PLEDGED ASSET MORTGAGE

A Pledged Asset Mortgage allows a borrower to get a mortgage without making a down payment. Instead, the borrower uses assets such as certificates of deposit, stocks, or mutual funds as collateral for the down payment.

Also known as Asset Backed Mortgages, or Asset Integrated Mortgages, Pledge Asset Mortgages are particularly useful for those who don't have a lot of ready cash, but do have a lot of money in investments. While such borrowers could indeed cash in some of their investments, they might well have to pay capitol gains taxes. Pledged Asset Mortgages also make sense for those who are getting a higher rate of return from their investments than the interest rate they would be paying on a mortgage.

Pledged Asset Mortgages are also useful for those who would like to help a relative or friend buy a home. Let's say you'd like to help one of your children buy a home, but you don't want to lay out cash for the down payment. With a Pledged Asset Mortgage, you can use your investments as collateral, continue making a return on your investments, and your son or daughter still gets the home.

There are downsides to Pledged Asset Mortgages, though. Because you are not making a down payment on the mortgage, you'll be paying interest on the full purchase price of the home. For example, if you purchase a $200,000 home on a 30 year term at 7% interest with no down payment, your total payments will be $479,016. If you were to make a 20% down payment of $40,000 on that same home over the same 30 years at 7%, your total payments would be $383,213. That's a difference of $95,803.

Another disadvantage to a Pledged Asset Mortgage is that, if you default on the loan, the lender takes both the home as well as the assets you had pledged. If you're considering pledging assets to help a friend or relative buy a home, that should be a major consideration for you. If they default, you lose the assets you pledged for them.

Pledged Asset Mortgages also carry an additional risk for those whose assets are in stocks, mutual funds or other investment vehicles that are subject to market volatility. The assets you pledge for the mortgage will be set aside in a "pledge account." You will be limited in the amount of trading you can do with the assets in that account.

If the value of those assets drops below a level predetermined by the lender, you will be subject to a "collateral call," which is much like a margin call. You will be required to add cash or additional assets to the pledge account to keep the value at the predetermined level.

If you cannot add cash or additional assets to the pledge account, your brokerage firm could actually sell your assets to meet the collateral call without even notifying you.

Of course, you can limit your risk of having a collateral call by only using a small amount of your portfolio for the pledged assets. Unless you think that your total investments can wind up being worth nothing, using a small portion of your portfolio is a safe route to take.

Pledged Asset Mortgages can also be used as a form of bridge loan. Let's say that you want to buy a new home, but your existing home hasn't sold yet. You could get a Pledged Asset Mortgage on the new home and then, when your first home has been sold, replace the assets in your pledge account with proceeds from the sale of your first home.

If utilized properly, Pledged Asset Mortgages are an extremely useful way to get a home while continuing to make money on your investments.