What Is the Recommended Loan to Value Ratio for a Mortgage Refinance?
Refinancing a loan is not as time consuming as buying a home because you don't have to go through the home search process or coordinate with a seller and his agent. Still, the lender must perform a thorough check on the finances and credit history of someone who wants to refinance. One item in particular you must consider before refinancing is the loan-to-value, or LTV, ratio.
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What Is LTV?
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Loan-to-value is the balance of the mortgage divided by the market value of the house. So, for instance, if the mortgage balance is $100,000 and the home is worth $200,000, the loan-to-value is 0.5 or 50 percent ($100,000 divided by $200,000). The lower this ratio the better the situation is for you as the homeowner and borrower. The difference between the loan balance and the current market value of the house is your equity in the home.
Required LTV
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The general rule is that your LTV should be 80 percent or less of you wish to refinance into a traditional mortgage loan. Some lenders may have less stringent requirements. The LTV requirement is also less strict for people who plan to apply for government loans from Freddie Mac or Fannie Mae. In this case the required LTV is 125 percent or less. If the homeowner pursues a loan backed by the Federal Housing Administration (FHA), the requirement is up to 97 percent as of 2009.
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Determining Value
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If you want to find out the loan-to-value ratio for yourself you must figure out the value of the home. The best way to determine value is with an appraisal from a certified professional. Once you know the appraised value, you can compare the value with your current mortgage balance to determine LTV.
Cash Out?
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If you find that your LTV ratio meets minimum requirements for refinancing you should decide if you want to take cash out as a condition of the refinance. Some people withdraw cash from the equity in the home by adding the extra amount to the refinanced loan (if permitted by the lender) to pay other debts or cover home improvements. The total loan, including the amount you want back as cash, may still have to meet the 80 percent (or higher) LTV rule set by lenders.
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