Loan-to-value (LTV) ratios of at most 80% tend to help homebuyers secure low mortgage interest rates and favorable terms. You can find your LTV by dividing the total mount of your mortgage into the total purchase price of the home and express the result as a percentage. You can take several steps to lower your LTV, including working with a financial advisor to boost your savings and make a large down payment.
Breaking Down LTV
The loan-to-value (LTV) ratio is how much you’re borrowing from a lender as a percentage of your home’s appraised value. You can calculate your LTV ratio by taking your mortgage loan balance and dividing it by the appraised value of the home.
Say you’re buying a $300,000 home and taking out a $250,000 loan. So the math becomes 250,000 divided by 300,000. Then, multiply the result by 100 to find the percentage. That means your LTV ratio is 83.3%. When you subtract the LTV by 100%, you typically get your required down payment. This percentage matters because it’s what mortgage lenders use when assessing the risk level of a potential borrower.
Why LTV is Important
The higher your LTV ratio, the riskier you’ll appear during the mortgage loan underwriting process. Why? When you make a low down payment, you have less equity (or ownership) in your home and you’re more likely to default on your mortgage loan.
If you can’t keep up with your mortgage payments and you’re forced into foreclose, your mortgage lender may have a hard time earning enough money from the home sale to pay off your remaining loan balance. That’s why homebuyers with high LTV ratios often get stuck with high mortgage rates.
What Exactly Is a Good Loan-to-Value Ratio?
What’s considered a good LTV ratio varies depending on the type of loan you’re applying for.
Conventional Mortgage LTV
If you’re applying for a conventional mortgage loan, a decent LTV ratio is 80%. That’s because many lenders expect borrowers to pay at least 20% of their home’s value upfront as a down payment.
FHA Loan LTV
Mortgage loans backed by the Federal Housing Authority (FHA) come with a different set of rules. For homebuyers who are trying to qualify for an FHA loan, an acceptable loan-to-value ratio is 96.5% if your credit score is at least 580. If your credit score falls between 500 and 579, your LTV ratio can’t be higher than 90%.
For example, if you’re buying a home that’s appraised at $200,000, your loan can’t be more than $180,000. That means a minimum $20,000 down payment so that you stay at 90% LTV ratio.
USDA Loans and VA Loans Allow 100% LTV
If you’re applying for a loan that may not require a down payment such as a USDA loan or VA loan, your LTV ratio can be as high as 100%. Of course, you’ll need to meet other qualifications in order to be eligible for those kinds of mortgages, such as income requirements and property location rules or specific military status.
Refinancing a Loan LTV
Borrowers who are refinancing may or may not need a specific LTV ratio. For example, if you’re refinancing through the federal Home Affordable Refinance Program (HARP), your LTV ratio must be higher than 80%. But if you’re interested in an FHA streamline refinance, there are no LTV ratio limits.
What If Your Loan-to-Value Ratio Is Too High
Having a high LTV ratio can affect a homebuyer in a couple of different ways. For one thing, if your LTV ratio is higher than 80% and you’re trying to get approved for a conventional mortgage, you’ll have to pay private mortgage insurance (PMI). Fortunately, you’ll eventually be able to get rid of your PMI as you pay down your mortgage. Your lender must terminate it automatically when your LTV ratio drops to 78% or you reach the halfway point in your amortization schedule.
If your LTV ratio is too high, taking out a mortgage loan will also be more expensive. By making a low down payment, you’ll need a bigger loan. In addition to paying PMI, you’ll probably pay more interest.
A high LTV ratio can prevent a homeowner for qualifying for a refinance loan. Unless you can qualify for a special program (like HARP or the FHA Streamline refinance program), you’ll likely need to work on building equity in your home.
The loan-to-value ratio is just one factor that mortgage lenders consider when deciding whether to approve a borrower for a mortgage or a refinance loan. There are other factors that lenders take into account, such as credit scores. But if you want a low mortgage rate (and you want to avoid paying PMI), it’s best to make a sizable down payment and aim for a low loan-to-value ratio.
Tips on Securing a Low LTV
- If you’re not ready to make a reasonable down payment now, don’t rush into the home buying game. Take some time to build up your funds. Check out our reports on the best savings accounts and best certificate of deposit (CD) rates around.
- For help with budgeting and saving, consider working with a financial advisor. A financial advisor can help you analyze your full financial situation and define your goals. SmartAsset’s financial advisor matching tool makes it easier to find an advisor who suits your needs. Simply answer a few of questions about your financial situation and preferences, and then the program will pair you with up to three financial advisors in your area.
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