How LVR works: loan-to-value ratio explained

When applying for a loan, one of the most crucial factors lenders consider is the loan-to-value ratio (LVR). Understanding how LVR works can help borrowers make informed decisions, improve their chances of loan approval, and potentially secure better loan terms. In this blog, we’ll break down what LVR is, how it’s calculated, its role in lending decisions, and how it impacts borrowers.

What is LVR?

LVR is a metric used by lenders to assess the risk of a loan by comparing the loan amount to the value of the secured asset, typically a property. It is expressed as a percentage and helps determine the level of risk a lender takes when providing a loan.

How is LVR calculated?

LVR is calculated using the following formula:

For example, if you’re purchasing a property worth $500,000 and require a loan of $400,000, the LVR would be:

In this case, the LVR is 80%, meaning the borrower is contributing a 20% deposit.

The role of LVR in lending decisions

Lenders use LVR to assess risk and determine loan conditions. A higher LVR means a borrower has a smaller deposit and is borrowing more relative to the property’s value, which can indicate increased risk for the lender. Here’s how LVR impacts lending decisions:

1. Loan approval

• Many lenders have maximum LVR thresholds (e.g., 80%-90%). If your LVR exceeds these limits, approval may depend on other factors such as income stability and credit history.
• Some lenders may still approve high-LVR loans but with stricter conditions.

2. Interest rates

• A lower LVR may help borrowers access more competitive interest rates, depending on the lender’s policies.
• Higher LVR loans may attract higher interest rates due to increased risk.

3. Lender’s Mortgage Insurance (LMI)

• If your LVR is above 80%, lenders typically require lender’s mortgage insurance (LMI) to protect themselves against default.
• LMI is an additional cost that varies by lender and insurer. It does not protect the borrower.

4. Loan amount limits

• Borrowers with lower LVRs may qualify for larger loan amounts, as lenders perceive them as lower risk.

How LVR impacts borrowers

Understanding your LVR helps you plan your home loan strategy. Here’s how different LVR levels affect borrowers:

1. Borrowing power

• A low LVR (e.g., 60-80%) increases your chances of approval and can provide access to better loan terms.
• A high LVR (above 80%) might limit borrowing options or require additional costs like LMI.

2. Equity growth

• The lower your LVR, the more equity you have in the property. This can be useful for refinancing or securing future loans.

3. Refinancing opportunities

• If property values increase, your LVR decreases, making it easier to refinance at better rates.
• A high LVR may restrict refinancing options until more equity is built.

Strategies to improve LVR

If your LVR is too high, here are some strategies to improve it:

1. Increase your deposit: A larger deposit reduces LVR, lowering risk for lenders and improving loan terms.
2. Choose a lower-priced property: Opting for a more affordable property can keep LVR within preferred lender limits.
3. Make extra repayments: Paying down your loan quickly reduces LVR over time.
4. Wait for property appreciation: If your property increases in value, your LVR will naturally decrease.

Final thoughts

LVR is a key factor in home loan applications, influencing approval chances, interest rates, and additional costs like LMI. Understanding how it works empowers borrowers to make smarter financial decisions. Whether you’re a first-time buyer or a seasoned investor, managing your LVR effectively can help you secure better loan terms and build long-term wealth.

ASCF offers short-term loans with flexible LVR requirements. Contact us today to explore financing options tailored to your needs.

Want to learn more? Contact us today!