Many people unknowingly allow their bank to cross securitise properties while others have heard that it is a practice to be avoided at all costs. Whether it is good or bad will depend upon your individual situation. This segment is not intended to offer financial advice in relation to your individual circumstances.
Cross securitisation or cross collateralisation is when more than one property is used to secure one loan or multiple loans. For example, you may have your principal place of residence and an investment property with one bank and it is likely that these two properties may be cross securitised. If you were to approach the same bank to purchase a second investment property, they may lend you the money to purchase this second investment property providing that they have security or mortgages over all three properties. This places the bank in a very strong position and may potentially impact upon future investment opportunities for an investor.
As we suggested earlier, many people are aware that their properties are cross securitised. They approach their ‘friendly’ bank manager for an investment loan and the loan is approved subject to a mortgage over your house and the investment property. To check if your property is cross collateralised, look in the loan contract and there will be a section that lists the addresses of the properties over which the lender holds a mortgage. If a property has been previously provided as security, it is important to make sure that the bank has removed it as security if any loan has been paid out.
Is there a time when it is appropriate to allow cross collateralisation?
This will depend a little on your investment strategy. Cross collateralisation may be appropriate if you have equity in a property and you wish to purchase another property but have limited funds available for example a young first time investor. It may also be appropriate where you have one property with equity available and wish to conserve your funds for either another purchase or maybe to undertake a renovation or subdivision. Lastly, there may also be some financial advantages in terms of lower interest rates being available through cross securitisation. You should be the person that is deciding that you want to make cross collateralisation part of your strategy not the bank telling you that they want all your properties. Before entering into such a strategy you need to understand the costs and have a plan in place to exit cross collateralisation when it is convenient and advantageous for you to do so. You need to ask whether the benefits initially to the investor will outweigh the costs and any potential to negatively impact on your future investing.
What are some of the costs involved in cross securitisation?
These will vary between banks, the number of properties used for security but generally there is additional costs in establishing the loan as all properties need to be valued, loan establishment fees etc but the real and hidden costs are associated when you wish to sell one property or refinance one property. The bank will have each remaining property valued to ensure that there is adequate security left for the bank and don’t forget any exit fees, particularly if the loan has been fixed. Each release of property will also require a Variation of Security.
If a property is being sold, depending upon the value of the remaining property, the bank may have a significant say (they have to consent to the release) in the amount of money that you get to retain from the sale. If you are purchasing another property or planning another venture based on funds coming from the sale of that property, unless the remaining property values up, you may receive less funds than you expected.
Because there is no one property market, it is made up of many things such as different property classes, different suburbs and regions, two properties may not have both increased. This could be the situation where the equity in one property has increased either by paying down the loan or by an increase in the market but the other property has remained either stagnant or the valuation comes in lower than the original purchase price for example some of the mining areas in Queensland and Western Australia. If the properties each had their own standalone loan against the property, you would be able to withdraw the increased equity in one property without affecting the other property. Unfortunately, if they are cross securitised then it is unlikely that you will be able to withdraw any equity and forgo maybe another purchase.
Unfortunately, it is not only property prices that may influence how much the banks may release to you. In recent months, we have seen the Australian Prudential Regulations Authority (APRA) forcing banks to tighten mortgage exposure limits, requiring more security.
What are some other disadvantages of cross collateralisation?
Cross collateralisation can make it difficult to refinance particularly when faced with the potentially large costs associated with new valuations, establishment fees, rate break fees for fixed interest rates etc.
If you were to get behind in your loan repayments and your principal place of residence was one of the properties cross securitised, the most likely property that the bank would likely aim to foreclose on would be your house. Your house is likely to have more equity, be in better condition than an investment property so is normally the first property bank target. Wherever possible, putting your Principal Place of Residence up as security should be a last resort. Any loan but especially cross collateralised loans can be affected by the loss of income through illness or death, loss of tenants as well as falling property prices especially if property bought at or near the top of the market.
There is a trend for parents to go guarantor or provide collateral for their children’s loan. Parents should get independent advice before committing to such arrangements as it can have serious implications on any future borrowings that they may want to enter into and in a worst case possibly result in the loss of the parent’s home.
How can cross collateralisation be avoided?
With a little planning, it is possible to avoid cross collateralisation but still achieve buying another investment property.
Prior to searching for your investment property, it is important to get financially ready. By this, we mean to have your tax returns up to date and to release any equity in an existing property. For example, you may have a house valued at $900,000 with a loan of $600,000. You would be able to refinance this house through bank A to a loan to value ratio of 80 percent or $720,000. You could then take the $120,000 as a deposit and fees for the next purchase and apply to bank B for a loan. One loan is with bank A and the second loan is with bank B, no cross collateralisation.
Collateralisation is just one of over 2000 terms that we have included in our book, Its My Time: A-Z of Property and Financial Terms, available in good libraries, bookshops like Readings or from our website.