Banking terminology can be confusing, especially when it comes to home loans. Loan-to-Value Ratio (LVR) and equity are two financial terms that are commonly used. These are important financial measures used by lenders and we are here to help you understand what they mean.

Loan-to-Value Ratio (LVR):

The Loan-to-Value Ratio, or LVR, is a financial measure used by lenders to evaluate the risk associated with a home loan. It represents the ratio of the loan amount to the appraised value of the property being purchased. In simpler terms, it indicates the percentage of the property’s value that is financed through the loan compared to the buyer’s own funds, typically represented by the deposit.

For example, if you’re purchasing a home valued at $400,000 and making a down payment (deposit) of $80,000, your loan amount would be $320,000. In this scenario, your LVR would be calculated as follows:

LVR = (Loan amount ÷ Property value) × 100 

($320,000 ÷ $400,000) × 100 = 80%. In this case,  the Loan-to-Value Ratio would be 80% for the scenario mentioned above.

Why Does LVR Matter?

LVR is a crucial factor for lenders as it helps assess the risk associated with the loan. Generally, higher LVRs imply higher risk for lenders, as borrowers with smaller deposits have less equity in the property. This makes them more vulnerable to property value fluctuations or financial hardships, potentially impacting their ability to repay the loan. Consequently, loans with higher LVRs may be subject to stricter lending criteria or higher interest rates to mitigate the perceived risk.

Equity:

Equity represents the portion of the property that you truly own outright, free from any debts or mortgages. In the context of a home loan, equity is calculated by subtracting any outstanding loan balance from the current market value of the property.

Continuing with the previous example, if the market value of your home increases to $450,000, and your outstanding loan balance remains $320,000, your equity would be:

n this scenario, your equity would be $130,000.

Why Is Equity Important?

Equity is vital for homeowners as it represents their ownership stake in the property. It serves as a valuable asset that can be leveraged for various purposes, such as accessing additional financing through home equity loans or lines of credit, funding home renovations or improvements, or even as a form of security in times of financial need. Additionally, as equity grows over time, it can enhance one’s financial stability and provide opportunities for future investments or wealth accumulation.

Understanding Loan-to-Value Ratio (LVR) and equity is essential for anyone considering a home loan. LVR helps lenders assess the risk associated with the loan, while equity represents the homeowner’s ownership stake in the property. By comprehending these concepts and their implications, borrowers can make informed decisions to secure favorable loan terms, optimise their financial position, and achieve their homeownership goals.

Are you ready to start your home loan journey? Have a look at our home loan options here.

Still have questions? Contact our Loan Specialists by emailing loans@woolworthsteambank.com.au or call 1300 665 553 and we’ll help you get on the right track.