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Loan-to-Value (LTV) Ratio
What is the loan-to-value ratio?
Lenders use the loan-to-value ratio to calculate the risk they run when making a secured loan. LTV in banking determines the discrepancy between the loan amount and the market price of the security, such as a car or house. The LTV would be 40%, for example, if a lender approved a loan for half the asset's worth. The potential loss to the lending institution in the event of a borrower failure rises as the LTV ratio climbs.
The LTV ratio equation is:
LTV (in percentage) = (Borrowed Amount / Property Value) x 100
RBI guidelines on LTV
The Reserve Bank of India has suggested extending the reduced risk weights on home loans for one more year, through March 31, 2023, in a step that will benefit borrowers.
For all new housing loans approved up until March 31, 2022, the Reserve Bank linked the risk weights on personal loans with loan-to-value (LTV) ratios on October 12, 2020.
It has been agreed that the risk weights specified in the circular shall keep for all new home mortgages sanctioned up until March 31, 2023, in recognition of the sector's significance, its multiplier effects, and its role in supporting overall credit growth.
The RBI's circular from October 2020 states that if the loan-to-value ratio is 80% or less, all new home loans would have a risk weight of 35%. The risk weight will be set at 50% if the LTV ratio was higher than 80% and up to 90%.
How does LTV impact your loan approval and repayment?
Lenders may view your loan as riskier if your LTV ratio is higher. Additionally, if you put down a smaller amount, you will own less of the property.
This presents a challenge for the lender since, in the event of a default, it may not be possible for it to recover its losses by selling your estate. A greater LTV ratio may have numerous effects on you as a borrower:
Higher interest rate: You can be required to pay a loan with a higher rate of interest if your LTV ratio is high. That can have a substantial impact on how much you ultimately pay for the loan over time.
Refinancing: A low LTV ratio may make you more eligible for reduced interest rates if you wish to refinance your home or vehicle loan.
Increasing your asset's equity: Less equity in the asset is indicated by a higher loan-to-value ratio. You can move closer to accumulating more equity in the asset by making a larger down payment or purchasing a less costly asset to have a lower loan-to-value ratio.
