Real Estate Investment Basics: Loan to Value

Photo credit: Pixabay

When you are analyzing a possible investment the project’s LTV is a key factor to understand the risk.

What is the loan to value ratio, and how can it impact the risk in the investment?

We’re going to look at what the loan to value ratio is, what a good one is, and why it’s an essential factor in whether a lender will approve your loan or not.

Related: As Stock Markets Devalue, Real Estate Stands as a Safer Investment Track

What is Loan to Value?

The Loan to Value (LTV) ratio is a frequently used formula that financial institutions and other lenders review before they approve a mortgage. The LTV ratio reflects the loan amount you are applying for versus the property’s assessed value.

Lenders frequently look at LTVs as a benchmark for how likely the borrower will make payments. As a rule, the higher the LTV ratio, the higher the risk associated with the mortgage loan. Consequently, if the loan is approved, higher LTV loans will often be priced with a higher interest rate.

A high LTV might also require the borrower to purchase mortgage insurance to help offset the additional risk to the lender.

Lenders like lower LTVs, because they require applicants to come up with more money for their down payments.

Loan to Value vs. Loan to Cost (LTC)

Loan to Value and Loan to Cost are formulas that mortgage lenders rely on to help establish the level of risk associated with a loan.

Loan to value is used to compare the loan amount to the purchase price.

Loan to cost is used to compare the amount financed on a project compared to the construction costs to complete the project. 

In other words, LTC looks at the total costs of a project, and LTV looks at the acquisition price.

Why Is a Good Loan to Value Ratio So Important?

A good LTV ratio is important because it is a critical factor that lenders look at for securing a mortgage. The lower the LTV, the lower the risk for the investor.

A lower LTV ratio can help borrowers receive better mortgage interest rates. As the LTV ratio rises, so do the interest rates offered by the lender.

When an LTV ratio climbs over 80%, the lender might require that the borrower acquire private mortgage insurance (PMI). PMI can add 0.5% to 1% of the total mortgage amount annually

Are you ready to gain access to the SecondRE Marketplace? Click Here to Create an Account and Get Started Today!

How to Calculate Loan to Value Ratios?

The Loan to Value ratio is calculated by dividing the mortgage amount by the property’s appraised value and expressing it in a percentage.

LTV Formula:

Mortgage/Appraised Value of the Property = Loan To Value Ratio

Let’s say you’re looking at a property assessed at $100,000 and want to make a $15,000 down payment, resulting in a mortgage of $85,000.

The result is the LTV ratio:

$85,000 Mortgage / $100,000 Assessed Value of the Property = 85% LTV

As you can see in the formula, the higher the down payment made, the lower the LTV ratio. Lenders look at the LTV ratio because they view it as a solid indicator of whether or not a borrower will default on the loan.

Photo credit: Pixabay

What Is a Good Loan to Value Ratio?

As a rule of thumb, lenders consider any Loan to Value ratio of less than 80% as a good LTV. One reason is that many lenders expect borrowers to put 20% of the value of a property as a down payment.

With a loan to value ratio of less than 80%, a borrower will be eligible for more favorable mortgage terms and lower interest rates on the mortgage.

However, a good LTV depends highly on the mortgage a borrower gets. For example, a conventional mortgage loan expects an LTV ratio of 80%, while one is looking for an FHA loan; the LTV ratio could be as high as 90% with a credit score in the mid-500s.

Related: The State of Multi-Family Real Estate Investments in 2022

Loan to Value Ratios and Secondary Real Estate Markets

LTV ratios give investors in commercial real estate a benchmark for the amount of risk involved in investing in a property, including secondary market properties.

Accredited investors, sponsors, and real estate investors are looking more and more toward the secondary market in commercial real estate for investment opportunities.

Secondary market commercial properties are ones where the initial funding round has been completed and the holding period has passed, or the sponsor gives their blessing to initial investors in the property selling all or part of the shares in the property.

Platforms like SecondRE’s Marketplace connect accredited investors with real estate investors looking for liquidity by selling all or fractions of their holdings in cash-generating real estate properties with the sponsor’s consent.

Accredited investors get access to investment properties that might still be in a holding period. Current real estate investors can gain liquidity from selling their shares. Sponsors get access to a new pool of accredited investors while providing current investors an easier exit from their commitment.

