Funding your fix and flip project can take time and effort. After all, a lender’s approval depends on evaluating the project as it stands and what it might—ideally—become in the future.
What’s more, a lender might calculate this risk assessment in different ways.
If you’re unfamiliar with a loan-to-cost versus a loan-to-value assessment, you’ve come to the right place. Understanding these calculations will clarify how you might approach a lender and could easily determine whether you receive funding.
Let’s explain the nuances of loan-to-cost vs loan-to-value, helping investors like you make informed decisions.
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What are fix and flip loans?
Fix and flip loans are short-term financing solutions for real estate investors who purchase properties, make necessary repairs or improvements, and then sell them for a profit.
These loans cover acquisition and renovation costs, making them ideal for investors looking to capitalize on properties with the potential for value appreciation.
Fix and flip loan features
- Higher interest rates than traditional/conventional mortgages
- Short-term loans, ranging from 12 to 18 months
- Repayment schedules can vary but often include interest-only payments during the renovation period, with the principal balance due when the property is sold
Who uses fix and flip loans?
Both experienced and novice real estate investors use fix and flip loans.
Experienced investors may seek these loans to capitalize on market opportunities quickly.
At the same time, beginners might use them to break into real estate investing without committing much of their own capital upfront.
When a lender evaluates your project, they might use different calculations to check the profit potential of a completed project.
Loan-to-cost (LTC) ratio
The loan-to-cost (LTC) ratio measures the loan amount as a percentage of the total project cost, which includes the property’s purchase price and renovation expenses including the hard and soft costs of the project.
Calculation and example of LTC
To calculate the LTC ratio, use the following formula:
LTC Ratio = (Loan Amount / Total Project Cost) x 100
For example, if an investor needs a $150,000 loan for a project with a total cost of $200,000 (including purchase and renovation), the LTC ratio would be:
LTC Ratio = ($150,000 / $200,000) x 100 = 75%
Borrower advantages of using the LTC ratio
Calculating your LTC ratio can help you stay within budget. It enables better cost control and helps evaluate your project’s financial viability.
Additionally, understanding the LTC ratio can aid investors in negotiating better loan terms with lenders.
Loan-to-value (LTV) ratio
The loan-to-value (LTV) ratio compares the loan amount to the property’s appraised value after renovations.
Calculation and example of LTV
To calculate the LTV ratio, use the following formula:
LTV Ratio = (Loan Amount / Appraised Property Value) x 100
For instance, if an investor takes a $150,000 loan for a property that is expected to be worth $250,000 after renovations, the LTV ratio would be:
LTV Ratio = ($150,000 / $250,000) x 100 = 60%
Borrower advantages of using the LTV ratio
The LTV ratio helps investors gauge the property’s value relative to the loan amount, providing insight into the potential return on investment.
A lower LTV ratio generally indicates a safer investment with less financial risk, making it attractive to both investors and lenders.
Loan-to-cost vs loan-to-value: Key differences
While both ratios are essential for fix and flip projects, they serve different purposes.
The LTC ratio focuses on the project’s total cost, aiding in budgeting and cost management. In contrast, the LTV ratio assesses the property’s value, helping determine the investment’s profitability and risk.
When to use LTC over LTV
The LTC ratio is particularly useful for any construction project wants to ensure that the loan amount covers a significant portion of the project’s costs. It’s ideal when cost management and budgeting are critical to the project’s success.
When to use LTV over LTC
The LTV ratio is more beneficial when an investor aims to understand the property’s value relative to the loan. This is helpful when the priority becomes assessing the potential return on investment and the associated risks.
Benefits of hard money loans for fix-and-flip projects
Hard money loans provide a flexible and speedy financing option for fix and flip investors, often making them more attractive than traditional loans.
Speed and flexibility
Hard money loans offer quicker access to funds, allowing investors to act fast on lucrative deals. The loan terms are more flexible, catering to the project’s and the investor’s specific needs.
Easier approval process
Unlike traditional financing, hard money loans have a less stringent approval process. This can be especially beneficial for investors with less-than-perfect credit or those needing urgent funding to seal a deal.
Loan to cost versus loan to value: The bottom line
Regardless of what kind of fix-and-flip loan you might be considering, understanding the loan-to-cost vs loan-to-value ratios can be invaluable for making informed investment decisions in the fix-and-flip market.
LTC and LTV ratios offer unique insights that can aid in budgeting, cost management, and risk assessment.
By considering these ratios and exploring all your funding options, including hard money loans, real estate investors like yourself can enhance their investment strategies and improve their chances of success in fix-and-flip projects.
Marquee Funding Group knows fix and flip
We specialize in finding a lending solution for investors and homebuyers of all types.
We know what it takes to get a fix-and-flip project off the ground and have helped thousands of investors find a fix-and-flip loan solution.
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