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Collateral

The third C of underwriting in mortgage is collateral. Collateral is the type of property, the value, how the property is used, and everything related to these aspects.

There are several property types. Following in the order of risk from lowest to highest, they are: single family residence, duplex, townhouse, low rise condominium, high rise condominium, triplex and four-plexes and condotels. The use of this property is also important. If the property is owner occupied, that is if the borrower uses it as primary home, that represents lower risk for the lender. Second homes are somewhat riskier, and property used as investments have the highest occurrences of default.

The property value is of outmost importance. Value is the dollar amount that is supported by recent sales of properties that have similar characteristics, in the same neighborhood and appeal to customers.

Property value is usually determined with an appraisal. The appraiser’s responsibility is to determine the value of the property, to identify the market conditions, the appeal of the neighborhood, and the condition and characteristics of the property, such as: lot size, square footage, number of bedrooms and bathrooms and other additions such as garages, swimming pools and decks.

The comparative analysis of the collateral is known as loan to value (LTV). The loan to value ratio is a ratio of the loan amount to the property value. Naturally, a higher LTV increases the risk of the loan. That’s why many borrowers choose to contribute with a higher down payment (lowering the LTV). They also have lower incidents of foreclosure.