If you own a house, there’s a good chance you’ve gained equity over the last few years. Home prices continue to rise, and although that can be difficult for home buyers, it’s good news for you as a homeowner.
Having more home equity impacts you in a handful of positive ways. One crucial perk is that higher equity lowers your combined loan-to-value (CLTV) ratio and makes it easier for you to qualify for a second mortgage.
Learn more: What is a second mortgage, and how does it work?
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Your combined loan-to-value (CLTV) ratio compares the total debt you owe on your home to the house’s value. This debt includes your primary mortgage and any other secured loans. The lower your CLTV ratio is, the better, because it shows lenders that you’re less of a risk for missed payments or foreclosure.
When you apply for a second loan against your mortgaged home, such as a home equity loan (HEL) or home equity line of credit (HELOC), the amount you plan to borrow will be included in your CLTV ratio along with your original mortgage. If your CLTV is too high — for most lenders, that means anything above 85% — your application can be denied.
Dig deeper: HELOC vs. home equity loan — What are the differences?
Loan-to-value (LTV) ratios and CLTV ratios are very similar. Both compare the amount of debt you owe on your home to your property’s value. The difference is that LTV refers specifically to your primary mortgage loan.
So, if you’re applying for your first mortgage, the lender will calculate your LTV ratio. For instance, if you have a 3% down payment, your LTV ratio on closing day is 97%. But if you’re applying for a second loan on the home, the lender will use the “combined” ratio to include both loans — both your outstanding primary mortgage balance and the amount you plan to borrow with the second mortgage.
For example, if your home is worth $200,000 and you still owe $100,000, your LTV ratio is 50%. But if you apply for a second mortgage of $50,000, the mortgage lender sees your CLTV ratio as 75%. (Even though you haven’t received the second mortgage yet, the requested loan amount is factored into your CLTV when the lender reviews your application.)
If you continue to pay down both mortgages over time, your LTV and CLTV ratios should gradually decrease.
Read more: How LTV ratio affects your mortgage
For loans that use your home as collateral, your CLTV ratio impacts both your chance of being approved and your interest rate. If your ratio is too high, you could face any of the following outcomes:
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High APR: You might be approved for a second mortgage but be charged a high annual percentage rate (APR). The APR refers to both your interest rate and the annual fees you’ll pay on the home loan. The higher your rate, the higher your monthly loan payments and the overall borrowing cost.
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Denied loan approval: The mortgage lender could deny your loan application if you don’t have enough home equity.
Dig deeper: APR vs. interest rate — what’s the difference when getting a mortgage?
Here’s how to calculate your combined loan-to-value ratio:
1. For the “combined loan” part of the ratio, add up the total balance you owe on all loans against your home, including:
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Primary mortgage
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Home equity loan
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The amount you’ve drawn from a HELOC
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The new loan you’re applying for
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Liens or other debt that uses your home as collateral
2. For the “value,” the lender will usually require a professional appraisal to determine the current market value of your home. You can make an informed estimate by looking at the prices of homes that have recently sold in your area and multiplying the average price per square foot (or PPSF) by the square footage of your home.
3. Next, divide your combined loan balances by your home’s value.
4. Finally, multiply by 100 to convert the figure to a ratio.
For example, let’s say your home is worth $250,000. You owe $150,000 on your first mortgage and are applying for a $50,000 home equity loan. Here’s how you’d calculate your CLTV:
(Combined loan balances / value of home) x 100 = CLTV ratio
($200,000 / $250,000) x 100 = 80% CLTV ratio
Learn more: Home appraisal — how it works and how much it costs
If your CLTV is too high, you might need to look for a different type of loan or lender. For example, personal loans don’t require using your home or other property as collateral, so your CLTV doesn’t impact eligibility.
You can also look for specific types of home loans, such as one backed by Fannie Mae or Freddie Mac, since many government programs allow for high CLTV. For example, Fannie Mae offers financing for up to 105% CLTV if you meet specific requirements.
Alternatively, consider your local credit union or a reputable online lender since they’re more likely to have a high maximum ratio than banks.
Read more: How to get a HELOC in 6 simple steps
There are several ways to decrease your CLTV, but they each require time, money, or a combination of both. Depending on your situation, one or more of these moves could be the solution:
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Increase your property value: Keep your home well-maintained and make upgrades or improvements.
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Pay down debt: Pay extra toward your mortgage or other debt backed by your home to reduce the debt against the home more rapidly.
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Borrow less: When applying for a second mortgage, request to borrow a smaller loan amount. This could increase your chance of approval.
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Improve your credit score: With some lenders, you can qualify with a higher CLTV ratio if you have a strong credit score. Each lender has its own minimum score requirements to be eligible for a loan with a high CLTV ratio.
Not sure which action to focus on? If you’ve been denied a loan, ask the mortgage lender for guidance. They may be able to tell you exactly what’s causing your CLTV ratio to exceed their limit and how to make changes.
Learn more: 7 ways to pay off your mortgage faster
Many lenders will accept a combined loan-to-value ratio of up to 80% or 85%. However, the lower your ratio, the more likely you are to be approved for a variety of loans and be offered competitive interest rates.
You can lower your CLTV ratio by paying down your mortgage debt or applying for a smaller loan. Your CLTV ratio also decreases when your property value goes up.
Having 80% CLTV means the combined debt you owe against your house — including your primary mortgage and any other home loans — equals 80% of the home’s value.
This article was edited by Laura Grace Tarpley.
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