The loan-to-value (LTV) ratio is a calculation lenders use in evaluating mortgage applicants, in order to understand the degree of risk they assume when approving a mortgage. The LTV ratio is important to lenders, as it is a part of their assessment for applicants purchasing a home, refinancing a mortgage or borrowing against their property’s equity.  

The formula is as follows:

LTV ratio: Mortgage amount ÷Appraised property value

With this ratio, the amount borrowed is divided by the appraised value of the property, and calculated as a percentage. As an example, if a house that is purchased has an appraised value of $500,000 and the down payment is $50,000, then the amount that will be borrowed is $450,000. With $450,000 (the mortgage amount) divided by $500,000 (the appraised property value), this would result in a 90% LTV ratio.

The loan-to-value (LTV) ratio is a calculation lenders use in evaluating mortgage applicants in order to understand the degree of risk they assume. Credit: Amol Tyagi/Unsplash

The home’s sales price, down payment and the appraised value of a property are the three major facets that affect LTV ratios. The higher the down payment and the lower the sales price, the lower the LTV ratio. Lenders tend to approve mortgages for applicants that have an LTV ratio at or below 80%.

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In general, those with high LTV ratios are deemed to be higher risk, because lenders believe there will be a greater likelihood of the borrower defaulting on the loan. If the property is foreclosed upon, the lender could find it challenging to sell at a price high enough to make up for the outstanding mortgage payments and also make a profit.

Therefore, if a lender approves a mortgage with a high ratio, then the loan will likely have a higher interest rate. In some cases, an applicant with a high LTV ratio might be asked to buy private mortgage insurance to help negate the risk for the lender.