Fairfield Financial Services, Inc. - Private Money Loans, Lending & Borrowing

Calculating LTVs for rehab, development, and construction loans

Clay Sparkman

We thought a quick primer on LTV calculation for projects involving construction would be of use to most of those who utilize or broker private money.

You really need to use two LTVs. We use a Front End LTV (F-LTV) as well as an After Repair Value (ARV) or Final LTV (LTV), when evaluating loans. We do this to analyze risk at the start of the loan and again when the project is finished. This is to ensure that our investors’ capital is protected going into the loan as well as coming out of it (and throughout the construction process as well).

Let me give you an example. Say you have a property that is worth $150,000 ‘as-is‘ and you are buying it for $90,000. The most we could lend you toward the purchase of the property would be $105,000, or 70% of the value of the property ‘as-is’, before any construction (note: max LTV’s can vary, so it always helps to ask). As a result, you would need to get the net loan amount (purchase price or payoff amount minus down payment), closing costs, and interest reserve to add up to be under $105,000. Keep in mind that interest reserve may be optional. If you can show that you don’t need it, then you may drop it from the calculation. Here’s the formula:

Front End LTV =

Net Loan Amount + Closing Costs + Interest Reserve/As Is Value

This calculation should be under 70%. If it isn’t, you can drop the interest reserve (if it is not needed to make the loan work), bring in some cash, bring some additional collateral or have the seller take a ‘carry back’ and subordinate it to our loan. There are various ways to creatively build in some equity. The lower this number is the better. You’ll get better interest rates and a greater chance of approval. If you come in with an F-LTV of 65% or under, you’re looking very good.

For us, F-LTV is the more important of the two LTV’s. This number must work or you’re not even getting to first base. Also, if this number is in line, your LTV’s will stay in line to the end. This is because once you start the construction you’re adding value to the property by more than the cost. So, theoretically your LTV should go down or stay the same as when you started building.

Once the F-LTV is in line we can then talk about construction costs. Obviously construction adds value. We hold the construction funds in a construction draw account so we can make sure that the project is proceeding on time and on budget, and that work is paid at the time of completion. Basically, need to ensure that value is being added as the project funds are advanced.

Once you’re done with construction, we can talk about the ARV or Final LTV. The formula for this is:

Final LTV (or the more traditional ARV) =

Total Loan Amount (now including construction hold-back)/Future value (or ARV)

That’s it. Once you get the hang of it you’ll understand why it’s a good tool.

– Clay (clay@privatemoneysource.com, 503-476-2909)

Clay is Vice President of Fairfield Financial, a primary source for private money since 1964.  Fairfield is currently targeting loans in OR, WA, AK, CA, CO, ID, FL, GA, ID, MT, NV, NY, OK and TX.  To submit a loan to Fairfield for consideration: http://www.privatemoneysource.com/loanproposal.php

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