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Example:
When a borrower wants to buy a house for $100,000 and the loan amount is equal to $50,000, then the LTV ratio is 50 percent. This means that the loan amount of $50,000 is 50 percent of the home’s total value.
There are different ways of understanding the concept of LTV ratio. Higher LTV ratio indicates greater risk for the lender. This is because the difference between the loan value and the property value is very low. Once the borrower defaults with the loan payments, foreclosure is inevitable in case of higher LTV ratio. In order to avoid any such financial disaster, qualification guidelines for higher LTV ratio are quite strict with the borrower having to buy a mortgage insurance. This results in an increase in the overall costs of the mortgage. Higher LTV ratios are mainly reserved for borrowers with exceptional credit history.
On the other hand, lower LTV ratio means that the borrower needs a very small percentage of money in the form of mortgage loan in order to buy a property. For example, it the property value is $100,000 and the borrower requires only $20,000 as loan, the LTV ratio is 20 percent. Lenders readily agree to provide mortgage loans at lower LTV ratio. This is because, the risk on the lender is low in case of lower LTV ratio and lender is assured of getting his money back. With a lower LTV ratio, even a bad credit customer holds a good chance of getting a mortgage loan.
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