Loan to Value (LTV) ratio basics

The Loan to Value (LTV) ratio is an essential metric in the mortgage lending process that helps lenders determine the risk associated with a loan. The LTV ratio is the loan amount divided by the appraised value of the property or the purchase price, whichever is lower. For example, if the purchase price of a home is $200,000, and the borrower puts down a $40,000 down payment, the loan amount would be $160,000, and the LTV ratio would be 80%.

Lenders generally have a maximum LTV ratio they are willing to lend to borrowers. For conventional loans, the maximum LTV ratio is typically 80%, while for government-backed loans like FHA loans, the maximum LTV ratio is typically higher at 96.5%.

The LTV ratio is an important factor in determining the interest rate on a loan. In general, the higher the LTV ratio, the higher the interest rate. This is because a higher LTV ratio means a greater risk for the lender, as there is less equity in the property to cover potential losses if the borrower defaults on the loan.

Borrowers with a higher LTV ratio may also be required to purchase mortgage insurance, which protects the lender in case of default. Mortgage insurance is typically required for loans with an LTV ratio above 80%.

Borrowers can improve their LTV ratio by making a larger down payment or purchasing a less expensive property.