What is the Loan-to-Value Ratio? (Ontario)
You’ve found the perfect home that makes your heart skip a beat. But how do you navigate the financial maze to make it yours? That’s where the loan-to-value ratio steps in as your trusty guide.
The loan-to-value (LTV) ratio is a key risk assessment tool for lenders in mortgage approvals. Higher LTV ratios signal greater risk, often leading to elevated interest rates. Additionally, a high LTV may necessitate the purchase of Private Mortgage Insurance (PMI) by the borrower, providing an added layer of protection for the lender.
Why Does Loan-to-Value Ratio Matter
For lending purposes, the LTV ratio pulls the strings on whether a borrower will secure financing, how much moolah will hit their account, and the interest rate tag attached.
The higher the LTV ratio for a mortgage or loan, the trickier it gets to snag that golden “approved” stamp from the lender. And even if the borrower manages to break through with a high LTV, the interest rate they’ll be slapping on that loan will be higher than those folks with a lower LTV ratio.
In Ontario, if someone’s mortgage is playing with an LTV above 80%, the Canadian government insists on a little extra insurance – mortgage default insurance. It’s like a safety net, ensuring the lender still gets their slice of the pie even if you hit a financial pothole.
What Does Loan-to-Value Ratio Mean with Mortgage?
Calculating the Loan-to-Value (LTV) ratio is crucial in mortgage underwriting, where it can be used when buying a home, refinancing, or tapping into property equity.
Lenders use the LTV to assess risk exposure. When borrowers seek a loan close to the appraised value (resulting in a higher LTV), it raises the risk of default because of limited equity. In foreclosure, the lender may struggle to sell the property for enough to cover the remaining mortgage and make a profit.
How to Calculate the LTV Ratio
For homebuyers, calculating the LTV ratio is a breeze using this straightforward formula:
LTV ratio = (Appraised Property Value/Mortgage Amount) ×100
where:
- MA: Mortgage Amount
- APV: Appraised Property Value
You can calculate the loan-to-value ratio by dividing the borrowed amount by the appraised value of the property and then express the result as a percentage. Let’s get a bit nerdy with the math. For instance, if your dream home is appraised at $120,000 and you make a $30,000 down payment, your borrowed amount is $90,000. Crunching the numbers, this gives you an LTV ratio of 75%.
LTV ratio = (90,000/120,000) ×100
LTV ratio = 75%
Loan to Value Ratio Rules Across Loan Types
Different loan types come with distinct rules governing Loan-to-Value (LTV) ratios.
FHA Loans:
FHA loans, crafted for low-to-moderate-income borrowers and insured by the Federal Housing Administration (FHA), allow an initial LTV ratio of up to 96.5%. Despite lenient minimum down payment and credit score requirements, these loans come with a lasting Mortgage Insurance Premium (MIP).
VA and USDA Loans:
Exclusive to current and former military personnel or those in rural areas, VA and USDA loans permit LTV ratios to reach 100%. These loans do not mandate private mortgage insurance, though additional fees apply.
Fannie Mae and Freddie Mac:
Fannie Mae’s HomeReady and Freddie Mac’s Home Possible mortgage programs, catering to low-income borrowers, allow an LTV ratio of 97%. However, both require mortgage insurance until the ratio drops to 80%.
What’s the Difference Between LTV and CLTV?
Unlike the LTV ratio, which focuses on the impact of a single mortgage when acquiring a property, the combined loan-to-value (CLTV) ratio encompasses all secured loans on the property relative to its value. This includes the primary mortgage and additional factors like second mortgages, home equity loans, or lines of credit. Typically, lenders are comfortable with CLTV ratios of 80% and above, especially for borrowers with high credit ratings.
What is Considered a Good LTV?
In the lender universe, hitting the 80% mark is like reaching the golden shores of a good loan-to-value ratio. Anything below is winning the financial lottery.
But things can get a bit spicy once you reach numbers beyond 80%. Borrowing costs might spike, and the loan approval party might be over. It’s like the higher your LTV climbs, the tougher the loan game becomes.
Is 80% LTV Good?
Opting for an 80% LTV provides a range of viable choices; however, it might be beneficial to consider reducing your LTV to 75%. This adjustment could unlock a broader array of options featuring improved deals and reduced overall costs. This allows you to pay less in the long term.
Is 70% a good LTV?
It’s advisable to aim for a loan-to-value ratio below 80%. Once you cross that 80% mark, it’s considered a high LTV, and trust me, you don’t want to go there. Sure, you can snag mortgages with LTVs at 80%, 90%, or even 95%, but be ready to fork out way more in interest.
Congratulations, you’ve successfully navigated the twists and turns of the loan-to-value ratio. From the bustling metropolitan areas to the serene outskirts, your understanding of LTV becomes a compass, guiding you through the intricacies of property financing.