Photo credit: Pixabay

The Loan to Value Ratio is a Key Factor in Assessing the Risk in Investing in a Commercial Property

LTV ratios give investors in commercial real estate a benchmark for the amount of risk involved in investing in a property, including secondary market properties.

The loan to value (LTV) ratio is the percentage of a property’s mortgage divided by the assessed value of the property.

For most types of investments, an LTV ratio of 70% or lower is considered good. However, LTV ratios of 80% are acceptable for commercial real estate loans depending on the type of loan they are pursuing.

The secondary commercial real estate market is seeing a boom. Real estate investors with current holdings looking for liquidity can find them by working with companies like SecondRE, which can connect them with accredited investors who can purchase all, or a fraction of their shares with the sponsor’s blessing.

Related: What is “Liquidity” in Real Estate and When is it Needed?

SecondRE - Liquidity for Real Estate

We’re SecondRE

SecondRE partners with sponsors to enable liquidity for their investors.

SecondRE Marketplace enables investors to buy and sell holdings in residential and commercial real estate properties, with the sponsors’ blessing.

By enabling liquidity, sponsors find it easier to attract new investors.

SecondRE Inc. is an American company led by seasoned technology and real-estate entrepreneurs, who have scaled operations all the way to NASDAQ

Related Posts

Real Estate Investment Basics: What is a Sale-Leaseback?

Investors looking to expand their real estate portfolio should consider sale-leaseback transactions, a valuable tool for both buyers and sellers in the commercial real estate market. By selling the property and leasing it back, sellers can free up capital while still retaining the use of the property, and buyers can acquire an income stream with the potential for long-term appreciation. To ensure that the deal is structured in a mutually beneficial way, it’s essential to carefully evaluate the terms of any sale-leaseback transaction and work with experienced professionals. Read our blog to learn more!

Read More

5 Insights to Uncover the Hidden Gems of the Industrial Real Estate Market

Industrial real estate properties are a popular investment choice for those looking to diversify their portfolios and generate steady income streams. From location to market demand: learn the key factors driving industrial real estate investments and the right time to invest. From understanding the impact of e-commerce on the industrial market to the importance of demographic analysis, this blog covers everything you need to know to drive your investment strategy.

Read More

Investing in Real Estate through your IRA

Investing in real estate through an Individual Retirement Account (IRA) can be a smart way to diversify your retirement portfolio and potentially generate higher returns. In this comprehensive blog, we delve into the advantages of investing in real estate through an IRA, including tax benefits and the potential for higher returns. We also explore the types of IRA accounts suitable for real estate investment, including Traditional IRAs and Self-Directed IRAs.
From choosing the right IRA account to finding a suitable real estate investment, and understanding the rules and regulations surrounding real estate investments in IRAs, this blog covers everything you need to know to make an informed investment decision. Whether you are a seasoned real estate investor or just starting out, you want to read this.

Read More

Real Estate Investment Basics: What is a Ground Lease?

Discover the advantages and challenges of investing in ground leases, and how they can be a profitable investment strategy for both landlords and tenants. The blog covers key concepts such as what a ground lease is, how it works, and the advantages and challenges of investing in ground leases for both landlords and tenants. It also discusses the differences between ground leases and traditional real estate ownership, and offers insights into the potential risks and returns associated with ground lease investing. We also cover potential tax incentives and financial benefits that ground leases can offer investors.

Read More

The Accredited Investor’s Recession Survival Guide

The fluctuating stock market that frequently follows a recession poses great difficulty for many investors. Therefore, knowing how to manage the market on the road before and during a recession is a necessary skill. In most cases, the entire real estate market changes when a recession approaches. Learn more in our new blog!

Read More

Real Estate Investments Basics: Capital Stack

Investors who are interested in assessing the risk and predicted returns for a real estate investment should understand the concept of a Capital Stack. Your investment can be designed to mitigate excessive risk or structured for sufficient potential profits by utilizing this model to evaluate tradeoffs. It is one of the most important ways to assess a prospective investment in a commercial property. Learn more in our new blog!

Read More

Why miss out on great Real Estate investment opportunities?

Signing up to SecondRE is FREE and we keep your details confidential.

Once you sign up, you’d get full access to all available opportunities on the Marketplace.