LTV is a fairly simple concept & calculation, but plays a huge importance in financing your rental property. It measures the size of the loan as a percentage of the property's value

Calculation: Loan Amount / Property Value

Example:

$750,000 Loan

$1,000,000 Property

LTV = 75%

The difference between 100% and the LTV represents your equity in the investment property, or how much you have invested. So in the above example, you have a million dollar property, where you have $250,000 in invested equity and a $750,000 loan

NOTE: this doesn't mean that you own 25% of the property, or that since you have a mortgage, the "bank" or "lender" owns the property. No - the investor owns 100% of the property, in the ex, a $1M property. The power of financing allows you to own $1M property with only $250,000!

Investors love HIGHER LTVs because it means they can buy more properties with the same amount of cash. Even a small change in LTV can yield a MUCH bigger portfolio.

Ex/ If you have a million dollars to invest and can borrow at 75% LTV, then you can buy 4 million $ properties, putting $250k down on each

But if you borrow at 80% LTV? You can buy FIVE million dollar properties ($200k down on each)

+5% in LTV = ANOTHER MILLION DOLLAR PROPERTY

However, Lenders love LOWER LTVs because the main tool to protect themselves if someone defaults on their loan (stops paying) is to foreclose on the property & take ownership. Their big risk is that the value of the property declines so it becomes worth less than the loan balance

So for Lenders, LTV represents the "cushion" between how much money they lend and the value of the property they can repossess if things go wrong. So the higher the LTV, the riskier the loan is for the lender, & to compensate, they'll typically charge a higher rate / points

What should you know as an investor in real estate when it comes to LTVs? Higher leverage (LTVs) can make a huge difference in building and scaling a portfolio (see example above!). However, you will take on more risk and likely pay higher rates to do so.

As usual in real estate investing, everyone has different situations, risk tolerances and strategies & theres no one-size-fits-all approach

Hopefully this helps investors looking to understand some of the concepts that go around financing investment loans. Feedback welcome

Robin Simon

[email protected]

Austin, Texas

9 Votes