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Today, we continue with our series in underwriting commercial loans. And in this video, we’re going to talk about LTV. What loan to value means in real estate and how it applies to commercial real estate loans. Hey everybody. Welcome to my channel. My name is Leo Landaverde, business coach, outsource CFO and commercial lender, helping you scale your business. If you’re ready to grow your business to seven figures and beyond, while creating the financial freedom and the lifestyle you want, then don’t forget to hit the bell and subscribe to this channel and you’ll be notified every time new content comes out.
Hey, so here it is. Here’s the formula. Basically means loan to value equals loan amount, divided into the value of the asset. Hence loan to value. Now, what you need to understand from the bank’s perspective is that the loan to value dictates how much risk the bank or the lender is willing to put up with. Depending on many factors. Depending on the type of project, depending whether there’s residential versus commercial real estate. Historically, there’s more risk on the commercial side hence the LTVs will be lower because the lower the LTV and the real estate and the project, the lower the risk.
The higher the LTV is, the higher the risk. The gap between the loan… So imagine, right, that this is a house. Right? So, there’s going to be an amount of money put up by the bank. We going call this the loan. Right? And the rest is going to be the equity. Right? So the gap between the loan that the bank gives you and the purchase price or the refinance of the project is going to be the equity. That’s the down payment. That’s your, the guarantees to the bank that you got some skin in the game. The lower the LTV, the lower the risk. The higher the LTV, the higher the risk. Okay. Here are some examples. So in the first example, I’m going to call it example number one, we have $140,000 loan on a $200,000 asset.
Most likely is going to be small rental or non-owner occupied vacation home. In this particular case, you take the $140,000 loan that the bank commits to, against the $200,000 purchase price that gives you a 0.70 factor or a percentage of 70%. So here’s example number two. So say you have a 337, I’m sorry, $337,000 loan and a $365,000 purchase. That equals 0.92 or 92%. So that, those are fairly simple. So in this particular case, you have the loan and you have the purchase price. So what we have to find out is the LTV. Now, what if we changed things? What if you knew the loan amount and the LTV, but didn’t know the purchase price. So say for instance the loan was 1.2 million and the bank went to 70% LTV.
So this is the loan and that’s the LTV. How will you figure out what the purchase price is? So in this particular case you take the 1,200,000 and you would divide it into, you convert that to 0.70 and that’s going to give you a purchase price of $1,714,285. Okay? Right there. So that’s how you know. So if you have the loan amount and you have the LTV, you can figure out the purchase price. In this case 1.7 million. What if you knew the purchase price and the LTV, but didn’t know the loan amount. So, in this particular case, say the bank is willing to lend up to 80% on a property worth 750,000. So, if you know that the bank, let me see here.
So in this case, you know that the loan is willing to lend 80% on a $750,000 property. So the maximum loan will be 700, I’m sorry, 600,000. So that’s how it works. If you know the formula, you can reverse engineer different other factors. So here you have, you know that the two variables you’re missing the LTV. Here you have the loan and the LTV, you’re missing the purchase price. Here you have the purchase price and you have the LTV and that’s what’s going to give you the loaned. Hopefully that was helpful.
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