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If you’re hoping to become a homeowner, you have plenty of numbers swirling in your brain: interest rates, closing costs, property taxes and more. The lender who will review your mortgage application has quite a few figures to consider, too. One of the key numbers is your loan-to-value ratio, or LTV.
What is the loan-to-value (LTV) ratio?
Your loan-to-value ratio is how much money you’re borrowing, also called the loan principal, divided by how much the property you want to buy is worth, or its value.
How to calculate a loan-to-value ratio
For example, if you plan to make a down payment of $50,000 on a $500,000 property, borrowing $450,000 for your mortgage, your LTV ratio — $450,000 divided by $500,000, multiplied by 100 — would be 90 percent.
What is combined LTV?
If you already have a mortgage and want to apply for a second one, your lender will evaluate the combined LTV (CLTV) ratio, which factors in all of the loan balances on the property — the outstanding balance on the first mortgage, and now the second mortgage.
Let’s say you have an outstanding balance of $250,000 on a home that is appraised at $500,000, and you want to borrow $30,000 in a home equity line of credit (HELOC) to pay for a kitchen renovation. Here’s a simple breakdown of the combined LTV ratio:
$280,000 ($250,000 + $30,000) / $500,000 = 56 percent CLTV
If you have a HELOC and want to apply for another loan, your lender might look at a similar formula called the home equity combined LTV (HCLTV) ratio. This figure represents the total amount of the HELOC against the value of your home, not just what you’ve drawn from the line of credit.
LTV vs. CLTV
LTV and CLTV are similar figures; they both describe how much equity you have in your home versus how much you still owe on your mortgage. The difference is the LTV takes into account only the first mortgage (the one you bought the home with), while the CLTV factors in your first mortgage and any subsequent mortgages, such as a HELOC or home equity loan.
Why lenders look at LTV
Before a bank or lender decides to approve your mortgage application, the lender’s underwriting department needs to be confident you’re going to be able to pay the loan back. Understanding the full scope of the LTV ratio involves more work to determine how you’ll be able to pay for the “L” in the equation.
In addition to LTV, lenders look at a front-end ratio and a back-end ratio to evaluate your finances.
The front-end ratio is known as the “housing ratio,” and it divides your total monthly mortgage payment — principal, interest, taxes and insurance, or PITI — by your monthly income.
Let’s say your monthly mortgage payment is $1,500, and your monthly income is $6,000. Your front-end ratio, in that case, would be 25 percent.
Your mortgage payment isn’t the only cost you’ll be managing as a homeowner, however. Do you have a car loan? Are you paying back loans from college? Consider all the money you owe other lenders for the back-end ratio, also known as the debt-to-income (DTI) ratio, which is the monthly mortgage payment plus all of your other monthly debt obligations divided by your monthly income.
If your monthly mortgage payment is $1,500, your monthly income is $6,000 and your monthly debt obligations total $1,300, your back-end or DTI ratio would be 46 percent.
Between the LTV and the front- and back-end ratios, if the lender deems you a greater risk, you’ll likely pay a higher interest rate, which translates to paying more money over the life of the loan.
What is a good LTV ratio?
The ideal LTV ratio varies depending on the lender’s requirements and the type of loan. For you as the borrower, however, a “good” LTV ratio might mean you put more money down and borrow less. In general, the lower your LTV ratio, the better — you’ll be less exposed to negative equity, or becoming underwater on your mortgage, if home values were to significantly drop.
Loan-to-value ratios by loan type
|Loan type||LTV maximum|
|*Without private mortgage insurance (PMI)|
- Conventional loan – The magic LTV ratio for most lenders is 80 percent. This means you can afford to make a 20 percent down payment, and as a borrower, you won’t have to pay private mortgage insurance.
- FHA loan – Generally, an LTV ratio of 96.5 percent will suffice for securing an FHA loan. Keep in mind that the minimum 3.5 percent down payment requirement for FHA loans means you’ll need to pay mortgage insurance.
- VA loan – If you’re a service member or veteran, you can have a 100 percent LTV ratio with a VA loan (in other words, no down payment), provided you meet other requirements for approval.
- USDA loan – Available to low- and moderate-income homebuyers in rural areas, the U.S. Department of Agriculture gives certain borrowers the ability to get approved with a 100 percent LTV ratio, as well.
- Refinancing – If you’re considering refinancing your mortgage, most lenders will want to see an LTV ratio of 80 percent or lower (at least 20 percent equity).
How to lower your LTV
Lowering your LTV ratio can happen one of two ways: You can save more money to make a larger down payment on your dream property, or you can find a cheaper property.
If you find a $250,000 home, for instance, instead of the $500,000 one in the previous scenario, a $50,000 down payment will give you an 80 percent LTV ratio, which can help eliminate the additional cost of mortgage insurance and put you much closer to paying off the loan from day one.
You can determine how much house you can afford using Bankrate’s calculator.