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LTV - Loan-to-Value
Loan-to-value (LTV) is a measure related to mortgages that lenders use as a measurement of financial risk. Namely, because it determines the amount of funds a bank is willing to loan (how much financial risk it's willing to take) to finance an investment.
All of which, of course, is important to the real estate investor because it decides the amount of funds that can be borrowed against the investment (amount of leverage), the cash down payment required, and in turn the amount of financial risk to the investor.
How to Calculate
Loan-to-value is the ratio of the debt to the actual value (commonly the lesser of the appraised value or actual selling price) of a property. To calculate it, divide loan amount by property value.
For example, let's assume you want to purchase a condo rental income property for $300,000 and can borrow $210,000. You would divide the loan amount ($210,000) by property value ($300,000). The loan-to-value is 70%.
How to Interpret
EXAMPLE ONE. Suppose the lender informs you that they require a 70% loan-to-value. What are they telling you?
They will accept 70% of the financial risk (or $210,00 worth of risk), and require you to accept the other 30% (or $90,000 worth of risk).
EXAMPLE TWO. The bank reconsiders and decides it wants a 60% loan-to-value. Interpretation?
The bank has determined to take less of a financial risk (they will lend less, just $180,000), and want you to take more of the risk (you will have to put more cash down, $120,000).
Okay, now consider which loan-to-value (the higher
or lower ratio in the above examples) gives the real estate investor
the better leverage (use of borrowed funds to finance an investment).
Of course, a 70% loan-to-value (the higher of the two ratios) gives the investor the better leverage. Why? Because it means he or she can purchase the investment with more of the banks money, less cash of its own, and in turn shift more of the financial risk on the lender.
ProAPOD® Real Estate Investment Software computes loan to value automatically as you enter the property data and loan information. The LTV is recalculated each time you make changes to the data so it is always accurate. Reports such as the APOD and proforma income statement include LTV.
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