What is Cross Collateralization and How Does it Work?

What is Cross Collateralization and How Does it Work?

Table of Contents Introduction..................................................................................1 What is Cross-Collateralization?...........................................2 How Does Cross-Collateralization Work?..........................3 Use Multiple Assets for One Loan........................................4 Use a Single Asset for Multiple Loans................................5

Introduction When obtaining a secured small business loan, the lender may require an asset to put as collateral to reduce the risk of loaning your working capital. An asset might be real estate, inventory, accounts receivable, cash, or something else of value. If you’re a small business owner, you’re probably already familiar with this concept of financing.

But what is cross-collateralization?

Keep reading while we’re sharing everything you need to know about

cross-collateralization.

What is Cross-Collateralization?

In a nutshell, cross-collateralization is a practice in lending where the collateral of one loan is used to take another loan. Simply put, it is when one collateral is used for more than one loan. If you’re using an asset repeatedly as collateral to secure an existing or a new small business financing, this is also called cross-collateralization.

In cross-collateralization, if you default on any of the loans secured by the collateral, you default on all the loans that use the same collateral. Banks and credit unions generally use cross-collateralization to reduce their risk, but it’s more common with later.

How Does Cross-Collateralization Work?

Here are the two ways that cross-collateralization works

Use Multiple Assets for One Loan

Before approving your application, lenders will want to check the risk associated with your type of industry and business. It is because they want to be sure if you or your business has the ability to repay the borrowed amount on time.

There are several ways lenders look to reduce their risk exposure when you apply for a small business loan including checking your credit history, annual revenue, time in business, and assets that need to be put as collateral.

If you have a perfect credit score, you may qualify for an unsecured business loan, otherwise, you may need to provide collateral.

Yet sometimes the value of the asset is much less than the loan amount you want to borrow. That’s the reason lenders may want you to pledge multiple assets to add more security to the loan.

Use a Single Asset for Multiple Loans

This type of cross-collateralization occurs when a single asset is used to secure more than one loan. Lines of credit and mortgage loans are some of the most common examples of this practice.

Imagine a scenario, you’ve taken an auto loan putting the purchased car as collateral. Now, you need to take out a personal loan with the same lender or you’ve already another loan with the same lender, the lender might use the same car as collateral again.

As a lender might or might not disclose to you that the same asset is being used as collateral for another loan, it’s always vital to review your loan document carefully before signing.

You May Like: 5 Ways to Make the Most of Your Business Equipment Loan Final Thoughts Though you may save some money on interest with crosscollateralization, you could also lose your assets. As a responsible small business owner, it’s your responsibility to understand the pros and cons of the loans you qualify for.

There are also several types of unsecured loans for small businesses available in the market today. Use

an online funding

marketplace to find and compare a variety of unsecured small business loan offers from multiple lenders and choose one that will meet your unique financial needs and budget.

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