When buying an investment property, people invariably start looking for a property before they have their finance in place. This is a classic case of putting the cart before the horse.

People often get burnt quite badly because of this simple oversight.

Why should you have finance in place beforehand?

The reason is quite simple: will the lender lend you the money in the first place? It is no sense exchanging on contracts, and then attempting to get finance in place, as you (or your broker) will be scrambling to put it in place, and there is no room for negotiations or correct restructuring of existing mortgages.

What invariably happens is that time is of essence, and the investor is swayed and indeed overwhelmed by the myriad of paperwork that needs to be filled out, and invariably ends up cross-collaterising the properties.

Cross Collaterising can cost you big later down the track.

Whilst sometimes this cannot be avoided, cross collaterisation is certainly lethal to your long-term financial health.

Cross collaterisation means putting both properties under the one loan, albeit with different splits. The way this is sold to the investor is that they will be able to save on the application fee, and may get an interest rate discount, and indeed, they will be able to get one hundred percent finance.

Lets look at the downside:

1.    There is an all monies clause on the mortgage documents. What this means is that if you default (and sometimes even if you are not in default), the bank can call on ALL the monies owing, i.e. your home loan and investment loan.

2.    If you are late on repayments, then the interest rate jumps by as much as three percent on ALL the money owed, so you go into a steeper spiral, making it harder to recover financially.

3.    Your home has the higher equity, and if you fall onto hard times and are not able to meet your obligations, guess which property the banks going to sell off first?

4.    Your borrowing capacity is diminished, and indeed, in most cases, because all the loans are with the same lender, you are able to borrow less money from the start. Lenders “load” the interest rate by up to 3% when assessing your repayment capacity.

5.    You end up paying more mortgage stamp duty (this is the stamp duty you pay every time you borrow money) I will elaborate on this in the next article.

So whats the upside?

Often, when there isn’t sufficient equity in your present home, by putting the two properties together, you are able to purchase the property.

You may also save on a second application fee, being that there is only one application done.

It is quite obvious that the disadvantages far outweigh the advantages when you cross collaterise the properties.

In the next article, I will discuss the correct way to finance an investment property purchase.