Unitranche mortgage debt has some significant similarities with conventional equity loans due to certain fundamental contractual characteristics generally included in unitranche facility agreement. Unlike conventional equity loans where the value of the property on which the loan is based is not known at all, a unitranche loan is based on the value of the land on which the property is built.
This may include a market value that is agreed upon in the loan agreement between the lender and the borrower. Another option available for borrowers who are not aware of a particular area’s market value is to use a broker’s assessment of the property’s overall worth.
In addition, most conventional mortgages are unsecured debts
Borrowers who avail of this facility receive financing without securing any type of collateral. As a result, they will typically pay higher interest rates compared to conventional mortgages. This is primarily because in unitranche financing, lenders bear more risk. Lenders are more willing to approve larger amounts of debt funds at higher interest rates in order to mitigate their risk.
There are two primary types of unitranches, namely right-to-use units and right-to-use income units. Right-to-use units allow homeowners to access the debt funds without having to obtain a mortgage or other form of equity. This type of facility is commonly utilized by homeowners who wish to convert their home into rental units. The additional risk involved is also a contributing factor for banks providing this option.
Right-to-use income units
A borrower typically has to convince his or her bank that he or she would be able to repay the loan. Borrowers would have to submit financial documents such as income statements, credit reports, and so on. With the availability of this facility, banks take on less of the risk profile. Consequently, banks offer reduced interest rates as compared to other types of unitranches.
The key benefits of unitranches as compared to traditional debt financing include: low risk profile, a high return on investment, and flexibility. Since unitranches do not involve any form of collateral, there is no need to provide any collateral or assets for the borrowers. On the other hand, conventional loans involve the transfer of ownership of real estate owned by the lender to the borrower. Some borrowers may be hesitant to purchase a property, especially if they do not have sufficient credit rating.
Lenders also benefit from utilizing unitranches
Homeowners are able to access debt funds anytime they need them. They just have to locate a lender who is willing to finance the required amount at a fixed interest rate. The unitranches also allow investors to raise money for other investment projects. The combination of the benefits of unitranches and conventional financing sources results in significant cost savings for the lenders.
The cost benefit of term loans and revolving credit facilities also accrues to the end-user or the borrower. The banks enjoy cost savings when they sell out the conventional loan unitranches and invest the proceeds in other types of business activities. In most cases, banks are able to generate higher profits from the unitranches than they can from term loans. The banks are able to realize cost savings by using several lending techniques.