When you own a home, one of the most important concepts you can understand is loan to value ratio. Your loan to value (LTV) ratio is an expression of the amount of your mortgage as a percentage of the total value of your property. Your loan to value ratio is usually figured on your first mortgage.
Your loan to value ratio is determined by dividing the amount you are borrowing by the appraised value of your home. It’s fairly simple: If you are borrowing $180,000 to purchase a home that is appraised at $190,000, you end up with
$180,000 ÷ $190,000 = 0.9474 x 100 = 94.74%.
Some lenders will round to the nearest whole percentage — in this case 95%.
Your loan to value ratio can also be figured for refinancing purposes. If you plan to refinance your home, you will probably need an appraisal. In this case, your lender will want to figure your loan to value ratio using what you owe on your home, and the new appraisal. If you have been in your home for awhile, and paid down your mortgage to where you owe $150,000 and your home appraises for $190,000, your new loan to value ratio is 78.95%.
Mortgage lenders use loan to value ratio as a risk assessment tool.
The higher your loan to value ratio, the bigger the default risk you appear to be.
As a result, lenders will take steps to protect themselves.
When it comes to refinancing, loan to value ratio can have a similar impact. Many lenders are reluctant to refinance a home that has a high loan to value ratio. You might be denied an application to refinance without a low enough loan to value ratio. If you aren’t denied, you will have to pay a higher interest rate. Most lenders want to see LTV at 80% or less to consider refinancing your mortgage.
Another issue with refinancing is what happens if you have negative equity. The recent real estate market crash means that the appraised value of your home might be lower now than when you bought it. If you borrowed $180,000 in 2007 to purchase a home appraised at $190,000, you might have paid down your mortgage to the point where you now owe $172,000. But your home might have plummeted in value, and is perhaps appraised at $170,000. Now, your loan to value ratio is 101.18%. Unless you can refinance under a government program, you are out of luck in this case.
Your loan to value ratio can affect how much you ultimately pay in interest. When buying a home, you can reduce your loan to value ratio by making use of a larger down payment. If you know that you will refinance, you can make extra mortgage payments so that you have more equity — or ownership — in your home.
Photo by hans s.
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