A lovely lady in our social club recently mentioned that she was trying to understand Cross Collateralisation and how it affected her.
Cross collateralisation is a tricky subject. I have trouble saying it let alone writing about it. But it’s important to know what it is and how it does affect you, so I’ll try to explain it as simply as I can.
Cross collaterisation or also known as cross securitisation explained in the simplest term is where you have several properties being used as security for one or more loans with the same lender. Basically your properties and loans are linked.
Even if you have property with the same bank and you think they are not crossed, you may find there is clauses in the fine print that gives the bank the right to recover funds from any other property or even savings accounts you have with that bank.
As an investor I was always advised that cross collaterisation was not good, and should be avoided for the following reasons:
1. If the bank has all your loans and are using all your properties for security, then the lender has control, not you. And lenders love this, it reduces their risk.
2. If your properties are cross collateralised It becomes harder to refinance or sell one properties without the other ones being affected. If you properties are linked and a valuation is ordered on one property (which is standard when selling) it will more than likely trigger new valuations on all the other linked properties as well.
3. If you own several properties and default on one of the loans or the valuations don’t stack up. The lender can sell the other property/ies to recoup their funds. And they can choose which property they will sell. You don’t get the choice which one.
4. If you do sell one property and make a profit. The bank can take that profit and reduce the loans on the other properties, where as you may have wanted to keep those funds separate to fund the purchase of another property.
Cross collateralisation can become quite complex and could take a while to unravel. It pays to be aware of what you are getting yourself in for and what goal you are trying to achieve before structuring your loans.
The easiest way to avoid cross collateralisation is to have separate loans for each property.
In some cases cross collateralisation can’t be avoided, for example:
1. If you don’t have enough funds or security to make another property purchase, and require two properties to be used as security, or,
2. If your credit rating is not strong and again the lender requires more security.
Consolidating loans will also mean less paperwork as you are only dealing with one lender.
It definitely pays to do your research and speak to your broker about your own loan structures before moving forward with property. Getting it right from the outset will help avoid headaches along the way.
Until next time…
Chicks and Mortar – Women in Property