What is a chattel mortgage and how does it work?

Find out what a chattel mortgage is, and who it’s for.
Understand the features, benefits and drawbacks of a chattel mortgage.
Learn the difference between the various financing options for business use vehicles.

If you are planning to purchase a vehicle primarily for business use, you may consider a chattel mortgage to secure a competitive interest rate, flexible repayment terms and some tax benefits.

This is how they work.

What is a chattel mortgage?

A chattel mortgage is a type of secured loan used to purchase a moveable asset (also known as a chattel) for business use, such as vehicles, work equipment and machinery.

A chattel mortgage – also sometimes referred to as an equipment loan – is similar in some ways to a traditional mortgage or home loan. Even though you own the vehicle at purchase, the lender holds it as security, just like they use your property to secure a home loan. You are required to repay the borrowed funds according to a predetermined payment schedule. Once the entire loan amount is paid off, the lender will discharge the mortgage.

Compared to an unsecured loan or car loan, a chattel mortgage generally offers a lower interest rate because the car or equipment used as security makes the loan less risky for the lender.

When should I use a chattel mortgage?

If you’re in business or self-employed, you might choose a chattel mortgage because lenders often charge a lower interest rate on a chattel mortgage than an unsecured consumer loan. So, qualifying for a chattel mortgage may be easier than qualifying for a consumer loan in some cases.

Another reason why chattel mortgages are so popular is the repayment flexibility they offer. You can take out a chattel mortgage for a term of 12 months to five (or even seven) years at a fixed or variable interest rate. You may choose to pay off the loan in equal monthly instalments, or make smaller repayments each month, followed by a lump sum payment (called a balloon payment) at the end of the loan term. This may suit your cash flow better, since it keeps your repayments low during the life of the loan.

Who are chattel mortgages for?

Both companies and self-employed individuals can apply for a chattel mortgage to purchase a vehicle used for business at least 51% of the time.

For example, if you are a self-employed tradesperson purchasing a utility vehicle to move equipment, you could take out a chattel mortgage to finance it. However, you’ll need to have an Australian Business Number (ABN) to apply, and be registered for GST to get the maximum benefit. A good credit score and a steady income will help you qualify for the loan.

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Key features and benefits

Business purpose, the asset to be used privately less than 50% of the time
Loan secured on the asset being purchased
Lower interest rate than personal loans
Asset owned upfront by the borrower, not the lender
100% finance available
Registration, insurance and servicing costs can be added to amount financed
Flexible payment structure to suit your cash flow
Tax deductible interest payments for business use portion
GST input tax can be claimed upfront

Pros and cons

Lower interest rate than other types of finance.
Flexible repayment structure to accommodate business cash flow.
Borrower owns the asset immediately it is purchased.
Claim a refund of entire GST input tax immediately.

Not regulated under the National Consumer Credit Protection Act (NCCP) since it is a business loan, so you could be approved for an unsuitable loan, or more debt than you can really afford to repay.
Set-up fees and monthly fees may apply in some cases.

Alternatives

The difference between a chattel mortgage, a consumer loan, a hire purchase agreement and an operating lease.

A chattel mortgage can be understood as a home loan for cars. You own the vehicle on purchase, but the lender takes security on it. Once the amount is paid off at the end of the term, the lender will release the mortgage, and you can enjoy unencumbered ownership of the asset. Some lenders may even allow you to opt for a balloon payment option to help you reduce your monthly repayments and pay off a lump sum at the end of the term.
A consumer loan, such as a personal loan or car loan, may or may not be secured on the asset being purchased. It is not a form of business finance, so the asset being purchased does not need to be for business use.
A hire purchase agreement is quite different from a chattel mortgage. Instead of you owning the vehicle immediately when taking out a chattel mortgage, the lender is the owner of the car in a hire purchase agreement. You borrow the car from the lender (the owner) and make repayments for a fixed period to use it. At the end of the term, the ownership of the vehicle passes to you. In some cases, the ownership may not pass on to you automatically, but you’ll have the option of purchasing the vehicle at the end of the term by making a balloon or residual payment.
An operating lease is quite similar to a hire purchase agreement without the ownership transfer. It is similar to renting a house. You ‘rent’ the asset from the owner for a fixed period and make regular payments for its fair use. At the end of the lease term you have the option of returning the asset to the lender, or re-leasing it, or purchasing it at a negotiated price.

FAQs

What is a balloon payment?

A balloon payment is a lump sum amount which falls due at the end of the loan term, if you have chosen this option in order to reduce your regular monthly payments during the loan term.

For example, if you borrow $100,000 from a lender to purchase a vehicle at a fixed interest rate of 5% p.a. for five years, your monthly repayments will be $1,887.

But if you wish to reduce the amount you pay each month, you could opt to make a balloon payment at the end of the term with a chattel mortgage. For instance, your lender may allow you to make a $20,000 balloon payment on your last repayment date. This will reduce the size of your monthly repayments to $1,510.

Can you claim GST on a chattel mortgage?

It’s generally possible to claim the whole amount of GST paid on the purchase price of your vehicle (also known as an input tax credit) in the next Business Activity Statement (BAS) you lodge after the purchase. However, it’s worth running this through with your accountant to understand the tax benefits that may be available to you with a chattel mortgage.

Can you refinance a chattel mortgage?

If you’ve had a chattel mortgage for over a year, it may be worth checking the market for a lower interest rate. It’s also possible to refinance the residual value (the balloon payment) of your vehicle at the end of the term.

The bottom line

A chattel mortgage is suitable for financing a vehicle that’s primarily used for business purposes. Compared to a consumer car loan, it can offer some benefits in the form of increased borrowing, flexible repayments and a potentially lower interest rate. However, chattel mortgages don’t enjoy the same legal and consumer protections as a regular car loan. While this may make it easier for you to qualify for a loan without too much stress about proving your income, there’s a risk of over-borrowing that could land you into financial trouble.

When deciding about the right way to finance your business vehicles or equipment, it’s important to look beyond the interest rate and focus on the costs and other benefits (or drawbacks) of each option available to you. For instance, if you need a vehicle for only a few years, it may be better to lease it rather than purchasing it. Or, if you are not sure about the utility of the vehicle in the long run, you may consider a hire purchase agreement with an option to buy at the end of the term.

Overall, it is important to do your due diligence and take independent financial and legal advice before signing up for any credit product.