Understanding Loan-to-Value Ratio

For example, a borrower wants to purchase a house.  The lender sets a maximum LVR of 80%.  If the borrower signs a sales contract to purchase a house for $600,000, then the borrower’s maximum mortgage loan is $480,000.  The remaining $120,000 (deposit) must come from borrower.

Typically, the higher the loan-to-value ratio, the riskier the mortgage loan. Some banks set the maximum ratio at 90%.  This added risk increases the loan costs for the borrower via higher interest rates and lenders mortgage insurance premium of around 2 to 3% of the loan amount when borrowing over 80% LVR. Note, the LVR is just one of many tools lenders use to assess the risk inherent in a mortgage loan.

Usually investors tend to borrow at around 90% LVR as this achieves the highest possible level of gearing and produces a higher pool for tax deductions.   

The ratio is calculated as follows:

Loan to Value Ratio =  Loan (Mortgage) Amount

valuation of the Property