If you’re looking to invest in the real estate market, you may have heard about the syndicated mortgage and wondered how it could help you. Not everyone understands exactly what they are or how they work, so we’ve put together this fact sheet to help you make the best investment choice.
Syndicated mortgages are loans.
Just like any other mortgage, the syndicated variety also involves a lender or investor providing money to a borrower. The only difference that the word “syndicated” adds is that syndicated mortgages have multiple investors or lenders. The contractual obligation that borrowers face when it comes to repaying the amount they took out with interest makes this a much more secure investment than putting money into the stock market or into mutual funds, because there is no contractual duty to cover your initial investment or to pay interest on what you lent.
Syndicated mortgages do involve risk.
Every investment that offers a significant reward carries risk. If you put your money into a government-backed savings account, you will earn the lowest interest rates possible on the market. Why? Because there isn’t any risk – if the bank fails, the government gives you the money that you had on deposit. When you buy a stock, you are risking more, because the value of the company could plummet to zero, and you would be left with nothing. This is why people expect double-digit returns from the stock market. Mutual fund investments carry a similar risk, but the expected return might hold right below 10%. The fact that there is a mutual fund manager lowers the level of the risk, but your fund can still tank.
When you invest in a syndicated mortgage, there is the possibility that you will most if not lose all of your money that you put into the project. The borrower does have a contractual obligation to pay you back with interest, and there is collateral in the form of real estate associated with that contract. However, the borrower could default, and while the property could be sold to recoup some of your money, the fact that the property is likely to sell for less than what the market value should be means that you might not get back your full principal, and you definitely won’t get the interest from future payments.
Provinces regulate the syndicated mortgage market.
In Canada, each province has its own set of rules for syndicated mortgages. For example, in Ontario, the MBLAA (Mortgage Brokers, Lenders and Administrators Act) governs all mortgages, including the syndicated variety. Any person providing a syndicated mortgage in Ontario has to be licensed as a mortgage broker or mortgage agent.
You need to pay attention to the value of the project.
Are you considering several properties? You need to understand the nature and value of the project. Such variables as the location, the intended use and the zoning for a site will all play a role in the risk level that the investment will bring you.
The loan to value ratio is very important. (as well as priority)
In basic terms, Let’s say that you require $200,000 financing on a $1,000,000 property. If you only have $400,000 equity with a 200,000 balance; the loan to value is 80%. However, if you had $800,000 equity with a $200,000 balance with the same request, the loan to value is 40%. Even though the lender is being asked for the same amount. The 80% loan to value represents a greater risk to a lender. Let’s say you default and the property value loses transaction and you factor in interest arrears, the 1st position lender is highly likely to get his monies back, but as a second position lender the lower loan to value offers more safety and buffer. The lower your loan to value ratio (the ratio of the principal to the appraised value of the property), in conjunction with the mortgage priority…the safer the investment for the lender.
Syndicated mortgages do not guarantee a rate of return.
When you read a brochure or a website from a syndicated mortgage provider, you may see that they offer rates of return of 8% or even more. However, this is just the expected rate. There is no guarantee, like there would be with a bond. If the project succeeds, then you’ll likely get your whole principal back. This is why you want to look into the background of the builder, the accuracy of the appraisal and the chance that the borrower might sell the project before paying off the note or getting another mortgage.
Syndicated mortgages are not securities.
Securities are straight investments that do not offer collateral. Syndicated mortgages have the contract between borrower and lender requiring repayment with interest.
Syndicated mortgages are not liquid.
Once you have invested in a syndicated mortgage, you can’t let it go into a secondary market – because there is one. The borrower is bound by the terms of the contract, and so are you.
Syndicated mortgages are generally RRSP eligible.
You’ll want to make sure with your provider, but in most cases syndicated mortgages are RESP, RRIF, LIRA, TFSA and RRSP eligible.
Each syndicated mortgage is different.
Each project and each property is unique, so if you have a terrific experience investing in one project, don’t assume that you will on the next just because it’s another syndicated mortgage. Do your due diligence on the syndicated mortgage provider, the builder and any other parties who are involved with particular syndicated mortgage.
Get professional advice before you sign on the dotted line.
This article contains general information about syndicated mortgages. This is not intended to promote syndicated mortgages or to indicate that they are superior to other investment vehicles. Each investor has a particular risk tolerance level, and you want to get your own advice before you sign a contract. Not every investor can lock up money in a mortgage for the amount of time that the contract requires.