Cross collateralisation - 10 reasons to avoid

Please give us an example of your situation and I will show it could be uncrossed.

 

Guys. It's been a long day and I'm not thinking straight but I've just had a chat with someone who was saying to cross because you're able to lend the entire amount for an IP and therefore have more deductions, compared to depositing 20% of the purchase cost which will 1. push up your offset account repayments because you are using money from it as a deposit, & 2. mean you're claiming less on the IP loan because you've used 20% deposit.

I think I'm comfortable with reasons not to cross. But is this one of the few reasons to do it...?

My head's hurting.

 

No its not, because you can still borrow 104% of purchase price without crossing. Without using offset account money too

 

Yep - and there lies the problem. People genuinely don't know or understand that the exact same result is possible in nearly all situations.

 

You can do the same without crossing.

Let's say you need to borrow 105% of the purchase price (I've allowed the extra 5% to cover costs such as stamp duty).

You set up a loan for 25% of the purchase price against property A (property you already own)

You set up a loan for 80% of the purchase price against property B (IP being purchased)

You can claim against both of the loans.

Cheers

Jamie

 

Thanks Peter.
In your word, from my current situation: the back uses my almost pay-off 1st home loan as the security to lend me 85% of my 1st IP, I shall pay off the 1st IP asap 1st then restructure my loan, then go for the 2nd IP hunting. Is it right?
Beside, using equity is not the same as use your loan as a security reason? A bit confused.
I was told by the bank, in the worst situation, if I have to sale my 1st IP to pay off the investment loan, I still can keep my current home (no need to sale it).

 

The penny just dropped. Thanks Jamie for explaining that in a way that I understood.

 

I have used cross collateralised two properties in the past and got away with it but I have to agree with Terry here. Don't do it.

I was buying an IP at the same time as a messy refinance and used an unencumbered main residence as security to borrow 105% of the purchase price of the new IP. It cost a couple of hundred dollars extra to set up the loan with 2 security properties. Three years later I refinanced again and uncrossed at the same. The fees were less than $500. As I said, I got away with it but, as mentioned above, this is a risky strategy. I was in a good position that my IP significantly increased in value and I didn't need to sell either property in the three years they were crossed.

The main point though is that is was not necessary to structure the loan this way. It would have been straightforward to set up separate loans against the MR and the IP and still borrow 105%. I really don't see any reason in my situation to unnecessarily tie two properties together. It is likely in the future that I will use the unencumbered MR to borrow against to buy another IP. However, it will be with a separate loan or line of credit. I won't cross the properties again because of the risks and disadvantages outlined above.

 

This is a much better structure than what I used and one I will be using in the future. I should note here that loan A could be a standard mortgage or it could be a line of credit. It just depends on the products your lender is offering.

 

No probs - glad it helped.

Perthguy makes a good point above too in regards to the loan type. It doesn't necessarily have to be a line of credit against property A - a standard term loan with redraw capability will do the trick....and usually at a slightly lower rate.

Cheers

Jamie

 

Thanks,

Sadly I'll have to confess to my rookie mistakes. Didn't know mortgage brokers existed until I came to SS forums.

But with that aside, here's my situation:

Originally crossed with CBA already when purchasing the second IP.

Securities:
IP Property A: purchased for 470k in 2010 - valued by CBA for 620k
IP Property B: purchased for 550k in 2012 - valued by CBA for 620k


IP Loan A:
Start year: 2010
Initial borrowing: 380k
Balance: 360k

IP Loan B:
Start year: 2012
Initial borrowing: 480k
Balance: 480k

*Refi'ed to NAB with 80% LVR 5 in feb
*Parked all excess funds into redraw facility

Securities:
Property A: Valued by NAB for 750k
Property B: Valued by NAB for 520k


New IP Loan A:
Initial borrowing: 400k
Balance: 360k

New IP Loan B:
Initial borrowing: 600k
Balance: 480k

 

Hi Mugen

This seems pretty straight forward (ignoring the redraw part)

At the moment
Loan A is $360,000. Security is property A and property B
Loan B is $480,000 Security is property A and property B.

After
Loan A $360,000 to be secured by property A only
Loan B is $416,000 to be secured by property B only (reducing it to a max of 80% LVR of $520k)
Loan C is $64,000 to be secured by property A only (this is the amount loan B was reduced by)

Loan A is deductible against property A
Loans B and C are deductible against property B

No crossing

To include the 'redraw' part
property A is worth $750,000. 80% = $600,000
$600,000 is the total available loans that would be secured against property A keeping the LVR at 80%.
Loan A is $360,000
Loan C is $64,000
These total $424,000 so the amount of available equity to use would be $600,000 - $424,000 = $176,000

Therefore
Loan D $176,000 secured against property A, deductible against the property it is used for.

All loan should be IO. Ideally loan D would be a LOC.

 

I recall from SS that some people signed up to loans and later found out that two properties were crossed. It might be worth mentioning here how to read the loan docs so that people don't accidentally cross securitise unless they really want to.

 

Thank you Terry for the detailed explanation. Makes sense that way.

Since additional accounts are required to create Loan C and Loan D, would it be warranted as a refinance?

I'll like to think this is a simple process but I'm wondering what trade offs I need to prepare to make to resolve and achieve the structure described above.

• I will lose my current discretionary discount rate = Interest rate will go up?
• Potentially need to pay back some of the equity since servicing calculators are now tightened?
• Some One-off processing fee?

 

It's really as simple as checking the loan docs where it states 'Security'. If there's only one property listed, you're all good If there's 2, you've got a problem - which should be easy to fix at that stage.

 

If you are just substituting security then not much will change, but if you do what I described this is a restructure and will result in a reassessment. I am doing a restructure and uncrossing with NAB at the moment for a client. No app fee, but the rate went up slightly - we are waiting on a pricing discretion.

 

I guess in this instance a simple security substitution maybe not be feasible since property B is badly valued. I won't be able to secure this against loan B for 480k without reducing it to a max of 80% LVR of $520k?

I have feeling this is probably wrong. But is it a huge tax implication if I do the following security substitution?

Loan A is $360,000. Security is property B
Loan B is $480,000. Security is property A

My current discount is 1.31%
So what sort of magnitude of decrease in discount would we be looking at when you meant "slightly"?

 

No change in deductibility of the loans if you restructured as per my post.

Rates for my clients went from about 4.24% to 4.44%, I have made an application to reduce this and am still waiting to hear final rate.

 

As of today, the NAB isn't negotiating on rates for investors, nor are most other lenders. Removing the cross collateralisation may require new loans to be set up and it's probably not possible to get the same rates that you've already got. Today the same loans might get a 0.9% discount, possibly 1.0% with the NAB and other major banks.

There are lenders who can do quite a bit better. Roughly 4.3% is quite achievable with some of the smaller lenders which would be close to what you've currently got.

 

Thanks Terry and Peter!!