Whether you’re just getting started in the home purchase process, you’re right about to close on a home, or if you’ve already reached homeownership, it’s important for you to understand your Loan-To-Value (LTV) ratio and how it affects your finances.
In this article, we’ll break down how to calculate your LTV, and how your LTV impacts your mortgage.
- What is my Loan-To-Value Ratio (LTV)?
- How do I calculate my LTV?
- How does my LTV impact my mortgage insurance fees?
- How does my LTV impact my refinancing options?
What is my Loan-To-Value (LTV) ratio?
Your LTV tracks your progress and shows how much of your mortgage you’ve paid off as compared to the current value of your home.
It also shows how much equity you’ve built up in your home.
There are 3 main ways to build equity in your home: 1) paying off your mortgage, 2) your home going up in value, or 3) a combination of the two.
The more equity you have in your home, the lower your Loan-To-Value ratio will be.
How do I calculate my LTV?
To calculate your loan to value ratio, first take your loan amount.
Let’s say you’re buying a home that’s valued at $300,000 – that’s the purchase price, and you come in with a $15,000 down payment.
If you subtract $15,000 from $300,000, that brings your loan amount to $285,000.
Now that you have your loan amount which is $285,000, go ahead and divide that by your home’s value which is $300,000.
That gives you a loan to value ratio of 95%.
$285,000 / $300,000 = 95%
That’s your LTV at the beginning when you first close on your mortgage before you start paying off your loan.
Now let’s say over the course of 3 years, you’ve been making your monthly mortgage payments of $1100 each month toward the principal balance.
Over the course of those 3 years, paying $1100 per month in principal, you would have paid off an additional $39,600 worth of the loan.
That brings your new loan amount down from $285,000 down to $245,400.
But over the course of those 3 years, let’s say your home has actually gone up in value.
You get an appraisal and the new value of your home has risen from $300,000 to $315,000.
In this example, three years later, your new LTV ratio would be:
$245,400 / $315,000 = 77.9%
Awesome, so your LTV ratio has dipped below 78%! Why is that important?
Loan-To-Value Ratio (LTV) & Mortgage Insurance
In many cases where you get a mortgage and come in with a down payment that’s less than 20%, then you’ll have to pay monthly mortgage insurance fees on that loan.
But as you pay off the loan over time, you may reach a low enough LTV ratio that allows you to get those mortgage insurance fees removed.
For many loan types, once your LTV reaches 80%, you can actually request to have your mortgage insurance fees removed.
You might have to get your home reappraised when you make that request, so keep that in mind.
And once your LTV reaches 78% or lower, then those mortgage insurance fees should just go away automatically.
However, this rule does NOT apply to FHA loans.
With FHA loans, your monthly insurance fees generally will stay on for life, unless you refinance out of an FHA and into a different loan product altogether.
That’s one reason why some homeowners choose to refinance down the line, so they can change out of an FHA and into a different type of loan to get rid of those insurance fees.
Disclaimer: The guidelines surrounding these rules have changed in the past and they may change again, so make sure you talk to your mortgage advisor, as they should have the most updated information for you.
Loan-To-Value Ratio (LTV) & Refinancing Your Mortgage
When and if you choose to refinance, your LTV will play a big role in your refinancing decisions.
Earlier in this article, we mentioned that LTV is an indicator of how much equity you’ve built in your home. (The more equity you have in your home, the lower your Loan-To-Value ratio will be.)
Typically, in order to get a great deal on your refinance, you’ll need to have built up some equity in your home.
Therefore, the lower your LTV, the more options when refinancing your home (and the better chances you have of getting a lower interest rate).
In some cases, having an LTV of 80% or higher might make it more difficult to refinance.
Loan-To-Value Ratio (LTV) Summary
- Your LTV tracks your progress and shows how much of your mortgage you’ve paid off as compared to the current value of your home.
- Your LTV also indicates how much equity you’ve built. The more equity you have, the lower your LTV will be.
- Once you hit an LTV of 80%, you can request to have your mortgage insurance fees removed. And once your LTV is 78% or lower, those mortgage insurance fees should fall off automatically (But typically, this rule does NOT apply to FHA loans.)
- If and when you choose to refinance, your LTV will play a role in your refinancing options. The lower your LTV, the better your chances of getting a great deal on your refinance.