The Global Financial Crisis (GFC) that happened between 2007 to 2009 exposed the weakness of pooled mortgage schemes. Liquidity became a big issue when several borrowers defaulted on their mortgage payments. Even the largest pooled funds schemes like MFS Limited, City Pacific Mortgage Fund, and LM First Mortgage Income Fund collapsed during the crisis.

These events gave rise to contributory mortgage funds which provide better control on where investors can put their money.

What is a Contributory Mortgage Fund?

A contributory mortgage fund is an investment program where investors pool their monies to fund a specific loan. The main difference between a contributory mortgage and a pooled mortgage is how the funds and returns are linked to the loan.

In a pooled mortgage, the returns and investments are linked to a larger collection of mortgages. The performance of the fund is based on several mortgages it’s invested into.

On the other hand, a contributory mortgage’s performance is based only on a particular loan. This gives higher returns in exchange for higher investment risks.

Generally, contributory mortgage funds are comprised of sub-schemes. You don’t necessarily invest in the whole mortgage scheme and be affected by the gains and losses of the whole fund. The performance of a certain sub-scheme is independent of those of other sub-schemes.

When you put your money into a contributory mortgage fund, you invest in a sub-scheme that targets a particular mortgage investment. The sub-scheme usually involves a single loan requested by an individual or a group of borrowers.

Contributory mortgage funds provide you with better control in choosing where to put your money. You can assess whether a certain loan is worth funding using the generic information disclosed on the product.

You can choose to invest in sub-schemes that focus on mortgages in the Sydney or Queensland market. If you’re a bit of a conservative, you can look for sub-schemes that have a loan to value ratio of 50% or less. You can also choose sub-schemes that emphasize on construction loans rather than properties that have already been built.

Providers of contributory mortgage schemes can be classified as alternative lending entities, and it’s normal for them to charge higher interest rates on loans compared to traditional banks.

According to recent data, contributory mortgage funds offer as much as an 8% return on average per annum. Those who aren’t contented with ordinary bank deposits will be attracted to the promising returns of this investment scheme.

Since contributory mortgage funds are used for lending, there are benefits and risks associated with this investment tool:

Pros

-          You have better control over where you put your money

-          You’ll be given consent and will be required of approval before your money is invested into a loan

-          Higher returns compared to pooled mortgage funds

-          You can use this as an additional source of monthly income

Cons

-          Larger capital is needed to invest in a scheme

-          Higher investment risk because the money is invested on a single sub-scheme

-          Liquidity issues where you won’t be able to withdraw your capital unless the loan has been fully repaid by the borrower

The ASIC regulates the schemes and makes sure they comply with the Australian Financial Services Licence (AFSL) guidelines. Every scheme must have a Compliance Plan that details how it protects both investors and borrowers from unregistered activities.

Conclusion

As pooled mortgage schemes become more unpopular due to the risks exposed during the GFC, the demand for contributory mortgage funds rises. This alternative provides better control over where you invest your money by searching for more profitable ventures. But in exchange, you’ll be managing higher risks due to the larger capital needed to get into a scheme.

Make sure you weigh the pros and cons of investing in contributory mortgage funds and assess whether it’s the appropriate tool for you to grow your money.