A cross collateralized real estate loan is a loan that uses multiple properties as security for the loan. A borrower may consider using a loan that cross collateralizes multiple properties because they either don’t have enough funds to put down on the purchase of a property, or in the case of a refinance, they don’t have enough equity in any one property for the lender to approve the loan.
Cross collateralized loans are commonly used by real estate investors and the hard money lenders (also known as private lenders) that fund their loans. Because hard money lenders require a much higher amount of equity for their loans, a Hard Money Cross Collateralized Loan is often considered as an option when funding a loan.
Cross collateralized loans are typically complex loan structures and are often used in transactions by real estate investors. In many cases, a real estate investor is purchasing multiple properties adjacent to one another or identified a new investment opportunity but doesn’t have the capital to purchase it. Cross collateralized loans can be secured on multiple property types such as a single-family home, multi-family property, office, commercial, industrial, land, and so forth. Additionally, they can be secured in priority or subordinate position on a property.
Structuring a private money cross collateralized loan can be complex when considering how the loan will be paid off. Because no one property has enough equity for the lender to fund the loan, the proceeds from the sale or refinance on one of the properties securing the loan must be sufficient to ensure there is enough equity available in the remaining property to make the lender comfortable.
Take for example a Borrower that uses two properties, each worth $150,000, to secure a loan of $100,000. In this scenario, the combination of the two properties equals $300,000 in total value. The $100,000 loan would be secured against the two properties giving the lender $200,000 of total equity. If the Borrower were to sell or refinance one of the properties and not pay down the balance of the loan, the loan would only be secured against the remain property and the total equity protecting the loan would drop to $50,000. This would place the loan at much greater risk.
In this scenario, the Lender would structure a loan requirement, often called a release provision, in the event of the sale of one of the properties. The release provision would require the Borrower to paydown the principal balance of the loan to an amount the lender would feel adequately protected. The release provision is negotiated prior to the loan being funded to ensure that there isn’t any disagreement at the time of a sale.
A cross collateralized loan is an excellent option to consider when a borrower doesn’t have enough equity in one property to secure loan. Though the Borrower must own additional properties with enough equity in each property to consider this type of loan, many Borrowers utilize this strategy to get lenders more comfortable with their loan request.