Loan-to-Cost Ratio (LTC)
What Is the Loan-To-Cost Ratio (LTC)?
The loan-to-cost (LTC) ratio is a measurement utilized in commercial real estate construction to compare the financing of a project (as offered by a loan) with the cost of building the project. The LTC ratio permits commercial real estate lenders to decide the risk of offering a construction loan. It likewise permits engineers to comprehend the amount of equity they hold during a construction project. Like the LTC ratio, the loan-to-value (LTV) ratio additionally compares the construction loan amount yet with the honest assessment of the project after completion.
The Formula for LTC Is
What Does the Loan-To-Cost Ratio Tell You?
The LTC ratio is utilized to work out the percentage of a loan or the amount that a lender will give to finance a project in view of the hard cost of the construction budget. After the construction has been completed, the whole project will have another value. Consequently, the LTC ratio and the LTV ratios are involved one next to the other in commercial real estate construction.
The LTC ratio assists with portraying the risk or risk level of giving financing to a construction project. Eventually, a higher LTC ratio means that it is a riskier venture for lenders. Most lenders give loans that finance just a certain percentage of a project. By and large, most lenders finance up to 80% of a project. A few lenders finance a greater percentage, yet this regularly includes an essentially higher interest rate.
While the LTC ratio is a relieving factor for lenders that are thinking about the provision of a loan, they must likewise think about different factors. Lenders will likewise consider the location and value of the property on which the project is being constructed, the credibility and experience of builders, and the borrowers' credit record and loan history too.
Illustration of How to Use LTC
As a speculative model, let's expect that the hard construction costs of a commercial real estate project are $200,000. To guarantee that the borrower has some equity in question in the project, the lender gives a $160,000 loan. This keeps the project somewhat more balanced and urges the borrower to see the project through its completion. The LTC ratio on this project would be calculated as $160,000/$200,000 = 80%.
The Difference Between Loan-to-Cost and Loan-to-Value Ratio
Firmly connected with LTC is the loan-to-value ratio, however it is somewhat unique. The LTV ratio compares the total loan given for a project against the value of the project after completion (instead of to its cost of construction). Taking into account the above model, let us expect that the future value of the project, once completed, is double the hard construction costs, or $200,000. Assuming that the total loan given for the project, after completion, is $320,000, the LTV ratio for this project would likewise be 80% or $320,000/$400,000.
Features
- A higher LTC means the project is riskier for lenders, where most lenders will just finance a project with a LTC of up to 80%.
- Loan-to-cost (LTC) compares the financing amount of a commercial real estate project to its cost.
- In the interim, loan-to-value (LTV) compares the loan amount to the expected market value of the completed project.
- LTC is calculated as the loan amount separated by the construction cost.
