Cross-Securing vs. Stand-Alone Securities: Risks and Benefits for Property Investors

Navigating property investment requires a deep understanding of finance, especially in the context of leveraging properties. One of the decisions that property investors and homeowners face is whether to cross-secure their properties or have each property act as a stand-alone security. This article delves into the risks and benefits of both strategies, with examples to illustrate key points.

1. Cross-Securing Properties

Cross-securitisation (or cross-collateralisation) is when multiple properties are used as security for a single or multiple loan(s). In essence, the combined equity and value of the properties are intertwined.

Benefits:

• Streamlined Finance: Having properties linked means fewer individual loans to manage. This can lead to streamlined paperwork and potentially less administrative hassle when managing your portfolio.
• Flexibility: You might be able to draw from the equity in one property to finance another. For instance, if one property in Melbourne has appreciated in value significantly, it could be used to finance a purchase in Brisbane.

Risks:

• Complicated Exits: If you decide to sell one of the properties, you might not automatically release its equity. The bank may decide to redistribute the loan against the remaining properties.
• Increased Exposure: If the property market dips, and one property decreases in value, it may impact the equity position of the entire portfolio.

Example: Suppose Sarah has three properties in Sydney, Perth, and Adelaide. She cross-secures all three to purchase a fourth in Canberra. If the Adelaide property drops in value, Sarah might find herself in negative equity, even if the other properties have increased in value.

2. Stand-Alone Securities

When each property acts as security for its own loan, it's considered a stand-alone security.

Benefits:

• Isolated Risks: Each property stands on its own. A decline in the value of one property won't directly affect the others.
• Clearer Exits: If you decide to sell, you can release the equity and repay the specific loan linked to that property.

Risks:

• Limited Access to Equity: To tap into the equity of a property, you'd typically need to refinance that specific property.
• Potential for Higher Costs: There might be higher costs involved in managing multiple loans with different lenders.

Example: Jim owns properties in Darwin and Gold Coast, each with its own loan. The Darwin property market witnesses a downturn, but this doesn't affect Jim's Gold Coast property or loan. When Jim decides to sell his Gold Coast property, he can easily settle its specific loan without affecting the Darwin property.

3. Using Equity in Your Owner-Occupied Home to Cross-Secure Investment Properties

Leveraging the equity in an owner-occupied home to finance investment properties is a common strategy among seasoned and novice investors alike. It's like tapping into a built-in savings account, allowing homeowners to make their existing assets work harder.

Benefits:

• Immediate Access to Capital: Instead of saving for another deposit, homeowners can use their existing property's equity to invest, potentially fast-tracking their investment journey.
• Potential Tax Benefits: Using your home equity to finance an investment can allow you to increse the overall amount of tax-deductible debt. Always consult with a tax professional to understand specific implications.
• Competitive Interest Rates: Loans secured against an owner-occupied home with a lot of equity can reduce the overall Loan to Value Ratio which most lenders will then offer greater discounts against compared to standalone investment loans at a higher LVR %

Risks:

• Increased Risk to Primary Residence: If you're unable to meet the loan repayments, you risk the bank potentially selling your home to recoup their funds. Your primary residence, typically your most valuable asset, is on the line.
• Equity Fluctuations: If the market dips and your home's value decreases, your equity may also diminish, affecting your borrowing power or loan-to-value ratio (LVR).
• Complicated Financial Picture: As with any form of cross-securitisation, intertwining loans can make it harder to track individual property performance and can complicate the process if you wish to sell or refinance.

Example: Gus & Barbara own a home in Melbourne that they purchased for $800,000. Over the years, its value has risen to $1,000,000. They have an outstanding mortgage of $600,000, meaning they have an equity of $400,000. They decide to use $200,000 of this equity as a deposit to buy an investment property in Brisbane. This strategy allows them to venture into the investment property market without dipping into their savings. However, if they face challenges with the investment and cannot manage the repayments, their primary residence in Melbourne could be at risk.

Conclusion

The choice between cross-securing and stand-alone securities depends largely on individual investment strategies and risk appetites. Cross-securing offers flexibility and can be a powerful tool for growth, but it also intertwines the fate of all properties involved. Stand-alone securities keep things separate, offering clearer exits and isolated risks.

Utilising the equity in an owner-occupied home offers a strategic advantage for property investment, but it's not without its challenges. The intertwined nature of the finances can be both a boon and a bane, offering immediate capital while also posing a risk to one's primary residence. As with any financial decision, it's essential to evaluate both the potential rewards and risks, always considering personal financial situations and long-term goals.

It's crucial for property investors to consult with mortgage experts to carefully assess their portfolio and future plans, ensuring they make informed decisions tailored to their unique circumstances.