Tennessee Realtor State Practice Exam

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What is the significance of calculating the loan-to-value ratio?

To assess a buyer's affordability
To determine the interest rate
To evaluate the risk of the loan
To establish market trends

The correct answer is: To evaluate the risk of the loan

Calculating the loan-to-value (LTV) ratio is crucial because it helps lenders evaluate the risk associated with a loan. The LTV ratio is computed by dividing the amount of the loan by the appraised value of the property. A high LTV ratio indicates that the borrower is financing a larger portion of the property’s value, which can signal higher risk for the lender. This risk is important because if the borrower defaults, the lender may not be able to recover their investment by selling the property for the price agreed upon in the loan. Thus, a lower LTV ratio often allows borrowers to secure better loan terms, while a higher ratio may result in higher interest rates or even rejection of the loan application.