What does the loan-to-value (LTV) ratio represent?

The loan-to-value (LTV) ratio is a financial term used primarily in mortgage lending, representing the ratio of the amount borrowed (the mortgage principal) to the appraised value of the property being purchased. This ratio is expressed as a percentage and is crucial for lenders when assessing the risk associated with a loan. A higher LTV ratio indicates that a borrower is financing a larger proportion of the property’s value, which can signal higher risk for the lender.

For example, if a borrower takes out a loan of $200,000 to purchase a home valued at $250,000, the LTV ratio would be calculated as $200,000 divided by $250,000, resulting in an LTV of 80%. Lenders typically have guidelines for acceptable LTV ratios, as they play a significant role in determining loan eligibility, interest rates, and the necessity for private mortgage insurance (PMI).

Understanding the LTV ratio helps both borrowers and lenders make informed decisions regarding financing real estate transactions.