Did you know that a chattel mortgage is different from a regular home mortgage? Yes, there are various types of mortgages, and we’re not simply referring to fixed-rate versus adjustable-rate mortgages. One type of mortgage that we’ll dive into today is a chattel mortgage.
Chattel mortgages are one of the most popular types of secured transactions. Almost anyone can secure a chattel mortgage to borrow money for a purchase.
That said, knowledge about chattel mortgages can help you make a better financial strategy. To begin with, “chattel mortgage” refers to a business loan utilized to buy a car or other equipment, which is then pledged as collateral for the loan.
But how exactly does chattel mortgage work? Today, let us read more about chattel mortgage, its advantages, and disadvantages.
What Is Chattel Mortgage?
A chattel mortgage is a type of loan that can be used to finance the purchase of movable property, such as a business car or boat. The loan is secured by the property itself, rather than by the borrower’s home or other assets.
There are terms and conditions that apply, however.
When you apply for a chattel mortgage, you are, in essence, asking the lender to pay for you. After keeping the property bought as security, you begin repaying the amount the lender paid with interest.
The collateral placed gives the lender peace of mind, while you can pay off the loan in simple installments. It is much like a fixed-rate traditional home mortgage.
But chattel mortgage differs in that you take ownership of the property at the time of purchase. Once the loan is paid with the balloon payment, the mortgage on the property will be lifted.
Types Of Chattel Mortgages
Chattel mortgages can be taken over most movable properties. These movable properties include:
- Equipment: Farm equipment or heavy machinery
- Vehicles: Cars or forklifts
- Mobile homes: Trailers and manufactured homes (can be on leased land)
- Livestock: Chicken, goose, and ducks.
- Non-land vehicles: Aircrafts and yachts (though for aircrafts, the mortgage has to be recorded with Federal Aviation Administration)
Depending on the property being bought, the loan terms vary. But basic loan conditions are similar for the most part.
But in general, these chattel mortgages are very useful for startups, like construction businesses requiring equipment and vehicles to run.
Benefits Of A Chattel Mortgage
Chattel mortgages come with their own class of benefits, including:
- Flexible and structured repayment terms, usually between 2 to 5 years
- Interest can be fixed or variable but is generally lower than unsecured loans
- Asset ownership rests with you or your company at the start of the loan term
- Property is shown as an asset on your balance sheet
- Eligible for income tax deductions due to interest charges and depreciation
- A balloon or residual payment can help lower your monthly payments
Drawbacks Of A Chattel Mortgage
Chattel mortgages are a good way to buy property when you are short of cash. But these mortgages come with their fair share of drawbacks.
Chattel mortgages typically have a higher rate of interest as the loan tenures are shorter. That said, though the interest rates are higher than traditional mortgages, they are lower than unsecured loans.
Another problem you may face while looking for a chattel mortgage is the lack of lenders. You may find comparing loan terms with various lenders difficult due to this.
Monthly payments are also higher due to the short terms. So if you default on the mortgage, you may risk your property getting repossessed.
Chattel Mortgage vs. Traditional Mortgage
A traditional mortgage is a mortgage in which the lender is not the owner but has a lien on the property.
In contrast, a chattel mortgage may result in the property’s ownership resting with you or the lender. This, known as dispossession, means the property may be transferred to the lender to get the loan approved.
Chattel mortgages provide shorter loan durations and lower processing costs than traditional mortgages. However, this has drawbacks, including higher interest rates, a 1.5% higher APR, and fewer consumer protections.
Balloon Payments: What Are They?
A balloon payment is a large one-time payment that can be paid at the end of the mortgage term. The name comes from the inflated size of payment compared to regular monthly installments.
A balloon payment is one of the benefits you can avail of while taking a chattel mortgage. Provisioning a balloon payment can help you reduce your monthly payments. This can help your business maintain cash flow for daily expenses.
That said, it is important to agree to a manageable balloon payment rather than risking it in the end.
Let us consider an example. You purchased equipment for $200,000 on a mortgage for 2 years and a 5% interest rate. You opted for a balloon payment of $50,000.
In this case, you will have to pay $7,083 per month, lower than the monthly mortgage payment of $9,167, but $50,000 at the end of the mortgage.