The loan-to-value, or LTV for short, is commonly used by mortgage lenders, brokers and other financial gurus... find out what it means and why it's important to your mortgage application.
What is LTV?
LTV (Loan-To-Value) refers to the size of the loan, compared to the amount the property is worth. It's calculated as a percentage figure.
How to calculate LTV
It’s easy to calculate the LTV value - just take the amount you are going to borrow, divide it by the value of the property and then multiply the result by 100. You'll end up with a percentage value.
LTV = (amount borrowed / value of property) × 100
Harry borrows £350K from his mortgage lender, for a property worth £375K.
To calculate it, we have (350,000 / 375,000) x 100 = 93. Harry's mortgage LTV is 93%.
What is a ‘good’ loan-to-value ratio?
As a general rule, the lower the better. Let's look at this from a lender's perspective.
Ginny is also buying a home worth £375K. She only needs to borrow £300K (she has been saving super hard for the last 10 years). Her mortgage would have LTV of 80%. (300,000 / 375,000) x 100 = 80.
If a lender had to choose between lending to Harry or lending to Ginny, the loan to Ginny is less risky, as the LTV is lower.
Why does risk matter?
All lenders focus on risk. For every loan they give out, there is a risk that it will not be paid back. They will take this risk into account when they offer the loan.
Higher LTV means higher risk for the lender. A lender will mitigate this risk by offering:
- higher interest rate
- restricted eligibility (for example, they may only lend to individuals with an excellent credit rating)
Conversely, a loan with less risk (for example, 80% LTV mortgage), will tend to unlock lower interest rates and wider options for the borrower.
A small number of lenders will offer a 95% LTV mortgage in specific circumstances. But many others will offer a maximum 90% LTV loan, which means that the home buyer should have a 10% deposit saved.
Is there a "sweet spot"?
Yes - most lenders will give their most favourable interest rates for 80% LTV mortgages. This figure has come from historical and statistical analysis. In the US, loan companies offering <80% LTV mortgages must pay an obligatory Private Mortgage Insurance (the cost of which is passed onto the borrower). While this isn't the case in the UK, many First Time Buyers continue to struggle to qualify for a mortgage loan that offers better interest rates.
How can I decrease my LTV and get a better interest rate?
Save a bigger deposit
Although it may be tempting to step onto the property ladder the moment you have the minimum deposit saved, it’s a sensible idea to save for a while longer in order to decrease your LTV. You can check out our tips for saving for a deposit.
Consider using additional finance
For example an equity loan which can boost your deposit and lower the LTV for the main mortgage lender.