Lesson 16 of 25 · 7 min
Why a partial cure can leave the test still failing
A ninety-thousand-dollar sale closed twenty-seven thousand nine hundred of the gap and left the account in breach.
A cure is measured by the gap it closes, not by the money it moves, and those two figures are equal only when the money comes from outside the pledge. Anything less than the full requirement leaves the test failing, and the amount left is larger than the unspent portion suggests.
Take a collateral value of $620,000, a threshold of 69 percent and a balance of $474,000. The permitted balance is $427,800 and the shortfall is $46,200. The full cure by sale is $46,200 ÷ 0.31 = $149,032.26.
Now sell $90,000, which is 60.4 percent of what was needed. The balance becomes $384,000 and the collateral $530,000, so the permitted balance is $530,000 × 0.69 = $365,700 and the residual shortfall is $18,300. Read the two figures side by side: $90,000 left the account and $27,900 of gap was closed, because each sold dollar closes one minus the threshold, or 31 cents. A partial sale of any size closes 31 percent of its own value and nothing more.
The same partial payment made in outside cash behaves differently. Cash of $40,000 reduces the balance alone, so it closes $40,000 of the gap and leaves $6,200. The same $40,000 raised by selling pledged collateral closes $40,000 × 0.31 = $12,400 and leaves $33,800. Two payments of identical size, differing in residual by $27,600, because one of them also removed collateral.
residual = (B − t × V) − S × (1 − t) − C
- residual
- The shortfall still outstanding after a partial cure.
- B − t × V
- The original shortfall.
- S
- Pledged collateral sold, with proceeds applied to the balance.
- 1 − t
- The gap closed per dollar sold.
- t
- The maintenance threshold as a decimal.
- V
- Collateral value before the partial cure.
- B
- Balance before the partial cure.
- C
- Cash from outside the pledge, which closes the gap dollar for dollar.
Key terms
- Partial cure
- Any action smaller than the full requirement. It leaves the account in breach, and by more than its shortfall suggests.
- Gap closed per dollar
- One minus the threshold for a sale of pledged collateral, and one for cash from outside the pledge.
- Continuing breach
- The state of an account that has acted but not enough. The lender's rights are unchanged while any shortfall remains.
Worked example
What $90,000 of sales actually closed
Collateral value $620,000, threshold 69 percent, balance $474,000.
- Shortfall
- $46,200
- Full cure by sale
- $149,032.26
- Sale actually made
- $90,000
- Gap closed
- $27,900
- Residual shortfall
- $18,300
- Same $90,000 in outside cash
- Fully cured, with $43,800 to spare
$474,000 − ($620,000 × 0.69).
$46,200 ÷ 0.31.
60.4 percent of the requirement.
$90,000 × 0.31.
$384,000 − ($530,000 × 0.69).
The sale of $90,000 left $18,300 outstanding. The same amount of outside cash would have closed a $46,200 gap nearly twice over.
Check yourself
A shortfall of $46,200 exists at a 69 percent threshold. Compare paying $40,000 of outside cash with selling $40,000 of pledged collateral.
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Educational only. Nothing in this lesson is investment, legal or tax advice, or a recommendation to enter into any transaction. Figures are illustrative and computed from the inputs stated in the lesson.