When you are pursuing home financing for the first time, your lender will look closely at your loan-to-value ratio (LTV). This LTV ratio indicates how much risk your loan will carry in relation to the property’s value – a ratio that will impact what you pay in interest and overall borrowing costs and affect whether or not you get loan approval.
But if you already own a home and need other financing, the lender will value an equally important metric: the combined loan-to-value (CLTV) ratio, which indicates the total debt secured by a home relative to its worth.
Learn more about CLTV vs. LTV ratio, why the combined loan-to-value calculation is important to know, how to calculate CLTV mortgage math and the loan-to-value ratio, and how to improve your CLTV ratio.
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What does combined loan-to-value (CLTV) mean?
If you currently finance your home and have multiple loans and/or liens on your property, and you want to get additional financing, your lender will evaluate your combined loan-to-value ratio. This is basically a snapshot of how much total debt you have against the home compared to what that property’s current market value is.
“Instead of looking only at your main mortgage loan, this number adds in everything – such as a second mortgage, a HELOC, and any other liens secured by the property, if applicable. It helps you and your lender see how much total equity you will have and how heavily the home is being used as collateral,” says Martin Boonzaayer, CEO of The Trusted Home Buyer.
When will a lender calculate CLTV?
Your lender will want to calculate and determine CLTV if, for example, you seek to:
– Refinance your first mortgage when you also have a HELOC or second mortgage.
– Pursue a cash-out refinance, to ensure that total property-secured debt remains within permitted limits.
– Apply for a home equity loan on top of an existing mortgage or HELOC.
– Apply for a HELOC when you already have a first mortgage.
– Apply for piggyback loans used to purchase a home.
– Request loan modifications or restructures when multiple liens exist on your property.
Your CLTV ratio also suggests how risky it might be for you to borrow more money on top of the debt you already have. A higher CLTV shows that you have less equity, which may lead to stricter limits on how much you can borrow and stricter loan terms; a lower CLTV means you have more equity and are likely viewed as a more reliable and safer borrower candidate to the lender.
CLTV versus LTV
The LTV ratio, which is also important to lenders, only considers a single loan – such as a mortgage loan if you are seeking to purchase a property – against the value of that property. But after you’ve purchased a home, your CLTV ratio is more comprehensive because it accounts for every loan or lien on your home.
“LTV ratio is used at the beginning stages of a home purchase to gauge your down payment requirements and the risk involved in lending. It’s focused on a single loan and does not account for other burdens on the property,” explains Bhavin Swadas, a real estate and finance expert.
“CLTV, on the other hand, is more comprehensive because it accounts for every loan or lien on your home. This makes it more valuable to lenders that are considering lending you an equity-based product, since it is more representative of your financial exposure on the property.”
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Why is the combined loan-to-value ratio important?
Especially when you are pursuing a home equity product like a HELOC or home equity loan, knowing your CLTV ratio is important.
“These lenders want to make sure there is a sizable cushion of equity protecting the loan they are extending. If you have less equity to withstand changes in the market or financial strain, the CLTV will be higher, indicating greater risk,” notes Dennis Shirshikov, a professor of finance and economics at City University of New York/Queens College.
Beyond home equity financing, CLTV also comes into play if you want to refinance, aim to remove mortgage insurance, take out a second mortgage, or use home equity for renovations.
What is considered to be a good CLTV ratio?
CLTV rules vary some by lender and loan product, but a CLTV of 80% or lower is a good benchmark. That’s because it shows you have a healthy amount of equity (at least 20%) accrued.
“Lenders feel safer with a CLTV of 80% or less, which means you are more likely to get approved and offered better rates,” continues Boonzaayer, who adds that some lenders will allow up to 85%. “Once your ratio creeps past 85% to 90%, borrowing typically becomes harder and more expensive because there isn’t much equity cushion left.”
Additionally, homeowners who meet this desired CLTV threshold tend to be eligible for more borrowing options, including HELOCs and home equity loans.
“They tend to be in more insulated positions when the market changes, too,” adds Swadas. “Also, consider that having strong equity gives you more flexibility if you want to refinance or sell your home.”
How to calculate the combined loan-to-value ratio
The formula for CLTV is simple: Divide your property’s current outstanding mortgage debt by the appraised value of the home. Put another way:
CLTV = (Total of all loans secured by the property Ă· current property value) x 100
Lenders can employ an array of different methods to determine value, such as comparable sales data in your area, recent tax assessments, or an automated valuation model (AVM). But often a professional appraisal may be needed – and required by your lender – to accurately calculate the current CLTV ratio, especially if you want to refinance or get a home equity loan or HELOC with affordable payments. Keep in mind that a professional appraisal can cost you a few hundred dollars.
Combined loan-to-value examples
Let’s say you purchased your first home a few years ago for $400,000. You still owe $300,000 on your mortgage. Now, you want to remodel your kitchen, which will require applying for a $50,000 home equity loan. Today, your home is worth $420,000. After adding in the new home equity loan, you would owe $350,000 total. After dividing that sum by the $420,000 value, your CLTV ratio is 83%. Because you are just under the 85% limit allowed by your chosen lender, you are given loan approval.
Or, imagine you want to borrow $50,000 via a HELOC to help pay for your child’s educational expenses and your family’s outstanding medical debt. You paid $500,000 for your house 15 years ago, and you still owe $300,000 on your mortgage loan. That means your entire debt, after drawing from the HELOC, would be $350,000 against a property currently valued at $580,000. That would mean your CLTV is 60% – an impressive number that helps you qualify for better terms and lower interest rates.
How to improve your CLTV ratio
Want to up your chances of getting loan approval? Work on lowering your CLTV ratio. Here’s how:
Decrease your outstanding debts. “Lowering principal amounts on current loans is often the most efficient strategy,” says Shirshikov. That includes paying down your existing mortgage balance, which can be accomplished by making accelerated payments toward your principal.
Make targeted home improvements. Implementing renovations and upgrades that offer a high return on investment and are known to raise appraised value can also increase your home’s worth. “Projects that have a high return on investment include energy-efficient windows, a new kitchen, and a new bath,” recommends Swadas.
– Refinance your mortgage loan to shorten your loan term, lower your rate, and/or remove any secondary liens on your home.
– Avoid taking on any unnecessary debt in the form of discretionary credit card purchases or additional loans.
– Wait things out in the hopes that market appreciation increases your home’s value.
– Get a co-borrower. Adding a financially attractive co-borrower to the new loan you want to pursue could improve your odds of approval despite higher CLTV ratios.
– Pursue many lender candidates. Shopping around is smart, as different lenders offer different CLTV limits, rates, and loan terms.
– Raise your credit score. This can lead to higher allowable CLTV limits, more preferred loan terms, and more attractive interest rates. You can increase your score by paying down your debts, paying your bills on time and in full, and not opening any new credit accounts or closing any existing ones.
Lower CLTVs open up more options
If you’re a homeowner who wants to borrow additional funds tied to your home equity, it pays to calculate and understand your combined loan-to-value ratio. This provides a clear picture of the total debts secured by your property relative to its worth.
“This number is of value to you because it indicates your financial well-being. Having this knowledge can empower you to manage your money and property in a financially reasonable manner without overspending or borrowing irresponsibly,” adds Swadas.
Remember: A lower CLTV number means you have accrued more equity and present less risk to the lender, but a higher ratio signifies more limited borrowing options and greater risk to the lender. Work on improving your CLTV well ahead of applying for financing, and ask your chosen lender questions about any aspects you don’t understand.
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