LTC vs LTV

Loan to cost (LTC) and loan to value (LTV) are two common measures of leverage used by lenders to assess the risk of a real estate investment. While both measures compare the size of the loan to the value of the property, they use different denominators.

LTC

Loan to cost (LTC) measures the size of the loan compared to the total cost of the transaction from the perspective of the borrower. This metric is used for fix and flip loans, bridge loans, and other funding methods that provide capital for the purchase and rehabilitation of the property. Lenders use LTC to determine how much of the borrower's capital is being invested in the project, as well as to assess the potential for cost overruns or unexpected expenses during the construction or rehabilitation phase. In general, the higher the LTC, the riskier the loan is for the lender, as it indicates a larger proportion of the project is being financed by debt.

Loan to cost (LTC) = Loan Amount / Invested Cost (Purchase price of the property + Estimated rehabilitation budget + Sunk capital)

For rehabilitation transactions its vital to look at the costs for the purpose of acquiring capital.

LTV

Loan to value (LTV) measures the size of the loan compared to the appraised value or market value of the property. This metric is commonly used for rental loans or debt service coverage ratio (DSCR) loans, as well as numerous other financial instruments. Lenders use LTV to determine the level of risk associated with the investment, as it indicates the amount of equity the borrower has in the property. In general, the higher the LTV, the riskier the loan is for the lender, as it indicates a greater proportion of the property is being financed by equity.

Loan to value (LTV) = Loan Amount / Market Value ( Current market value per appraisal )

LTC vs LTV

Both metrics are important to understand the amount of risk carrier by the transaction. The higher the value, the more risk is in the transaction due to higher leverage from taking on more debt and conversely also shows how much equity is at risk for the borrower.

The main difference is when these methods are used. Loan to cost (LTC) method is used for Fix and flip loans, when understanding invested costs is more important to measuring risk exposure then understanding Market Value. Fix and flip loans are used to acquire a property that needs work, so the borrower is planning on paying a discount for a property, investing money into its rehabilitation and then selling it. When getting a loan to finance the purchase and rehabilitation (OfferMarket can finance 90% of purchase and 100% of rehabilitation), the value of the property is significantly lower then the expected ARV at the end of the project. Since the ARV is not known before the rehabilitation, the next best solid number is used to understand capital behind this property.

Cost most often includes the purchase price of the property, estimated rehabilitation budged and any capital that already has been sunk or will be sunk such as costs of getting permits. This cost value is used as a denominator to access the amount of risk is in the transaction from the perspective of invested capital, the loan amount. The higher the value of loan to cost, the lower the amount of equity borrower has in the transaction. This increases the risk for the lender since this means the threshold at which the borrower will abandon this project is lower, leaving the lender in the situation where they won't be paid back. To avoid such situations lenders prefer to see leverage within certain LTC ranges that don't results in total loss when something goes wrong with the project. We can all agree, that a borrower with 50 LTV vs 90 LTV will try harder to save the project since they have more of their own money invested.

On the other hand, loan to value (LTV) method is used for DSCR loans, when understanding Market Value is more important then understanding Invested Costs to measure risk exposure. DSCR loans are used by real estate investors and growing landlords to lock in a 30 year rate against their leased rental property. When lending decisions are made in regards to this assets class its more important to understand the Market Value of the property since that is what is going to be the closest thing that is recoverable and shows the relative level of equity the borrower has in the transaction. As previously mentioned, lenders are only able to lend up to a maximum LTV they deem acceptable to get the highest chance of a successful repayment.

LTC vs LTV in the real world

The analysis of LTC and LTV is typically substantiated with various documents, such as appraisals, property inspections, and financial statements. The underwriting process involves several professionals, including loan officers, underwriters, appraisers, and property inspectors. These professionals work together to assess the potential risks and returns of the investment, as well as to ensure that all necessary documents and information are provided to the lender.

For OfferMarket's Fix and flip loan program, the calculation for loan to cost (LTC) consists of loan amount divided by cost, which consists of purchase price of the property and the requested renovation budget. Depending on the nuances of the transaction, additional things may be added to costs such as sunk costs, like previous renovations and future expected expenses such as permits. Adding these supplementary costs allows us to better gauge the level of equity in the deal for the borrower. Higher levels of equity for the borrower in each transaction ensures that the borrower has a healthy profit margin in the deal helping us de-risk the transaction from our point of view.

