How Loan-to-Value Ratio (LVR) Affects Your Borrowing Power
The loan-to-value ratio (LVR) is a critical metric in the mortgage industry, influencing both the amount you can borrow and the terms of your loan. In New Zealand, LVR is a key consideration for lenders and borrowers alike, especially in a housing market characterised by fluctuating property prices and regulatory oversight. This article explores how LVR affects your borrowing power, referencing local sources and practices.
What is LVR?
LVR is the ratio of the loan amount to the value of the property being purchased. It is expressed as a percentage and is calculated by dividing the loan amount by the lender-assessed value of the property. For example, if you need to borrow $400,000 to buy a property valued at $500,000, your LVR would be 80% ($400,000 ÷ $500,000).
Why LVR Matters
LVR is a crucial factor because it helps lenders assess the risk associated with a loan. A lower LVR indicates that the borrower has a substantial equity stake in the property, which reduces the lender’s risk. Conversely, a higher LVR means the borrower has less equity, increasing the lender’s risk. This risk assessment directly impacts your borrowing power, interest rates, and the need for additional costs like Lenders Mortgage Insurance (LMI).
LVR Restrictions in New Zealand
The Reserve Bank of New Zealand (RBNZ) has implemented LVR restrictions to manage the risks associated with high LVR lending and to stabilise the housing market. These restrictions vary for owner-occupiers and investors:
- Owner-Occupiers: Generally, banks are not permitted to make more than 10% of their residential mortgage lending to borrowers with an LVR of more than 80% (less than a 20% deposit).
- Investors: For residential investment properties, banks must restrict their high-LVR lending to no more than 5% of their total residential mortgage lending. Typically, investors need a minimum deposit of 30%, resulting in a maximum LVR of 70%.
These restrictions aim to ensure that borrowers have a significant equity buffer, reducing the risk of default and potential financial instability.
How LVR Affects Your Borrowing Power
- Deposit Requirements Your LVR determines the size of the deposit you need. A lower LVR means a higher deposit, which can be a barrier for some borrowers but also provides a larger equity buffer. For example, an 80% LVR requires a 20% deposit, while a 90% LVR requires only a 10% deposit. However, higher LVRs often come with additional costs and stricter lending criteria.
- Interest Rates Lenders typically offer more favourable interest rates for lower LVR loans. This is because lower LVRs represent lower risk for the lender. Borrowers with LVRs below 80% may qualify for lower interest rates compared to those with higher LVRs. For instance, ANZ offers lower interest rates for borrowers with LVRs of 70% or less.
- Lenders Mortgage Insurance (LMI) If your LVR exceeds 80%, you may be required to pay for LMI. This insurance protects the lender in case you default on your loan. While LMI allows borrowers to obtain loans with smaller deposits, it adds to the overall cost of the loan. The higher the LVR, the more expensive the LMI.
- Borrowing Capacity A lower LVR can enhance your borrowing capacity by reducing the risk premium added to your loan. Conversely, a higher LVR may limit your borrowing capacity due to increased risk and additional costs like LMI. Banks may also impose stricter lending criteria for high LVR loans, including higher credit score requirements and more stringent income verification.
Special Considerations and Exceptions
While LVR restrictions are generally strict, there are exceptions and special programmes to assist certain borrowers:
- First Home Buyers: Initiatives like the Kāinga Ora First Home Loan allow eligible first-time buyers to secure loans with deposits as low as 5%, resulting in LVRs of up to 95%. These programmes aim to make homeownership more accessible to first-time buyers.
- Guarantor Loans: Some lenders offer high LVR loans (up to 100%) with a guarantor. This arrangement involves a third party, usually a family member, providing additional security for the loan, which can help borrowers with limited deposits.
Understanding how LVR affects your borrowing power is essential for navigating the New Zealand mortgage market. A lower LVR can offer benefits such as lower interest rates and reduced costs, while a higher LVR can increase borrowing costs and impose stricter lending criteria. By being aware of LVR restrictions and the implications for your financial situation, you can make informed decisions and optimise your borrowing power. Whether you are a first-time homebuyer or an investor, understanding LVR is crucial for achieving your property ownership goals in New Zealand.