If you don’t pay money for your house, financing the purchase ends in a mortgage loan equal to the price of the house minus the down-payment amount. For lenders, financing a house loan is a danger that must be assessed. The danger level is higher when the borrower’s down payment is reduced. Lenders evaluate the probability of a loan by calculating the loan to value ratio.
The loan-to-value (LTV) ratio is a number used by lenders to evaluate just how much is financed or owed on a property in relation to its value or purchase price. The lender uses this ratio to evaluate the amount of risk involved in financing the property. The higher the percentage, the greater risk involved with the mortgage loan.
Figure the percentage by dividing the total owed on your house by its value. When first buying a house, this LTV mortgage relies on the original purchase price minus the down payment the buyer is currently supplying. If the homeowner buys a house for $100,000 and places $20,000 down on the house, he is financing $80,000 of the purchase price, leading to an LTV ratio of 80 percent.
Traditionally mortgages were given to borrowers who put down 20 percent and financed 80 percent of the purchase price. This gave the new homeowner 20 percent equity in her home. To promote homeownership and provide opportunities to those who don’t have the money for a 20-percent down payment, the Federal Housing Authority (FHA) insures loans for which the buyer is only required to have a down payment of 3.5 percentage of the purchase price of the house. This FHA down payment provides a home buyer an LTV ratio of 96.5 percent. A 10-percent down payment results in a LTV.
Value vs. Price
In a house purchase, a part of the purchasing procedure includes the creditor getting an appraisal on the home being purchased. In an appraisal, the property is in comparison to similar properties in the region that have recently offered to ensure the purchase price of the house is consistent with home worth in the neighborhood. If the price is higher than other properties in the region, the creditor may recommend the seller lower the purchase price to local levels before approving the loan.
A low down payment that raises the LTV percentage leads to a higher monthly mortgage payment. Additionally, without a 20-percent down payment, the buyer is required to pay private mortgage insurance (PMI) or, together with FHA loans, a mortgage insurance premium (MIP), which also raises the monthly payment.