What is Loan-to-Value Ratio (LVR)?
What is LVR?
What is Loan-to-value ratio?
The term LVR is frequently mentioned when looking for a home loan, but what does it actually mean?
The loan-to-value ratio, or LVR, is the value of a property compared to the amount of money you wish to borrow in a home loan, shown as a percentage. LVR is essentially how lenders can assess the risk factor of a loan. The higher the LVR percentage, the higher the risk the loan represents to the lender and vise versa.
How to calculate LVR
Unlike many other formulas in finance, the LVR formula is relatively straight forward to calculate. Typically, lenders will divide the loan amount by the property’s value and convey it as a percentage value, leaving your LVR.
For example, if you want to buy a $500,000 property and have a $50,000 deposit, you would need to borrow $450,000. Dividing $450,000 (the loan amount) by $500,000 (the valuation of the property) comes to 0.9. Multiply this figure by 100 to calculate your percentage value, which gives you an LVR of 90%.
How can you reduce your LVR?
There are two ways to reduce your LVR:
1. Build you deposit
The first way you can reduce your LVR is to continue saving until you have a larger deposit. Saving more intensely for a period to reduce your LVR to less than 80% means you could get a loan at a lower interest rate and avoid having to pay Lenders Mortgage Insurance (LMI).
2. Consider buying a less expensive home
Though it may not be an option for all, it might be worth evaluating the decision to purchase a less expensive home in order to get a foothold in the real estate market. This is one way to lower LVR so it may be seen as a necessary sacrifice.
What is LMI?
Lenders Mortgage Insurance protects the lender against the risk that you will default on your loan repayments. If you have to borrow more than 80%of the purchase price, you will have to pay LMI which typically costs around 2% of the value of the loan.
On a $500,000 loan, that is $10,000. If you have a deposit of 20% or more, you can save this entire cost.
Frequently Asked Question’s
Does LVR matter if I'm refinancing?
Yes, LVR does matter if refinancing. When refinancing a property that you already own, the lender will use their valuation of the property to calculate the LVR.
The reason for this is you may have purchased your property some time ago, so the price that you paid for it no longer represents its current property value.
The property markets may have also moved, or you may have renovated the property meaning a valuation requested by your lender will be much more reliable.
How do lenders value property when calculating LVR?
When lenders are deciding on whether to offer you a home loan and what the rate of interest should be, they will obtain their own formal valuation of the property to calculate the LVR.
The valuation is performed by a professional valuer and may differ to the estimated market value that would be provided by a real estate agent. This is because the lender needs to ensure that they don’t lend more than the property's true value.
In the event that the borrower was no longer able to make repayments on the home loan, the lender’s valuation estimates what the lender may be able to recover from the sale of the property.
Is a higher or lower LVR better?
It is typically advised that you aim for an LVR of 80% or less. For many lenders, 80% or lower, which is a deposit of at least 20% is generally recognised as a good LVR.
Not only would will you avoid having to pay LMI, but most lenders, including loans.com.au, offer a lower interest rate to borrowers who have an LVR of 80% or less. This is because with more equity in the home, there is less risk that they will lose money if you default. This reduced interest rate can add up to tens of thousands of dollars over the life of the loan.
As well as these specific benefits for having a deposit over 20%, it is also worth noting that there are also a number of general benefits from having a larger deposit that will increase the bigger the deposit gets.
- Borrow less - it is obvious but the bigger your deposit is, the less you will have to borrow to buy your home. For example, if you can save a 30% deposit, that is 30% of the homes value that you will not have to pay interest on.
- More borrowing power- the more money you have saved, the less risk you represent as a borrower. If a lender is confident that you’ll be able to comfortably service your loan, you may be able to borrow more.
- Proof of savings - when you apply for a loan, you will need to show evidence of a regular savings history. If you have manages to save a 20% deposit or more, you will most likely have excellent proof of savings.
What is a high risk LVR?
Lenders generally consider loans with a Loan to Value Ratio over 80% of the property value to be high risk. Hence why any loan that is over 80% LVR or higher requires Lenders Mortgage Insurance (LMI).
By having LMI, the risks associated with the loan can be minimised, allowing the lenders to approve your loan as there is less risk of them losing any of their own money.
For example, a borrower with an LVR of 60% would be considered as low risk, whereas an LVR of 90% would be considered high risk.
However, some lenders may require an LVR as low as 60% for properties they consider to represent a higher risk (i.e. at risk of significant falls in value), or for borrowers who want to qualify for particularly low-rate homes.
What other factors affect the maximum LVR I can have?
Lenders have certain conditions that affect the maximum amount of LVR you can borrow. These are dependent on the home loan amount you need, the location of your property, your credit history as well as the type of loan you are applying for.
Generally, applicants who provide sufficient income evidence may be able to borrow up to 80% LVR. However, there is the potential of between 80% to 90% being borrowed in the instance of a strong application.
For example, if a loan has a maximum LVR of 80% and the value of the property you wish to purchase is $500,000, the maximum you could borrow against that property is $400,000, meaning you would need a $100,000 deposit.
For borrowers who require a high LVR loan, some lenders offer the option of having a guarantor to support the application. The guarantor, who in most cases is a friend or family member, should have ownership and equity in another property, as their property would be used as additional security against your loan.
If you’re ready to inquire about finding a home loan right for you, check out our competitive home loans or chat to one of our lending specialists to help you get into the property market.
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About the article
As Australia's leading online lender, loans.com.au has been helping people into their dream homes and cars for more than 10 years. Our content is written and reviewed by experienced financial experts. The information we provide is general in nature and does not take into account your personal objectives or needs. If you'd like to chat to one of our lending specialists about a home or car loan, contact us on Live Chat or by calling 13 10 90.
