The basics of the Loan-to-Value Ratio (LVR) in the Australian Mortgage Sector
LVR may seem like a simple calculation on face value but it plays a substantial role in deciding whether your home loan gets approved. Things might get slightly complicated when coming to which numbers to put in for calculation.
We will discuss what LVR is, the uses of it and other issues surrounding LVR.
What is LVR?
The Loan-to-Value ratio (LVR or LTV) expresses the ratio of a loan amount to the actual purchase price or valuation of property as a percentage. It determines the down payment required.
Australian lenders generally consider LVRs of 60% or below for no doc loans or low doc loans. On the other hand, LVRs of 80% or above are considered risky, and lenders’ mortgage insurance (LMI) may need to be paid for. LVRs as high as 95% are also available if the loan is mortgage insured.
100% LVR (home buyers not required to pay a deposit) is also possible. Such risky loans are subject to strict requirements such as finding a guarantor (guarantor home loan), which will be discussed below.
Who uses LVR?
Banks and building societies use LVR to represent the ratio of the first mortgage line as the percentage of the entire appraised worth of the real property.
A property is typically determined by an appraiser, or the arms-length transaction between the willing seller and willing buyer. In general, banks use the lesser of the appraised worth and purchase price when the property is purchased within one to two years.
The risk of default always comes before lending decisions, as a lender’s possibility of absorbing loss increases with the decrease in equity amount.
Qualification guidelines for certain mortgage programs in Australia become stricter as the LVR of a loan increases. Of course, borrowers of high LVR are required to purchase mortgage insurance for protecting lenders from the default, which increases the cost of the mortgage.
In general, low LVRs carry with them lower rates for borrowers in the lower-risk category. Lenders could then focus on high-risk borrowers like those with:
Low credit scores
High debt-to-income ratios
Previous late payments in mortgage history
High loan amounts or cash-out requirements
Loans of high LVRs are understandably reserved for borrowers with high credit scores and satisfactory mortgage history. Only the most credit-worthy borrowers are privileged for full financing (or 100% LVR). Loans with LVRs higher than 100% are underwater mortgages.
The proper calculation of the LVR might be complicated, yet note two important things: the loan amount and property value. Lenders in Australia give the main importance on the LVR while assessing the loan application. If the LVR is low, then the risk to the bank is also low.
Free assessment forms are easily found online to help you find out what your LVR means for your ability to borrow.
For example, your property costs $600,000 and you would like to borrow $480,000. LVR = ($480,000 ÷ $600,000) × 100% = 80%.
Purchase Or Valuation Price: Which One to Choose?
You may doubt how LVR is calculated when the purchase price and valuation price are different. There are a few scenarios that might be of help:
Australian Lenders and Mortgage Insurers
They use the lower of the purchase price and valuation price for determining the LVR. This situation is common in off the plan purchases as the value of the property may have changed from the date of which the contract was signed.
What if I am buying a property off of my family?
A favourable purchase occurs when you buy a property from your family at a discounted price.
Some lenders in the nation consider the valuation price rather than the purchase price to calculate the LVR when the contract of sale to purchase the property was signed more than 3 months before the date of application of your loan. Most lenders require a contract to be over a year.
For example, you bought a unit off the plan for $500,000. When you are close to settlement after a year, the valuation becomes $600,000. LVR would then likely be calculated using the latter price.
What’s good about a higher valuation is that a lower LMI premium may result, or even not required at all. While your perception of value may differ from that of the potential lender’s borrower, having valuation done by various lenders would of course help you maximise your borrowing power.
How do lenders calculate the LVR if I am refinancing my property?
Lenders’ valuation of the property will be used to calculate the LVR. Your actual purchase price may become irrelevant as you may have purchased your property some time ago, renovated the property or the property market may have moved. In such cases, independent valuation by lenders will have a higher reliability.
Is my property always valued by lenders?
Not really. For properties being purchased that meets particular criteria, property valuation may not be required. A physical valuation is always more expensive and time-consuming than those automated and driven by valuation.
The method of valuation ultimately boils down to your LVR and the overall risk of your application. Refer to the section below regarding the criteria.
When will a Valuation be Required?
Some Australian banks do not need a property to be valued when it meets some criteria. They adopt the actual price for calculating the LVR instead in the following situations:
LVR is equal to or less than 80%
Loan is under $800,000
Property is being purchased
Complete proof of income provided
Property located in a major regional centre or capital city
Property purchased via a certified real estate agent
Property is not a new dwelling (off the plan or new building)
Vendor not related to potential borrower
What is the Maximum LVR that I can Go For?
The LVR that the Australian banks let you borrow depends on:
Home loan amount required
Loan type applied for
Full doc applicants can generally borrow up to 80% LVR. On the other hand, strong applications can borrow 90 to 95%. Even if you are a low doc applicant who is self-employed without earnings proof, you can still get up to 60% LVR, and even up to 80% if you are in a strong financial position.
Can I borrow 100% LVR?
You will have to find a guarantor to support your loan application.
The guarantor can be your friend or family member with an ownership and equity in another property. A portion of his or her property is put up to secure the portion of the home loan being applied for.
A guarantor may no longer be required when you make additional repayments or the value of the property increases - the LVR would then be low enough for the Australian banks to accept it devoid of any extra security requirement.
If you do not find a guarantor, you can explore the no deposit home loan choices where you do not have to deposit what you have saved yourself.
What is LMI? When is it Relevant?
Lenders Mortgage Insurance (LMI) is applied to a high-risk home loan with an LVR greater than or equal to 80%. The LMI premium paid allows the mortgage insurer to charge the lender a risk free even if you defaulted on your mortgage.
However, if you are a low doc loan borrower who lacks essential documents to prove income and earnings, the lender takes a greater risk and the LMI required in this case is at least 60% of the property value.
Is my LVR considered “high-risk”?
As mentioned above, Australian lenders consider any loan with an LVR of over 80% high risk. An LMI is required for minimising the loan-related risk so that the lender can approve the loan without the risk of losing money.
You can use an LMI calculator to estimate the premium you will have to pay when you are taking out a loan of more than 80% LVR.
Why is my LVR Restricted by the Bank?
Australian banks use the LVR to manage the risk of the loan applications received from potential borrowers. They put a cap on the maximum LVR when the borrower is a high-risk one in order to reduce the risk of the home loan.
Even if you have obtained pre-approval to a loan of a certain LVR, with a previous default, you may only be able to a substantially lower LVR. Your LVR will also be reduced if your property is:
Difficult to sell
With restrictions, e.g. serviced apartments, display homes and heritage-listed properties
Likely to take more than six months to sell
Use different tools online
All beginners to home loans are not aware of all the upfront fees and costs associated with the property investment. The less you have for the deposit, the higher the LVR will be. If you have not taken these costs into your account, then you may have less money left for deposit. You can access and use the savings calculator, home loan deposit calculator, and repayments calculator at any time you like to succeed in your approach for buying the home.
The savings calculator is designed to assist users to find how long it will take to save up for the first home. The home loan deposit calculator supports users to estimate how much they will have for a deposit after deducting the upfront costs. The repayments calculator is designed to let its users estimate what the home loan repayments could be.
You may have decided to buy a property and ensured the importance of properly applying for the home loan in Australia. You can read honest reviews of reliable home loan providers and take note of the pros and cons of different types of home loans.
Contact and discuss us experts in the LVR related issues at any time you like to enhance your approach for qualifying the home loan.
We are here to make the acquisition of your home easier, just as how simple the calculation of LVR ought to be.