Using land as collateral in real estate opens the door to significant funding. Since land typically holds enduring value, lenders see it as a reliable form of security.
But as promising as it sounds, the risks are real and sometimes devastating. A close friend of mine, an experienced property investor, once secured a large loan against a prime piece of land for a multi-unit housing project.
When the market shifted, construction stalled, and loan repayments became unsustainable, he ultimately lost the land to foreclosure. Years of savings and equity were wiped out in one legal notice.
That experience reshaped how I view financing backed by land. So, before you decide to put land on the line, it's critical to understand what’s at stake. Below are five major risks you should be aware of:
1. Foreclosure and Asset Loss
The most significant risk is foreclosure. If a developer, investor, or property owner defaults on loan payments, the lender has the legal right to seize the land to recover the debt. In real estate, this could mean losing a project site, a plot that generates income, or a strategic development parcel.
2. Market Volatility and Declining Land Value
Land values fluctuate with changes in economic conditions, local development plans, zoning regulations, or infrastructure projects. In some cases, what seems like an asset with high value today may lose value over time due to unfavorable market trends.
If the value of the land drops below the loan balance, borrowers may face a negative equity situation. Where, the sale of the land doesn’t even cover the debt.
3. Interest Rate Hikes
Real estate loans backed by land often come with variable interest rates. In a rising interest rate environment, especially in commercial property sectors, monthly repayments can significantly increase. If rental income or project revenue doesn’t scale accordingly, borrowers find themselves under financial pressure.
4. Legal and Title Issues
In real estate, clear land titles are a non-negotiable. Any legal dispute, encumbrance, or missing paperwork related to land ownership can invalidate the collateral and halt financing. In some cases, developers have pledged land without fully verifying title status, only to face litigation later, that delays or derails the entire project.
5. Reduced Financing Flexibility
Once land is tied up as collateral, it cannot be reused to secure additional financing for other property deals. This limits a developer’s or investor’s ability to raise capital for future acquisitions or expansions, particularly if their portfolio is heavily leveraged.
