LTV Ratio Essential in Planning Home Equity Financing

By Karen Lawson Columnist

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Knowing your current loan-to-value (LTV) ratio can help you decide between refinancing your current mortgage or taking out a home equity loan. An important aspect of shopping for any type of mortgage financing is to compare the annual percentage rates (APRs), of the loans you're considering.

A significant potential expense that should be included in the APR is mortgage insurance (MI). Refinancing for an amount that increases your LTV ratio to more than 80% will lead to your lender requiring MI. This would increase your monthly payment, and therefore, your cost of refinancing.

The ABCs of Refinancing: What is LTV?

Don't be confused by the seemingly endless acronyms used by mortgage lenders. LTV refers to loan-to-value ratio. Your LTV is calculated by dividing the amount of your refinancing by the current value of your home. Let's look at a scenario to see why it's important to know your LTV before and after refinancing. You presently owe 244,000 on your mortgage, and your home is worth 315,000. Your LTV is $244,000 divided by $315,000 or approximately 77%. You want to refinance for an additional $25,000, which would increase your mortgage balance to $269,000. Your LTV would increase to $269,000 divided by $315,000 or approximately 85%. Your mortgage lender would require mortgage insurance in this situation.

If you get a home equity loan instead, you can avoid the cost of MI, as the risk associated with a higher LTV is allocated between two loans. You may prefer rolling all debt into one monthly payment through refinancing, but it's important to calculate differences in overall costs between refinancing and home equity loans. Depending on your LTV ratio, a home equity loan may help increase your savings.

About the Author
Karen Lawson is a freelance writer with more than fifteen years of experience in mortgage banking. She holds an MA degree in English from the University of Nevada, Reno.

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