The new collateral mortgage

A practice that has gained in popularity among the large banks is the use of collateral mortgages to secure their loan products. Typically, what is offered to a borrower are two loan products, a fixed term loan and a line of credit. In these types of scenarios, the mortgage lender registers a collateral mortgage with a nominal principal amount and interest rate (e.g. $900,000 at Prime plus 10% per annum) that do not actually correspond with the borrowed amount and interest rate agreed to for any of the actual loan products advanced. Mortgage lenders, if they provide an explanation at all, argue that this type of arrangement is advantageous to the borrower, as the borrower would then save on legal and administrative costs if she were to take out a new loan in the future, provided the total amount borrowed at any time falls below the registered principal amount and the interest rate of any of the loan products does not exceed the registered interest rate. The rationale is that these new loans can be secured by the one existing collateral mortgage, so no additional discharges or new mortgages are required. At least two concerns arise with respect to this practice. First, the loan agreements that many banks use for these types of collateral mortgage arrangements make all monies owed by the borrower subject to and secured by the collateral mortgage. The consequence is that a default by the borrower with respect to any of its loans (e.g. a credit card) with the bank could result in the property being subject to enforcement action for the collection of debts other than the fixed term loan or line of credit. The second concern relates to the registered principal amount, which can be significantly higher than the total of the actual loan products agreed to or advanced at the time of registration. The effect of this is to reduce the available equity in the property for future borrowing from other lenders.