your mortgage payment. In order to achieve this LTV, you will need to make a down payment of 20 percent or higher.
- LTV is also taken into consideration with mortgages backed by the Federal Housing Administration, or FHA. In the case of FHA loans your credit score will be taken into consideration when determining the permitted loan to value ratio. For example, if you qualify for an FHA loan you may be able to have a loan to value ratio of 96.5 percent if your credit score is 580 or above. For borrowers with a score between 500 and 579, the maximum LTV ratio accepted is 90 percent.
- For those eligible, there are also loans secured by the Department of Veterans Affairs, otherwise known as VA loans. These will permit a loan to value ratio of up to 100 percent, meaning you could move forward with a property with little to now down payment. However, there are other eligibility requirements to be met.
- Loans insured by the Department of Agriculture, known as USDA loans, are another option that allows a zero down payment and a 100 percent loan to value ratio. Once again, there are specific eligibility requirements otherwise, and generally apply to rural parts of the country.
There are also a number of high LTV refinancing options for those seeking to lower their rating, and depending on which option you choose you may or may not have to meet specific loan to value requirements. For example, if you choose to do an FHA finance there will not be an LTV limit. On the other hand, for those seeking a refinance on an investment property there will often be a cash out refinance investment property LTV requirement. According to Fannie Mae, the maximum loan to value ratio for a one unit property is 75 percent.
A loan to value ratio can affect you in a variety of ways; however, it is not the only factor being taken into consideration by lenders. With that in mind, investors and homeowners should seek to understand the factors considered, and should be aware of a given loan to value ratio. Depending on the type of financing you are seeking, you will be required to meet different requirements. I recommend paying attention to your specific situation and making use of a good loan to value calculator to get a better idea of your LTV ratio. Remember, a loan to value ratio is one of several factors contributing to your overall financial profile.
How familiar are you with the concept of a loan to value ratio? Leave a comment below and share your experience with your fellow investors.