The LVR (Loan to Value Ratio) is an important consideration for both lenders and buyers hoping to take out a loan. LVR is used to calculate the risk of the loan. LVR is calculated for many types of loans, including personal loans and auto loans, but it is most often used for home loans.
What is LVR in Home Loans?
Loan to Value Ratio (LVR) refers to the ratio of the loan amount compared to the value of the asset you’re buying. LVR is particularly important if your deposit is less than 20% of the property value, because this may affect whether or not you have to pay LMI (Lender’s Mortgage Insurance). Some loan applications may also be rejected if the LVR is too high.
LMI is an additional premium that is added on to your mortgage to protect the lender if you default on your loan. LMI can be a significant cost and will also accrue interest over time since it is added onto the balance of your mortgage.
The cost of LMI is calculated according to the LVR. If the LVR is high the LMI will increase as well. However, the cost of LMI may differ between lenders and the policies around LVR may also be different for different suburbs and regions.
Why is it Important?
Knowing your LVR can help you determine whether it’s best for you to buy now or keep saving for a larger deposit. It will also help you get an idea of how much LMI you might have to pay and whether or not it’s worth paying a larger deposit to reduce this.
It’s also important to have an understanding of your LVR before you apply for a loan in case there’s a chance that your loan could be rejected. Rejected loan applications can negatively affect your credit score, so it’s best to try and avoid this outcome.
A higher LVR can also often mean higher mortgage repayments, less flexibility on your loan and fewer borrowing options. For example, taking out a mortgage with a high LVR may reduce the likelihood of being able to re-mortgage down the track.
Loan to Value Ratio Calculation
The LVR on your home loan is calculated by dividing the loan amount by the value of the property and then multiplying this figure by 100. For example, if the value of the property you are looking at is $600,000 and you’re borrowing $540,000 from a lender, the LVR would be 90%. The calculation would be as follows: $540,000/$600,000 x 100 = 90.
The initial deposit you make on the property is the difference between the amount you’re borrowing and the purchase price of the property. Put simply, the bigger your deposit, the lower the LVR will be. Many lenders will also carry out their own independent valuation, which may differ to the market valuation of the property. If this is the case, most lenders will use the bank valuation of the value of the property to calculate the LVR. However, some banks will use the valuation that is lower.
Your LVR may change if the price of the property fluctuates or if you decide to borrow more or less on your mortgage.
Upfront fees such as stamp duty can also have an impact on your LVR because they may affect your deposit. If you are applying for the First Home Buyers Assistance Scheme this may also impact your LVR as well as your upfront fees.
Scenario: George's LVR
George is purchasing a property for $800,000 and has saved up $90,000 to use as a deposit. This means that he will need to borrow $710,000. His LVR would therefore be calculated as follows:
$710,000/$800,000 x 100 = 88.75 (89%)
By dividing the amount that he is borrowing by the value of the property, George has determined that his LVR is 89%. Because this is above 80% he will need to pay lender’s mortgage insurance, which will be added to his mortgage.
What is a Good LVR?
An LVR under 80% would be considered a good LVR because this means that the buyer won’t have to pay LMI, which can save them thousands of dollars.
A lower LVR might mean that you have access to more features and increased flexibility on your home loan. You may also be eligible for lower interest rates.
What is a High LVR?
LVRs of 80% or above are considered high risk loans, which means that you’ll have to pay LMI to insure the lender in the circumstance that you can’t pay it back.
A higher LVR would mean that you’re borrowing more and will have to pay back more in interest over time. LVRs of 90-95% would generally be considered quite high. However, LVRs of 90-95% are not uncommon and may be better options for some people than waiting the time it would take to save a larger deposit. A good LVR may also depend on your personal financial situation as well as the market at the time. You might wish to seek more personal advice as to what kind of deposit you should be aiming for.
A high LVR may place more restrictions on your loan, such as not having access to features like an offset account or redraw facility or having to pay a higher interest rate.
Can I Borrow with 90% LVR?
Most lenders will allow you to take out a mortgage with 90% LVR, but you will have to pay lender’s mortgage insurance (LMI).
Some lenders will set limits on the maximum LVR that they're willing to accept. This might be based on factors like the loan amount, your credit rating or the location of the property.
Loan to Value Ratio and Lenders Mortgage Insurance
Lenders mortgage insurance (LMI) is an additional fee that is added on to your home loan in order to protect the bank if you default on your loan. LMI is required for loans with an LVR of 80% or above. LMI may also be required in circumstances where the buyer has a bad credit rating or limited documentation, even if they have a low LVR.
LMI will be calculated based on your LVR. Generally, the higher the LVR, the more LMI you will have to pay.
Apart from paying a 20% deposit, you may be able to avoid LMI by taking out a guarantor loan (using someone else’s property as insurance for your loan) or applying for the First Home Buyer Deposit Scheme.
Loan to Value Ratio and Refinancing
If you decide to refinance, the lender will perform another valuation of the property before calculating the LVR. This is because the value may have changed since you first bought it. The lender will use this valuation to determine the new LVR, which could put you in a better position to refinance. This calculator could help you determine whether refinancing will enable you to save on your mortgage.
Calculating LVR When Refinancing
Your LVR is calculated using the same formula when you refinance, but the results might be different. The bank will conduct an independent valuation to reassess the value of your home because the market may have changed. You should also have paid off some of your mortgage by that point, so the amount you are looking to borrow will be lower.
For example, if the bank assesses your home to be worth $500,000, and the balance remaining on your mortgage is $350,000, your new LVR would be 70%.
How to Reduce the LVR On Your Home Loan
You may wish to reduce your LVR in order to access lower interest rates and better features and benefits. Some methods for lowering your LVR include:
- Building a larger deposit - this might require working with a tighter budget for a period of time or placing your money in a high interest savings account.
- Buying a less expensive property - you may have a dream home or location that you’re after, but if this is going to break the bank a different property might help you get started.
- Ask a family member to act as your guarantor - having a guarantor may provide the bank with enough security that you won’t have to pay LMI.
If you think you could get a better deal on your current mortgage, you could put your home loan on the market to refinance your home loan and save you money.
