The concept of cross collateralisation means using the available equity in more than one property to finance the purchase (or in this case the construction) of another property or properties. The advantage of cross collateralisation is that it gives you access to free equity from more than one source and provides the lender with additional security.
The disadvantage is that your various properties are tied together as security for loans, so a default on the mortgage on one property can result in the linked properties being used as security having to be sold. It also makes refinancing more difficult, as it’s more difficult to refinance just one property in isolation when that one property is used as security for another loan or loans.
An example of cross collateralisation
A couple in Melbourne gets approved for a $640,000 loan to buy a property worth $800,000. They have sufficient equity to provide a 20% deposit, so they don’t have to pay Lenders Mortgage Insurance (LMI). After ten years living in this home, they’ve paid off $400,000 of their loan, so they decide to buy an investment property worth $600,000.
Since their mortgage is now only $240,000 on a property which has increased in value over the last decade to $1 million, they have plenty of free equity to provide as security for their negatively geared investment property. They decide to use $180,000 of their usable equity as a 30% deposit for their investment property, meaning they are eligible for some of the lowest interest rates available.
Five years later, they decide to buy a large, 1,250 m2 block and apply for a property development loan to build four townhouses on the site. They now use both their existing home and their investment property as security for the $2.5 million property development loan they need to buy their large block and build their townhouses.
This is an example of using cross collateralisation as security for the property development finance of a new development. Savvy can help you find the best mortgage for property development by comparing lenders and presenting comparison information in a simple side-by-side format.