Loan-to-Value Ratio (LTV) is one of the most important factors banks scrutinize when evaluating the potential default risk of a mortgage loan application. The LTV is derived by dividing the loan amount by the purchase price or the appraisal value of the property, whichever value is less.
Many people over the past few years have been able to buy home with extremely high Loan-to-Value Ratios. Many of these consumers with high loan-to-value ratios bought homes with zero money down, no money out of their pocket and thus lived in homes with no equity at all. A home with no equity in it is much more likely to go into default than a home with a lot of equity. Thus, many lenders have begun limiting their exposure to these types of 100 percent financing loans and making their guidelines for qualifying for loans with these high loan-to-values much more difficult.
The LTV is another important factor in determining what interest rate you get and other loan programs that your eligible for. However, having the lowest LTV ratio does not mean that you will get an interest rate than what the bond market is showing for a conforming mortgage. A 40% LTV will not yield a lower interest rate than a 55% LTV, they start becoming an important factor when you are reaching ratios above 75%-80%.
Another term you may see with this is CLTV. This stands for Combined Loan To Value. This is the percentage that the combined mortgages make up of the property value.
Example: The property value is $100,000, the first mortgage is $50,000, and the second mortgage is $10,000. The combined loan-to-value then is $50,000 plus $10,000 divided by $100,000 or 60%.
Many times a consumer with borderline credit scores can be approved with more favorable by borrowing at a lower loan to value. The biggest cause of loan defaults is due to a lack of equity.
Loan to value ratios begin to get more conservative as loan amounts increase. Most will find that larger loans require larger down payments, particular jumbo loans over $650,000.