By Dian Hymer
One of the factors lenders consider before they approve a mortgage is the loan-to-value ratio (LTV). The LTV is the loan amount expressed as a percent of either the purchase price or the appraised value of the property. So, if you make a 20 percent cash down payment on a property you're buying, the LTV is 80 percent. Or, if you're buying a property for $250,000 and the mortgage amount is $200,000, the LTV is 80 percent (the $200,000 loan amount divided by the $250,000 purchase price).
A mortgage with a high LTV is one where the mortgage amount is high relative to the borrower's cash down payment or to the equity in the property. For example, if the LTV is 95 percent, the mortgage amount is equal to 95 percent of the purchase price and the buyer's cash down payment is equal to only 5 percent of the price. From a lender's perspective, a high LTV mortgage is more risky than one where the LTV is low. When borrowers make a large cash down payment, or have a large equity in a property, they are less likely to default on the mortgage. Borrowers with less equity in a property have less to lose which puts lenders more at risk.
Lenders often require borrowers of high LTV loans to pay mortgage insurance to protect the lender from a buyer default. This increases the cost of the mortgage. High LTV loans can also carry a higher interest rate and they are often more difficult to qualify for. Some lenders require borrowers to have a larger monthly income to qualify for a 95 percent LTV mortgage than is required of borrowers with a 20 percent cash down payment, even though the loan amount is the same.
Sellers also have reason to be concerned about the buyer's LTV. If the buyer's LTV is high and the appraised value of the home comes in lower than the purchase price, the transaction is put in jeopardy. Part of the mortgage approval process involves an appraiser's report of the current market value of the property. If the appraised value comes in lower than the purchase price, the lender will base the LTV on the lower of the two amounts.
Let's say you're putting 5 percent down on a $250,000 property. You need a mortgage for $237,500. The appraisal comes in at $245,000 and the lender is only willing to lend 95 percent of the appraised value, or $232,750--$4,750 less than you need to close. You may have to withdraw from the transaction unless you have an additional $4,750 cash to apply towards the purchase.
First Time Tip: Lenders of high LTV mortgages often require a second, review appraisal before they'll approve the loan. Sometimes this results in a lowering of the appraised value. If you find yourself in a situation where the appraisal comes in below what you need, you may want to move the loan to another lender who will be more lenient on the appraisal. One of the benefits of working with a mortgage broker is that he or she can move the loan from one lender to another quickly.
High LTV buyers are at a disadvantage when they are competing with other buyers. If given the choice, most sellers would prefer to accept an offer from a buyer with a large cash down payment because there's less risk of the deal falling apart.
The Closing: To be more competitive, you may need to look at homes in a lower price range or accumulate more cash, or both.
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