Conversely, for OfferMarket's DSCR loan program, the calculation for loan to value (LTV) consists of loan amount divided by purchase price of the property. This gives us an understanding of leverage and equity the borrower has in the transaction. Ensuring a healthy margin, keeping leverage to an acceptable level ensures a safer transactions for both the borrower and the lender.

The calculation of both of these metrics begins during the quoting phase of the lending process. If you need an online DSCR loan quote or an online Fix and flip loan quote use these links. During the quote, we will use the information you have supplied to estimate ether loan to cost (LTC) if its a Fix and flip loan or a loan to value (LTV) if its a DSCR loan. Our system uses reference LTC vs LTV bands relevant to each loan type to determine what is the maximum LTC or LTV value that we can provide to the client. The terms that we can provide are always outlined in your "Preliminary loan terms" in your Loan File.

After the initial quote is complete, we gather a lot of documents including property tax bills and appraisals to substantiate all the calculations we took on during the quoting phase. Updated information is fed into our system to produce a new detailed analysis of the transaction along with updated values for LTC and LTV for each loan type respectively. These updated values will be used to determine the final loan amount that we can fund for our clients.

LTC vs LTV Summary

Loan to cost LTC is typically used to evaluate the amount of equity a borrower has invested in a project, as a percentage of the total project cost. This is important for lenders as it demonstrates the borrower's commitment to the project and reduces the lender's risk of default. This measurement is primarily used for Fix and flip loans.

On the other hand, LTV is a measure of the total loan amount compared to the appraised value of the property being used as collateral. This is important for lenders as it helps them determine the maximum amount they can lend while still managing their risk for DSCR loans or rental loans.

Both ratios are useful when making buying decisions or applying for loans, but they should be used in conjunction with other measures such as credit score, income, and cash flow to understand the full risk profile of a transaction. Finally, both of these measures of leverage are a great way to quantify borrower's 'skin in the game'.

Other measures of leverage

Apart from loan to cost (LTC) and loan to value (LTV) there are several other important measures of leverage that lenders and borrowers can benefit from knowing and adding to their investing toolkit. All of these measures are intended to quantify the risk of the transaction while taking into consideration different factors that might be specifically important for the deal at hand, thus its important to keep in mind that selecting correct measure of leverage is highly dependent on the nature of the deal.

• Debt Service Coverage Ratio (DSCR): This is a ratio that measures the borrower's ability to repay the loan by comparing the property's net operating income (NOI) to the loan payments. The higher the DSCR, the more cash flow available to cover the loan payments. OfferMarket can fund loans with DSCR of 1.1 or above. This measure provides us with an insight into the property's ability to cover loan interest payments. The higher the DSCR the higher the 'margin of safety' for both the lender and the client.
• Debt-To-Income Ratio (DTI): This measures the borrower's total debt obligations compared to their income. A high DTI indicates a higher risk of default. OfferMarket rarely uses this measure because all of our loan products are business purpose thus we consider property's ability to generate income rather then the applicant's ability to generate income. This measure is often used by traditional banks and credit unions to underwrite their lending decisions. OfferMarket does not require W-2 income for most loan product since they are made in the name of a business entity and serve a business purpose.
• Loan-To-Appraised-Value (LAV): This is similar to LTV but uses the property's appraised value rather than its purchase price. To be precise this is the value that OfferMarket uses for the purpose of underwriting lending decisions. All our Loan Files are complete with an appraisal report that quantifies property's current appraised value. That appraised value is used for loan to appraised value calculation.
• Loan-To-After-Repair-Value (LARV): This is a ratio used in real estate investing to measure the potential profit of a property after it has been repaired or renovated. OfferMarket does not use this metric for lending decision on Fix and flip loans because of the highly variable nature of after repair value (ARV) estimates. When approaching underwriting of a Fix and flip loan, the loan to cost (LTC) is used instead because costs are hard values that can be supported by existing documentation.
• Equity Multiple: This measures the return on investment for an investor in a real estate project, by comparing the total cash return to the amount of equity invested.

Each of these measures provides a different perspective on the risk and potential return of a particular investment or loan. It's important to understand how each measure is calculated and what it indicates before making any investment or lending decisions.