Collateralized debt obligations, or CDOs, have become one of the dominant funding vehicles for real estate investments. They have dramatically simplified the process of investing in real estate, as they provide lower interest rates and easy access.
CDOs offer investors a variety of protections, including low interest rates and the safety of a single source of financing. While not common in residential real estate, commercial properties can also benefit from the expanded protections afforded to housing loans.
This article will focus on how cross-collateralization can benefit both residential and commercial properties. However, before we can discuss its benefits, we need to first introduce cross-collateralization itself.
Cross-Collateralization: The New Protection Cardclair Trade Association has introduced cross- collateralization into mortgage banking to increase protection for homes against loan impairments or changes in policy or standards.
Helps secure a more favorable loan
Cross-collateralization is a beneficial borrowing practice that helps secure a more favorable loan rate. When banks offer cross-collateralization, they require a certain amount of equity in the property as security for the loan.
This helps them determine if the property is worth more than its cash on hand, and if it is, it applies pressure on its owner to make necessary improvements to property and market forces.
By requiring some form of equity in a transaction, the bank can assess whether or not the buyer has sufficient liquidity to meet any payments should a default occur. A lack of liquidity can have negative effects on an individual’s credit score, making it hard to obtain new financing.
With cross-collateralization, however, the opposite occurs. The buyer receives less credit for the property because he or she does not have enough equity in it.
Allows use of property assets to secure loan
Cross-collateralization is a powerful tool for securing quick and affordable financing for unique properties. In fact, it is one of the most common financing techniques used by banks to help close a loan.
Using property assets as collateral for a loan not only saves the borrower valuable time in obtaining funding, it also provides more leverage in the overall transaction. Because the bank receives less equity in exchange for their loan balance, they are able to offer more money per property asset than they would with just a conventional loan.
As we discuss in this article, banks use cross-collateralization to help them lower their leverage on individual properties. When both parties have similar levels of debt, this process can decrease leverage and increaseBoth parties receive more equity in the transaction which can lead to better overall deals.
To see if your property has cross- collateralization, look up your property assessment number.
May result in a lower interest rate
Cross-collateralization is a relatively new financing tool that has dramatically altered the game for investors. While not new, cross-collateralization has been gaining traction in the industry as a more efficient way to finance unique properties.
As the name suggests, this process involves combining mortgage loans into one single loan and sharing the interest rate accordingly. This single loan is then offered to an investor, who can add on additional properties if they so desire.
If one property goes under contract, then the other does too. It allows for more total investment capital into a property, which results in higher prices for consumers and investors.
More often than not, lenders will look at a property through its productive (or lack thereof) and what it will take them to buy it. With cross-collateralization, they can see how much money needs to be invested in it in order for it to grow and costumers are happy.
Helps ensure repayment of the loan
If the property is pledged as collateral, then the lender can force the property owner to repay the loan by seizing and selling the property to pay off the debt.
This is called a cross-collateralization policy and it helps ensure that properties remain in default free status. A cross-collateralization policy will require a minimum amount of equity ownership in a property before it can be accepted as collateral for a loan.
This helps ensure that only truly necessary loans are taken out, and that owners have enough equity in their properties to cover any debt. A policy can also help avoid situations where one owner demands repayment of another while they are still alive but unable to take care of their debts.
When dealing with lenders, always ask for a cross-collateralization policy if your property does not meet minimum guidelines for receiving a loan.
Allows for repossession of all assets pledged
Repossession gives property owners the option to sell or repossess their property if the lender fails to make a loan. If you fail to make a loan, your property is at risk for being repossessed.
For instance, a bank loans you money for a property and it is not fully paid off. The bank has a legal obligation to see that money is paid off and the property is maintained.
If they do not take control of the property, another lender can swoop in and obtain their own financing to complete the purchase and/or loan. This allows both parties to continue with their projects but with more confidence that they will be able to obtain financing if necessary.
Having multiple sources of funding provides comfort as well as makes it easy for parties involved to come together again.