The loan-to-value ratio of a home loan refers to the percentage of the asset’s value, in this case, a property, that a bank or a financial institution will be able to lend to the prospective buyer. Therefore, before approving a home loan, the lender will first evaluate the loan-to-value ratio to ensure that they do not lend the potential buyer an amount higher than the property’s actual price. The loan-to-value ratio is mandatory to calculate the minimum down payment that the property buyer has to pay when buying a property.
Lenders calculate the loan-to-value ratio for a home loan using the following formula:
Loan-To-Value Ratio (%) = (Amount Borrowed/Value of the Property) x 100
To break this down further, if a potential buyer was in the market to purchase a home worth Rs. 1 crore, and if the bank’s loan-to-value ratio is 65%, then the maximum loan amount the buyer can secure the house is Rs. 65 lakhs. Along with using a home loan EMI calculator to calculate the right EMI, it is imperative to calculate this as well.
A higher loan-to-value ratio implies higher risk, while a lower loan-to-value ratio implies a lower level of risk. If the loan-to-value ratio is on the lower side, it puts the prospective buyer in a good position to negotiate better terms and a good home loan interest rate. When the bank or financial institution that the buyer has approached for a home loan evaluates the loan-to-value ratio to be low, the buyer can negotiate on the foundation that there is a lower risk of them defaulting on the payment of their loan; therefore, securing a better home loan interest rate, a better repayment tenure, and other terms.
There are other factors that affect the loan-to-value ratio. These influence the eligibility of the buyer. Parameters like age, financial standing, credit score are taken into consideration as well. In fact, if the buyer has been working for a greater number of years, there is a greater chance of securing a better loan amount and a loan repayment tenure. A low debt-to-income ratio ups the chances of getting a better loan as well.
The Reserve Bank of India has set guidelines for the loan-to-value ratio for a home loan. The loan-to-value ratio can go as high as 90% of the property value for a loan amount of Rs. 30 lakhs and under. Loan amounts more than Rs. 30 lakhs, but under Rs 75 lakhs have a loan-to-value ratio of 80%, and for loan amounts more than Rs. 75 lakhs, the loan-to-value ratio limit is 75%. What does this mean for the prospective homebuyer? With a loan-to-value ratio of 90%, the buyer has to pay for 10% of the property value and secure the remaining 90% from the lender.
The loan-to-value ratio also depends on the type of property that is being purchased. The loan-to-value ratio for residential property is usually higher than the loan-to-value ratio for a commercial space. Industrial properties command a higher loan-to-value ratio as well. The loan-to-value also depends on the occupancy status of the property. Occupied properties demand a higher loan amount than those that are rented or not used.
The loan-to-value ratio is imperative to securing a home loan with favorable terms. Therefore, once the buyer knows the maximum loan value they are eligible for, they can calculate the loan-to-value ratio using the desirable loan amount. This goes a long way in determining whether to apply for the loan and, if yes, on what terms should the home loan be negotiated.