Investing in loans secured by real estate

Investing in loans secured by real estate

December 28, 2021 News

Loans secured by real estate belong to conservative forms of investments. They are considered safer and can be used to hedge oneself against inflation. Not everyone has enough free funds to invest directly in real estate, but that is when loans come into play.

Before introducing you to how loans secured by real estate work, the ranking of such loans and showing you some specific examples of investing, let us have a look at how much money the Czechs have in their accounts.

The Covid crisis has impacted households in a completely different way than any other crisis before. Banks have seen a substantial increase in deposits in accounts. In total, they make about three billion Czech crowns. At the same time, inflation is rising gradually and reached 5.8% in October 2021. The problem is, traditional savings instruments, such as savings accounts, building society accounts or pension funds, can hardly offer such a return.

The solution comes in the form of first or second lien loans secured by real estate. These offer conservative savings options and yield between 4.5% – 7% p.a. for first lien loans and 8–10% p.a. for second lien loans secured by real estate. What is the difference between them?

What is the difference between first and second lien loans secured by real estate

The key to providing a loan secured by real estate is a lien. It serves as a guarantee for those who finance the purchase of real estate or its reconstruction. If a property is mortgaged, there is a level of certainty that the lender will get its money back. This is because a lien makes it possible to sell the mortgaged property and thus settle any financial claims that may arise.

Loans secured by real estate are ranked by the order of individual liens to the mortgaged property. A first lien loan will be the first one to be settled in case of potential financial claims. If there is an unpaid loan to which the piece of real estate serves as a pledge and afterwards another loan on the same piece of real estate is taken, this second loan in order, therefore called second lien loan, will be settled only after the first lien loan has been settled, should any financial claims arise.

On Bondster, you can find both first and second lien loans provided by ACEMA. First lien loans usually have a lower LTV and return between 4.5% – 7% p.a., which makes them an excellent product to save for retirement. Let us have look at a model situation of a first lien loan secured by real estate, in which you can invest on Bondster.

Invested amount: CZK 10,000

Beginning of the investment: 31 November 2021

Expected termination of the investment: 31 November 2023

Interest rate: 6%

Annual yield: CZK 600

Total amount at the end: CZK 11,200

LTV: 43,75%

Earlier withdrawal: Yes, for 1% p.a.

Model situation of a first lien loan secured by real estate.

This type of financing is most often used in development projects, where the first lien loan is provided by a bank, whereas the second lien loan is provided by group financing platforms or other institutions.

Second lien loans can often be found on group real estate financing platforms, especially in Germany, but also in the Czech Republic. Banks simply cannot provide the full funding required for a project because they must adhere to strict rules on the maximum amount of capital/loan they can provide relative to the value of the pledged property (LTV*).

LTV limits vary by country, but bank loans generally do not exceed 60% of the total property value. Financing by a second lien loan is thus a common market practice that brings investors the opportunity to achieve a higher return on loans secured by real estate. As mentioned above, the return on these loans is between 8-10% p.a. Let us now have a look at a model situation of a second lien loan secured by real estate.

Invested amount: CZK 10,000

Beginning of the investment: 31 November 2021

Expected termination of the investment: 31 November 2023

Interest rate: 10 %

Annual yield: CZK 1,000

Total amount at the end: CZK 12,000

LTV : 72%

Earlier withdrawal: Yes, for 1% p.a.

Model situation of a second lien loan secured by real estate.

The granting of a second lien loan is preceded by a comprehensive assessment of the applicant’s ability to repay and their credit history, just as with any other loan application. If the value of the pledged property is high enough to allow providing another loan, the second lien loan can be disbursed after all conditions have been met. These loans are usually used for business development or property renovation. “In this case, the risk for investors remains low, and its value is indicated by the LTV rate for both loans provided. The interest yield of 8-10% makes investing in secured real estate loans one of the best offers on the market,” says Richard Kouba, Chief Sales & Marketing Officer at Bondster.

Note: *LTV (Loan to Value) indicates the ratio between the amount of the loan and the amount at which the pledged property was valued at the time of concluding the loan agreement. The lower the LTV, the more secure the investment is. For comparison: mortgages in the Czech Republic are provided up to 90% of LTV.

Authors: Richard Kouba, Petra Halíková


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