Normally best avoided but …
Cross collateralisation is when two or more securities ( properties ) are used to secure the same mortgage. If you are unsure just look at the mortgage contracts and if any one contract mentions more than one property then it means all of the properties mentioned are being used as security ie: cross collateralised ( sometimes referred to as cross secured ).
If you are currently crossed we can assist you to clear things up – this doesn’t always mean a refinance
Quite often securities end up crossed due to laziness at the bank or simple convenience eg: I need a small line of credit and the bank will arrange it over the phone ….. But often these situations can be corrected simply by restructuring your existing arrangements – the bank might not be keen but once they realise the alternatives they will almost always agree.
Many self professed investment gurus loudly decry cross collateralisation as the ‘evil spawn of the devil’ and while we always agree that it is usually best avoided there are times when it is either unavoidable or counter-productive to avoid. It can be the case that it is the only way to qualify for the loan that you need!
Right now there is a good example where cross collateralising can be the best outcome. With the current clamp down on “high risk” investment lending it has become difficult to find a good deal on loans with an LVR over 80% in fact with many lenders it is just no longer available. Westpac have an 80% ceiling however if you cross the loan with your PPOR ( primary place of residence) they will lend 95% … could be vital for the borrower who is looking to maximise a negative gearing strategy.
The True Evil
Probably the most dangerous trap with crossed security is when the time comes to change the loan, maybe a top up or more likely selling one of the properties on the mortgage. The lender can and probably will require a valuation of all of the properties involved ( they may charge for this) but what happens if one of the other properties has not performed well – or an even worse scenario where tenants have damaged of trashed the property. One bad valuation can change the entire scenario – the lender can refuse to release the property to be sold. Or the lender can insist that some or all of the funds from the proposed sale are used to reduce the current loan amount and make up for the loss of value in the damaged property.
This can happen even when your equity position is below 80% – there are no laws that force a lender to lend to you just because you have the equity. They can and do say no – in the knowledge that a partial refinance can only proceed with their approval (they do not have to agree to discharge a mortgage when the property involved secures other mortgages) and they expect that a full refinance is a lot of effort and could be very expensive.
You can use one lender and still avoid cross collateralisation
Contrary to what you may have heard, dealing with a single lender can have distinct advantages in terms of cost and convenience – though the perils of cross collateralisation should also be borne in mind. However we have many clients with 10 or more securities all with one lender and none of these are cross collateralised. We normally achieve this using a professional package that allows multiple accounts each individually secured by one property. We simply use a rebalance technique to access equity as and when required. Under this structure an annual fee of $395 can be pretty good value when compared to individual loans and the discounts can be substantial.
Myth 1: Separate collateralisation helps protect your house. There’s a bit of truth in this but only a bit. People think that if a lender doesn’t have a mortgage on your home they can’t sell you up. Not true! If Lender A has a mortgage on your home and lender B has a mortgage on your investment property and you are in arrears on your investment property then you can’t keep your home safe by just keeping up payments to lender A. Lender B has a right to the money you owe them. They’ll sell your investment property first. But if it doesn’t produce enough money they’ve got the right to keep coming – and indeed to sell all your assets until they get their money back. So much for separate collateralisation protecting your house.
The situation with cross collateralisation would be similar. You have two accounts with one lender and are in arrears with your investment property. The lender has the option to sell both your houses – and they’ll do it if necessary. It is true that if you’re cross collateralised the lender could decide to sell your home when you’d rather they sold the investment property. If it was distinctly more saleable than your investment property it’s a possibility – something we have not experienced with any of our clients in over 14 years but it is a possibility.
If your investment property has enough equity for the lender to recover their loan on it, and it’s clear you can service your home, then the lender is likely to leave your house alone. Of course it can’t be guaranteed that they will. But then if your investment property sells for less than you owe on it, separate collateralisation won’t save you either.
Myth 2: Cross-collateralisation is unwieldy when you’re refinancing. You might have heard it said that under a cross-collateralised structure you’ll be required to re-value all of your properties when the time comes to sell one or add to your portfolio. This is because your equity is calculated on the value of all your properties combined. Not only is this costly and inconvenient, it can also place limits on the amount that you are able to borrow one particular investment has not performed well.
It’s certainly possible and we’ve known clients to whom it’s happened, but cross collateralised lenders will often do the common sense thing and simply value the properties you believe will have risen in value since the last valuation.
Myth 3: Cross-collateralisation ‘locks you in’ to a lender. This is really the nub of the whole issue. In principle cross collateralisation does lock you in, but remember if you read any normal loan contract, the rights it gives the lender will make your hair stand on end. They typically have the right to demand a whole range of things – from revaluation to their capital back (generally requiring you to sell up or refinance) at their behest. They don’t do it of course because they’re trying to make money by keeping you as a customer, not by handing you over to the opposition.
But it is true that the use of a single lender for your whole portfolio gives them lots of power over you – in theory anyway. But – and this is the crucial bit – given that all lenders have all sorts of rights you would rather they didn’t have, your real power comes not in the contract with them but in their desire to compete and your concomitant ability to refinance to another lender.
Busting the Myths. Your power to negotiate a better deal is a function of your ability to refinance! So long as your power to renegotiate a better deal is intact you’re in pretty safe hands. Firstly because you’ll get the instant attention of ‘client retention units’ inside lenders when they get wind of your intention to jump ship and secondly because in the event that you don’t we can help you get it from the new lender you’ve chosen. But that involves exit fees I hear you cry! Indeed it does, but so too does refinancing with lots of stand alone loans. And guess what? Because loan structures are usually more complex and there are more loan accounts with stand alone finance, and because they’re often not aggregated into ‘professional packages’ we know of lots of instances where it costs lots more to comprehensively restructure a portfolio of loans obtained through multiple lenders.