Loan-to-Value (LTV)
What it is
Loan-to-value (LTV) is a complicated-sounding term for a simple concept: it is the percentage of your property’s value that you plan to borrow.
Let’s say you want to buy a $200,000 home and you have $20,000 (or 10 percent) to use as a down payment. In this scenario, you would have a 90 percent LTV, meaning that your loan would equal 90% of the home’s value. (Here’s the math: $20,000 (10% down payment) + $180,000 (90% loan-to-value) = $200,000 (100% of the property value.)
Why it matters
Loan-to-value is one of the factors lenders consider when approving and pricing a loan. Generally, the higher the LTV (or the lower the down payment), the riskier the loan is to the lender. You may therefore pay more in interest for a lower down payment/higher loan-to-value loan.
In addition, most lenders require private mortgage insurance (PMI) on loans with LTVs higher than 80 percent. Again, this is all about how the lender assesses risk: because loans with higher LTVs are considered more risky, they require that you, the borrower, pay insurance in case you default on the loan. This insures that the lender will be able to recoup its costs should they have to foreclose on the loan and sell the property.
Things to consider
As the mortgage market slows and lenders tighten up their qualifying standards, they may look more favorably on lower LTV/higher down payment loans. It’s a good idea to save up for at least a 10 percent down payment to make yourself more attractive to lenders.
If you want to avoid PMI, but don’t have more than a 10 percent down payment, you may be able to get a combination (or piggyback) loan to get to the 80 percent LTV. It works this way: you get a first mortgage for 80 percent of the home’s value, and a second mortgage for 10 percent. (This is sometimes called an 80-10-10 mortgage.) You will probably pay a slightly higher interest rate on the second mortgage, but it may be worth it to save on PMI. Have your prospective lender run the numbers for you.
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