Loan to Cost vs Loan to Value: What Are the Differences?

According to statistics, the annual mortgage value is anticipated to reach $2.2 trillion in 2022.

Loan to cost and loan to value are metrics used by mortgage lenders to determine the level of risk involved before approving a loan.

During the loan underwriting process, financial lenders usually limit the amount of money they lend out. The aim is to guarantee that the borrower is fully invested in the project’s success.

Are you considering taking up a real estate loan? Then read on. Below we discuss some differences between loan to cost vs loan to value ratios in the real estate industry.

What Is Loan to Cost Ratio?

Loan to cost, LTC is a formula used to measure the amount of loan to be awarded versus the actual cost of the property. Its mostly applied when the final market value of the construction project is unknown.

The value of LTC usually is 80% of the total project cost. The project costs include property acquisition, construction, and development costs. Before disbursal of the loan, the borrowers must first put in their investment share.

What Is Loan to Value Ratio?

Loan to value, LTV is a metric that mortgage lenders use to compare the amount of money they’ll lend you versus the value of the property once completed. To determine the property’s value, you’ll require a real estate appraiser.

The loan’s value varies depending on the property type, lender, and location. LTV is mostly used in renovation projects and investment property loans.

Type of Property

To find the most suitable ratio, you should first consider your project type. Is it a construction project or a turn-key asset?

For construction projects, LTC is best suitable. This is because it puts into account financial requirements and construction costs. Additionally, through LTC, you can get the true value of an asset, unlike in LTV.

For an existing property, you should consider LTV. This is because, in most cases, the market value is often close to the final purchase price.

Level of Risk

Before approving the loan, lenders usually consider the two ratios and then compare the risks. The higher the percentage value, the higher the risk.

Most lenders prefer LTV because it has a low-risk profile compared to LTC. Additionally, in LTV, the property’s final price is normally higher than the purchase price.

Terms of the Loan

Most commercial real estate borrowers prefer working with hard money lenders. This is because these lenders offer higher loan values than banks. However, they charge higher interest to mitigate the risk involved.

Going through a loan to cost guide will help you evaluate the most suitable loan ratio. Before buying any property, consider using a deposit calculator. This enables you to determine how much money you require for a home loan.