Basic Terminology: Loan To Value (LTV)

One of the primary ways that mortgage lenders evaluate the risk associated with a potential loan is by looking at the Loan To Value (LTV) ratio. This number is determined by dividing the requested loan amount by the value of the mortgaged property. The higher the ratio the less equity the borrower will have in the house at the beginning of the loan. Here is an example: You wish to purchase a new house for $100,000, and you want to contribute 10% as your down payment. This means you need a loan for the remaining $90,000. The LTV ratio would be 90,000/100,000 = .9 or 90 percent. LTV is usually quoted as a percent. LTVs on new loans typically vary between 80 and 100 for purchases, and between 60 and 100 for refinances. Higher LTVs mean that the borrower is borrowering more money and has less personally invested in the property. This is important to the lenders because they see a borrower with a small investment as more willing to lose that investment by not paying their bills and having the house foreclosed upon than someone with more invested and more to lose. The increased risk that the lender is taking is offset (in their minds at least) by charging a higher interest rate for higher LTVs. Unfortunately, if you were to keep a 30 year mortgage for its entire term and you started out with a high LTV, you would end up paying much more overall because of the higher interest rate than you would if you refinanced the mortgage once you had built 10 to 20 percent equity.