09 Apr We can’t say the word but here is what it means – Andrew Mirams
Andrew Mirams spends time with us to fully explain cross collaterisation. What it is, the risks, who gets control and – if you want to – how to avoid it.
Kevin: It’s probably one of the hardest phrases to say and certainly one of the hardest terms to understand in property investing, and that is cross-collateralization. I have to be very careful when I say that. Andrew Mirams from Intuitive Finance joins me.
Andrew, I’ve always struggled with those words, but tell me about the meaning behind cross-collateralization.
Andrew: I was going to ask, Kevin, firstly if you could start by saying it three times really quickly. It’s not the easiest thing to say, is it?
Kevin: That’s not going to happen, I can tell you.
Andrew: We might often call it cross-securities or something like that to break it down because not everyone understands what cross collateralization means. To understand what it is in the first place, your collateral is your property or the equity you have in your property.
Where a lot of lenders go with this is they will often link two or three or numerous properties to use that equity but it just intertwines all the properties into one big bundle. It’s a philosophy of ours that we don’t think that’s in the client’s or the investor’s best interests. We think that more favors the lender.
Kevin: So what can the lender do if you are cross-collateralized like that? What are some of the dangers?
Andrew: One of the key dangers I think is you really lose your flexibility. As soon as you have an all-in-one, and say you had a property in Melbourne that had gone up really strongly and you had one in Sydney that had gone up quite strongly but then you were exposed to the Perth market as well and it had gone down or you had a mining town or something like that, and so the Melbourne and Sydney have each gone up by $100,000 but the Perth and the mining town have each gone down by $100,000, your net equity is still zero.
Even though you have really good growth in a couple of your properties, those laggards are actually holding your portfolio back. By having them split out, you have a lot more flexibility where you could take advantage of those increases in equity. While the banks might be aware that you might be sitting on some negative equity or something or the other, they won’t force sale or anything like that as long as you’re meeting your normal commitments. So the loss of flexibility is one of the huge disadvantages to cross-collateralization.
The other thing is if you were to make a change to your portfolio – sell or want to refinance one out – that can often trigger then a revaluation on all your portfolio, and in the example I just gave, it might mean that any event or anything you’re trying to move forward with might actually end up with a nil outcome.
Having to re-trigger or get valuations done on all your properties, obviously the markets will move at different times and phases, so you don’t want to put your portfolio at risk there.
Kevin: How do we go about avoiding that? Is it a matter of going to different lenders for different properties?
Andrew: Look, you can certainly do it at one lender; you don’t necessarily have to go to different lenders. But that is one of the key things for those with larger portfolios and things like that. I think having numerous lenders on your side can be an obvious advantage to avoid that cross-collateralization, but you can avoid it even if you are still just that one lender. It’s just specifically having individual loans on individual properties.
Kevin: It all depends, I guess, on how you look to the bank, isn’t it, and how you present yourself, Andrew?
Andrew: Yes. That’s the thing: if you have your whole portfolio bundled into one lender and everything’s all in one, you’re going to have difficulty in changing vendors, you’re going to have difficulty in accessing your equity, and you’re limiting your choice. Lenders change their policies all the time. You might have one fixed rate in there. That can have a massive impact on your ability to move your portfolio or continue to invest or move forward.
The flexibility and the limiting choices by having everything all in one and all cross-securitized are some of the real keys to why we advocate to not do it.
Kevin: Just to sum it up for me, mate: the key points out of this?
Andrew: The key points are have individual loans on every individual property. Sure, you want to use your equity where there’s been equity gain, but you can do that simply with a second facility against that. You don’t need to add or cross properties.
You want to have more choice than less. You want to have more flexibility than less. You want to be able to continue to move your portfolio forward. And in our opinion, having them cross-collateralized works for the lender and not for you in your ability to do that.
Kevin: There’s an article that we’re going to link to. We’ll send you the link. It’ll be at the bottom of the transcription section on this interview with Andrew, so use that link. That takes you to an article I think you’ve written that gives a bit more detail.
Andrew: Absolutely. It has some keys and actual debt structuring. It has some good diagrams and things like that in there about how you access the equity and how to avoid cross-collateralization. Hopefully that’ll give people a bit of a heads-up, and of course, we’re here for anyone who wants to get more information.
Kevin: Look for that link at the bottom of the transcription on Real Estate Talk. It’s there for you right now.
Andrew Mirams from Intuitive Finance, thank you so much for your time.
Andrew: My pleasure, Kevin.