We get this question a lot. Common wisdom dictates that if the bank is only willing to lend up to 80% of the collateral value (Loan to Value or LTV), then a private lender should be able to get more borrowers by being more aggressive and lending, say, 90% of the collateral value. Of the thousands of loans that I have done in my career, being too aggressive on the LTV is one of the top contributors to taking loan losses that I have seen.
Keep in mind that bankers do this for a living. Like insurance companies, banks live by “the law of large numbers.” An insurance company can’t predict when you will die, but if they take 100,000 people of your gender, age, health, etc…they can guess within a month or so of the average age that those 100,000 people will pass away. That is how they make money. They win some and they lose some, but they know what they need to charge the group as a whole to win more than they lose. Banks have tons of data on past loans and their underwriters have seen thousands of loans. They know what works and what doesn’t. When they ignore what that data tells them, they tend to get an unacceptable level of losses.
If you are a small loan investor, you probably can’t afford to make or purchase thousands of loans to realize the benefits of the law of large numbers like a bank. You need to be sure that you are doing the right thing to mitigate downside risk to your portfolio.
This is only my opinion, but it’s an opinion that is based on nearly 30 years of lending experience where I made, managed, collected, or purchased tens of thousands of loans. Lending no more than 65% of the true collateral value, in most instances, keeps you out of real trouble. There are many factors that enter into making a good loan. LTV is only one factor and should not be solely relied upon a determining factor, but it’s a big one. It has been my experience that stretching on LTV is a quick way to the poor house.