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Common investor mistakes - cross securitization

By Greg Carroll of Attitude Finance www.attitudefinance.com

 

Investment is a lot like business. Success and survival is not about being the biggest, the strongest or the fastest. It's about being the most adaptable. It means being able to take advantage of opportunities when they present themselves. But also being able to survive and ride out the tough times. Therefore when considering a finance strategy for a client, flexibility is at the top of the list. And with the changes presently occurring in economic and financial markets I think flexibility is even more compelling.  

 

One of the common traps investors often fall into with their finance, and one of the major limiters to flexibility is cross-securitization. Also known as cross-collateralization. Cross-securitization is where an investor uses two or more properties to secure one debt. A typical scenario is where an investment property is purchased and both the investor's home and the new investment property secure the new investment loan. As they add more properties the properties and the debts are all tied together until it becomes something resembling a "scrambled egg".

 

While the bank continues to say yes and allows you to purchase more property this approach works fine but I typically find it holds a number of hidden future problems.

 

  • If you sell one of the properties this may trigger a reassessment of the remaining lending. If your financial circumstances have changed since the original loan - for example new job, started a business, have children, one less person working - then the lender may require a restructure or reduction to your remaining lending.
  • Sale of one of the properties would most likely require a revaluation of the remaining property by the lender. Which not only involves additional cost but may also require a reduction in the remaining lending if the valuation comes in below expectations.   
  • You will most likely have to complete new loan documentation to reflect changes to the loan which could involve additional cost
  • You may sell a property with the intention of using the funds for other purposes however the bank may request some or all of it to go back in against the existing loans to strengthen their position.
  • By placing control with one lender you can loose control over product selection. A lender may insist that some of the debt be placed on a principal and interest basis to reduce your exposure with them. Which will reduce your cashflow.
  • The lender can end up holding far more security than is necessary and it can prove costly to have it released.
  • If you believe one of your properties has increased in value and you wish to release more equity this will usually trigger valuations on all properties held. This not only adds unnecessary cost but could even limit the amount of equity you can access. While one of your properties may have increased in value, one of your other properties may have decreased which will reduce the potential equity. It does happen, look at the Sydney market for example.
  • Your borrowing capacity will vary from lender to lender. If you place all your eggs in one basket and your lender says no then your investment plans may stall.  But by having a more flexible approach you may be able to acquire further funds and continue investing

 

 

I cover structures and strategies you can use to avoid cross-securitization in my FREE online Property Investors Bootcamp. Register FREE at  http://www.attitudefinance.com/free_investor_course