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All About Loan-to-Value Ratio (LVR)
When you’re thinking about buying or refinancing a home, there’s one important thing you need to know: LVR. This short acronym can help you understand how much you can borrow, what interest rates you’ll get, and what risks are involved. Let’s learn why LVR is so important, and also get professional advice.
What is LVR?
LVR stands for Loan-to-Value Ratio. It’s the percentage of the home’s value that you borrow. For example, if your LVR is 80% or less, you might get better interest rates and pay less each month. If your LVR is more than 80%, you might need to pay for Lender’s Mortgage Insurance (LMI) or have a family member help you.
How to Calculate LVR
Figuring out your LVR is easy. Divide the amount you want to borrow by the appraised value of the home, then multiply by 100 to get the percentage.
What Isn’t Included in LVR Calculation?
When you calculate LVR, don’t include extra costs like fees for lawyers, stamp duty, or other expenses.
Practical Example
Let’s say you’re buying a house for $500,000 and you have saved $100,000 for the deposit, so you need to borrow $400,000. Here’s how you calculate your LVR: LVR = ($400,000 ÷ $500,000) x 100 = 80%.
Your LVR will be 80% if the lender thinks the home’s value is the same as the purchase price. If you have a bigger or smaller deposit, your LVR will change. For example, a $150,000 deposit would make your LVR 70%, while a $50,000 deposit would make it 90%.
Borrowing Above or Below 80% LVR
Why is 80% LVR important? Your borrowing conditions and risks change a lot based on whether your LVR is above or below this point.
Borrowing Up to 80% LVR
Lenders see less risk when you borrow up to 80% LVR, so they often give better rates. You’re also more likely to avoid paying LMI and enjoy a simpler, faster approval process.
Borrowing More Than 80% of Property Value
If you need to borrow more than 80% of the home’s value, lenders usually require LMI to protect themselves. This insurance adds to your loan balance and monthly payments. Higher LVRs also often mean higher interest rates.
Handling Lower Valuations
If the lender thinks the home is worth less than the purchase price, you might need a bigger deposit to keep an acceptable LVR. For example, if a $500,000 home is appraised at $450,000, you might only get a loan for $360,000 at 80% LVR, needing a $140,000 deposit.
Benefits of Paying LMI
Sometimes, paying LMI can help. If saving a bigger deposit means waiting years to buy a home, the cost of LMI might be less than the increase in home prices during that time.
Lowering Your LVR
To reduce your LVR, you can ask a parent or close relative to be a guarantor, using their home equity to secure your loan. Another way is to save a bigger deposit. Start saving early and set a goal for your LVR when planning your home purchase.
That was all about LVR.
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Loan-to-value (LTV) ratio is a critical factor in determining the terms and conditions of a home loan. Here’s what you need to know about LTV:
- Definition: The LTV ratio is calculated by dividing the loan amount by the appraised value or purchase price of the home, whichever is lower. It is expressed as a percentage.
- Importance: Lenders use the LTV ratio to assess the risk involved in the loan. A higher LTV ratio means a higher risk for the lender because the borrower has less equity in the property.
- Down Payment: The LTV ratio is directly related to the size of the down payment. A larger down payment results in a lower LTV ratio, which is more favorable for the borrower in terms of interest rates, fees, and loan approval.
- Mortgage Insurance: If the LTV ratio exceeds 80%, most lenders require the borrower to purchase private mortgage insurance (PMI). This insurance protects the lender in case the borrower defaults on the loan.
- Refinancing: When refinancing, the LTV ratio is calculated based on the remaining loan balance and the current appraised value of the home. A lower LTV ratio can help borrowers qualify for better refinancing terms.
- Equity: The LTV ratio also determines the amount of equity a borrower has in their home. A lower LTV ratio means the borrower has more equity, which can be beneficial if they want to access that equity through a home equity loan or a cash-out refinance.
- Risk Assessment: Lenders typically have different LTV ratio requirements based on the type of loan (conventional, FHA, VA, etc.) and the borrower’s credit score. Higher credit scores may allow for higher LTV ratios.
In general, lenders prefer LTV ratios of 80% or lower, as it reduces their risk exposure and eliminates the need for mortgage insurance. Borrowers should strive to maintain a lower LTV ratio by making a larger down payment or paying down their mortgage over time to build equity.
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