The loan-to-value (LTV) ratio is a metric used by lenders to assess the level of risk associated with a loan.
As a general rule, a high LTV ratio is a higher risk loan for lenders, whilst a low LTV ratio is a lower risk loan. This is important as it can have an impact on the terms for the borrower. For example, a high LTV ratio loan may come with a higher interest rate. Or, if the LTV ratio is too high, it may not be accepted by the lender at all.
Here, we explore everything you need to know about what the LTV ratio is, how to calculate it, and what it means.
What Is A Loan-to-Value Ratio?
The LTV ratio is the percentage of the value of a property that is being bought through a loan.
For example, if you have a property worth £1,000,000 and you need a mortgage of £700,000, your loan to value ratio is 70%.
This means that the lender is financing 70% of the property’s value, while you are covering the remaining 30%.
This is important for a number of reasons.
Firstly, it signals to the lender how much equity they will have in the property or project. If they are taking on a higher equity percentage, they are taking on more risk.
Secondly, it provides a sort of insurance in case of any market fluctuations. If the market slows down during the loan term and the property can only sell for a percentage of its original value, depending on the LTV ratio, the lender is more likely to have confidence that they will be paid back.
For example, let’s say the LTV ratio is 70%. This means 70% of the property’s value is owned by the lender and 30% is owned by the borrower. If the market suddenly changes and the property only sells for 80% of its original value, the loan can still be repaid in full.
However, if they approved an LTV ratio of 90% and the property only sells for 80%, there is a higher chance that the borrower will default on the loan.
Because of this, borrowers with a lower LTV ratio are seen as less risky, and therefore more appealing.
How Is The LTV Ratio Calculated?
Whilst the formula below will allow you to calculate the LTV ratio, in order to complete it you will need to have a few figures.
Firstly, you will need your property appraised to work out its current market value. This will provide you with the total capital needed for the project.
Then, you will need to know how much capital you (the borrower) are putting into the project. This will allow you to work out the loan amount by subtracting the value of your deposit from the overall property cost.
Once you have these pieces of information, you can simply use the formula below:
LTV Ratio = (loan amount / property value) x 100
On the example of the £1,000,000 property above, the formula will look like this:
£700,000 (loan amount) / £1,000,000 (property value) x 100 = 70% LTV.
Why Is The LTV Ratio Important?
The LTV ratio is important because it will affect the terms of the loan and your eligibility for getting one.
Before you approach a lender, have a look at their terms to see what their maximum LTV ratio is. That will help you work out if your application is right for them, and if you are likely to be approved.
Lenders generally view lower LTV ratios as less risky because the borrower has more equity in the property, making them more likely to complete the project as planned. Because of this, lower LTV ratio loans often come with lower interest rates and better terms.
On the other side, a high LTV ratio means higher risk, which could lead to higher interest rates and more measures in place to protect the lender.
What Is A Good LTV Ratio?
When it comes to borrowing against a property, the lower the LTV ratio, the better.
However, for most unregulated lenders, a good LTV ratio is lower than 70-80%. Whilst traditional government backed mortgages may allow people to borrow up to 90% LTV ratio, keeping it as low as possible can help you save money in the long term.
What Are Standard LTV Ratios For Bridging Loans?
When it comes to getting a bridging loan, different bridging lenders will have different terms, but a typical LTV ratio is around 60-70%.
At Blue Square Capital, we offer bridging loans up to £2 million, with an LTV ratio of up to 70%.
Given the short-term and sometimes riskier nature of bridging projects, it’s very unlikely for lenders to approve LTV ratios above 80-90%.
How To Lower Your LTV Ratio
Lowering your LTV ratio can make your loan application more attractive to lenders. Here are a few ways to get it down:
Increase Your Deposit: The easiest way to lower your LTV ratio is by increasing your deposit. The larger the deposit, the smaller the loan amount, and consequently, the lower the LTV ratio.
Choose A Less Expensive Property: If your budget is tight and you can’t put more money in, choosing a property that costs less can reduce your LTV ratio.
For example, if you have a £40,000 deposit, choosing a property priced at £300,000 instead of £400,000 can significantly lower your LTV ratio.
Understanding Loan-to-Value Ratios
Understanding the loan-to-value ratio is important for anyone looking to finance a property – whether it’s a bridging loan or traditional mortgage.
It not only affects your eligibility, but also has an impact on interest rates and other potential costs. If you can, try and lower your LTV ratio as much as possible to make sure you get the best loan terms from your lender.
