When I’m reviewing a pre-existing structure for clients who I’m providing advice to for the first time, I commonly uncover that their lending is cross-collateralised. (A practice where all lending is secured by all properties). Its rare I would provide advice for this type of structure as generally it takes flexibility away from a client.
You have property A worth $1M with an $800K mortgage. Then you have property B also worth $1M and also with an $800K mortgage, all loans are at 80% of property values. Say property A then went down in value to $800K. You then decided to sell property B for $1M, two different things would happen depending on whether the properties were cross collateralised or not;
If not cross collateralised; you would net the difference between $1M sale price and the $800K mortgage, or $200K (less costs to sell) on property B. As its standing alone property A is not involved and sits off the side.
If crossed collateralised; as all lending is secured by all properties now, the bank will need all remaining property (property A in this case), to be revalued to confirm what its worth and therefore what amount of lending the bank will permit to remain after the sale. As property A has gone down to $800K, the bank will only permit $640K to remain. Meaning the whole $800K loan, plus a further $160K will need to close with the sale. Leaving you with only $40K sales proceeds (net of costs to sell).
As you can see, its very important to make sure you’re aware if your properties are cross collateralised before you sell. If they are crossed, it can usually be restructured so the properties stand alone through a refinancing process.
Written by Tom Morison