ATM :: The puzzling role of ‘loan to value ratio’ in loans

ADHIL SHETTY CEO, | Jul 24, 2015, 11.49 AM | Source:

Though your salary may support a big home loan, loan to value ratio may pull down the actual loan the bank is willing to offer you.

Manish, a young management professional, shortlisted a property worth Rs. 50 lakh and approached his bank for a home loan. The bank offered him a loan of Rs. 40 lakh only. But Manish had saved only Rs. 8 lakh for down payment and was looking forward to borrow Rs. 42 lakh.

Manish had a high credit score and handsome earnings. Puzzled at the bank’s low offer despite his credit standing, he checked his loan eligibility online, only to find the same bank offering him a home loan of Rs. 45 Lakhs.

Manish then approach a housing finance company. There, he was offered Rs. 42.5 lakhs as loan. This made Manish even more confused as to how the final loan amount is decided and how with same financial credentials, he was being offered different loan amounts.

Many home loan buyers with pre-approved loans face a similar situation today, with their loan applications downsized during later stages or even completely denied in some cases. The situation becomes more complex if the borrowers have no money in hand to pay the down payment or if it happens to stretch their finances.

The culprit here is the LTV, or Loan To Value ratio. Let us understand the puzzling role of the LTV ratio and its significance in the home loan application process.

Understanding LTV
LTV is used to calculate the maximum borrowable loan amount for any loan applicant based on the value of the property in question. While the borrower’s income plays a key role in determining the loan approval or rejection, LTV comes into account during the second stage of loan processing.

The value of the property will be assessed by the bank’s technical evaluator, based on the market value of properties in that area.

Most banks offer 85% of the property value as loan, while some banks offer only up to 80%. Some banks even offer up to 90-95% of the property value under special conditions.

If you are seeking a higher loan amount for your property (a higher LTV), the loan is considered to be of high risk for the bank. Similarly loans with lower LTV are considered to be of lesser risk.

How LTV can impact your loan eligibility
As in Manish’s case, based on his income, he was eligible for Rs 45 lakh. But as his property is worth Rs. 50 lakh, he was offered Rs 40 lakh by the bank, as they could offer maximum 80% LTV, whereas the HFC offered 85% LTV for the same property. So your final loan eligibility is also based on the maximum LTV as applicable.

LTV does not include stamp duty
While registering a property bought as second sale or as an outright purchase, a sizeable amount is incurred as stamp duty as well as registration costs. However, while processing home loan applications, banks do not consider the stamp duty and other charges along with the final value of the property.

LTV for land loans
While you can avail up to 80-85% funding in a home loan, the number drops significantly for a land loan. For a land loan, the maximum LTV considered by most banks is 70% of the market value of the plot. This means, a lower quantum of loan is available when purchasing a land or plot. Many banks do not offer loans for land purchases in villages or outside corporation limits, thereby resulting in a later stage rejection of the loan proposal.

How higher LTV can dent your top up loan chances
If you opt for maximum LTV for your home loan, this may impact your future top up loan chances. Since top up loans are offered on the basis of the property value as well, banks may not initiate a valuation later, while approving top up loans. Even if you are eligible for a top up loan considering other factors such as your income and repayment track record, if you have availed the maximum loan initially, there are lesser chances of getting a Top up loan.

When banks go for 90% LTV
Banks permit a 90% LTV under certain conditions only. As per the recent RBI guidelines, for promoting affordable housing, banks can offer 90% LTV for loans under 20 lakhs. Another situation where 90% LTV may be offered is when the bank is lending to a builder. If the bank has a tie up with a particular developer, they may up to 90-95% LTV in some cases.

Why land loan offers are based on lesser LTV
Even though land appreciates in value more than an apartment, land loans come with lesser LTV. This is because banks need to safeguard their interest in case of a possible default. Unlike a built house, there is more due diligence in case of plots, as land records are not yet digitized and there can be complexities in connection with legalities due to encroachment issues and others.

For normal home loans, banks offer loans on a ready product. But for ready houses at second sale, value depreciation is always considered while calculating LTV, unlike offering loan for a house under construction.

LTV can be puzzling for a loan applicant. Armed with the appropriate insights, you can ensure that you understand the eligibility process better and calibrate your expectations accordingly.

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