Maybe you understand the debt to income, but can you grasp the meaning of loan to value ratio?
For example, if someone’s loan to value ratio is 65%, what exactly does that mean?
The loan-to-value ratio calculator compares the amount of your loan to the value of the asset you use to secure the loan.
LTV mortgage and auto lenders commonly use this loan-to-value ratio, which is typically expressed as a percentage, to help evaluate the risk of a loan.
So, let’s learn what the loan to value ratio is, why this financial metric is important, and how you calculate loan to value.
What Is Loan To Value Ratio?
The loan-to-value ratio is the amount of your loan divided by the value of the asset (like a home or vehicle) that is securing the loan.
Ltv stands for the percentage of money borrowed to the purchase price. For example, a 95% loan to value on a $100k purchase would be a $95k mortgage, and only $5k down.
In this scenario, you would pay PMI (private mortgage insurance) because the LTV ratio was not at 80% or better for a single-family home.
Assuming that your property has been appreciating consistently, you can also remove your PMI by paying for an appraisal ($300-$400) which will prove the value of your home in relation to the outstanding balance.
However, each LTV mortgage company has specific rules about this, and you should speak to your lender and/or CRE specialists first to determine if you must use an appraiser they work with.
How To Calculate Your Loan-To-Value Ratio
As I’ve mentioned, your loan-to-value ratio, or LTV ratio, is usually expressed as a percent. You can learn how to calculate the loan to value ratio by dividing the amount of your loan by the appraised value of the asset securing the loan.
For example…
Say you want to purchase a home for $200,000 appraised value. If you have $40,000 for a down payment, you would need a $160,000 loan.
The LTV ratio would be the loan amount of $160,000 divided by the appraised value of $200,000, which is 0.80, or 80%.
Your LTV is 80% of the property’s value.
! Your LTV ratio can be one indicator of whether you can afford the home (or vehicle) you want.
Also, beware of the current LTV margins…
High margins on high-LTV loans
The loan to value ratio is the ratio of the money borrowed to the appraised value of the home.
Now, I know that most homes are appraised very close to the purchase price, but it’s not uncommon for someone to buy a house for $15K less than what it was appraised for.
This is a significant difference to the LTV rather than using my purchase price.
Banks have been taking the loan to value ratio (LTV) into account in their mortgage loan pricing since 2013.
The LTV is the ratio of the size of the loan to the value of the house for which the loan is granted. The higher the LTV, the higher the interest rate.
As a result, the margin for banks on loans with a high LTV ratio is higher than that on low-LTV loans.
The maximum margin for LTV mortgage loans with a high LTV ratio compared to mortgages with a low LTV stood at 75 basis points at the beginning of 2016.
According to market operators, higher loan losses and a higher capital requirement at banks and insurers for high-LTV loans can only account for a very small part of this difference.
The remaining difference may be explained by the fact that there is slightly less competition in the high-LTV segment, due to the reluctance of some of the new entrants to provide mortgages in this segment.
But let’s talk about sure things, or – Why does the loan to value ratio matter?
How Higher LTV Ratio Could Affect You
When you apply for an LTV loan, lenders will typically review your credit history and other financial factors like>:
- Your debt-to-income ratio
- Credit scores
- Consider your loan-to-value ratio, etc.
They need to determine how risky your loan may be.
The higher your LTV ratio, the riskier your loan may appear to lenders. Also, when you make a smaller down payment, you have less equity (ownership) in your property.
That can be problematic for the lender because if you default on a loan, the lender might not be able to recoup its loss by selling your property.
A lower loan-to-value ratio indicates to the lender that you may be less likely to go “upside-down”. In the case of a car loan, this is when you owe more on the car loan than it’s worth on the market. A bigger down payment can help lower your loan-to-value ratio.
As a borrower, there are several ways a higher LTV ratio could affect you.
- Higher interest rate – Not paying a higher interest can make a significant difference in the total amount you pay for your loan over time.
- Private mortgage insurance – If you decide to refinance your mortgage…
- Higher monthly payments – too high loan to value ratio can impact your loan terms, strain your budget, and make your loan much more costly
- Refinancing – Lower LTV ratio may help you qualify for better interest rates
- Building equity in your asset – For example, if you decide you want to take out a home equity loan or line of credit, having more equity in your home can really pay off
When you apply for any loan, it’s important to understand the financial implications of a high loan to value ratio. Lowering your LTV ratio may put you in a better financial position to receive a better interest rate and help you save money over the life of your loan.
There are even ways to lower your loan to value ratio, which may ultimately help you build more equity in your property. If you are interested in knowing more, feel free to contact IPG because if your loan-to-value ratio is relatively high, it may be a good idea to increase your down payment before you take out a loan.
