| Generating Market Place Price For Real Estate Investment Notes |
| Articles - Mortgage |
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How risk determines the discount
How risk determines the discount Financial institutions and banks purchase prime, secured mortgages on a regular basis. These payment streams are often purchased at a price on par with or slightly less than the note's current balance. The transfer of ownership of these cash flows is usually completely transparent to the Payor or new home owner. When institutions and banks sell and buy real estate notes, they're typically working with institutions with similar lending parameters. This means that the institutions are familiar and comfortable with the credit rating and demographic of the Payor, as well as the structure and critical metrics of the mortgage. That's why when a bank sells a note it doesn't require deep discounting. But consider that most note deals involve little equity or a Payor with a marginal credit score. As a result, banks and lending institutions aren't comfortable with purchasing private notes because they consider these cash flows to be loans with a greater potential for default. The Real Estate Note Buyer Market The good news is that there are plenty of other real estate note buyers looking to purchase private note payments. They know that there is a high potential for default, and they are comfortable with the risk in exchange for a good rate of return. To offset some of this risk buyers look for high yields - 10%, 15%, 20% or sometimes greater - and then focus on what's securing the note. In order to achieve a yield comparable to the risk involved, Real Estate Note Buyers will often offer less than the remaining balance on the note. The discount involved with private note purchasing counterbalances the risk to the buyer of possible default. If a Payor defaults on his payments, the Note Buyer typically has to flip the bill for legal actions and then resell the property at auction. Ideally, the buyer of a secured note should be able to foreclose on the property and re-sell the house to recoup the entire note balance and extra capital. Although there are unpredictable expenses involved with foreclosure, the discount should make up for these extra costs. Most notes must be discounted due to factors like a no-credit buyer or a limited amount of money to put as the down payment amount. There are exceptions, though. For instance, in some cases, prime notes with great equity and an interest rate higher than the market average will also bring a high price. Note Buyers' priorities. Typically, buyers consider their risks in three general ways. #1. Equity. A small amount of equity creates an insignificant safety net for buyers should the note default. So, many will offer lower prices to create equity and a lower investment to Value (ITV). Take a look at the "Brainstorm" article in this issue for an ITV-based pricing example. #2. Payor quality. Most buyers will look at the Payor of the note and the potential for default objectively. Does the Payor show a good recent credit history for steady payments and a consistent job history, despite a poor credit rating? If so, a Note Buyer might still make an attractive offer if there is plenty of equity to protect the Note Buyer's capital. #3. Time-Value of Money. The Note Buyer's primary concern comes from the principle regarding the time-value of money - the factor that determines the amount of time it will take to get their investment back. Money is worth more today than in the future, so the longer the term of the real estate note, the less the note is worth. Providing solutions for Real Estate Note Holders. For Note Holders who are looking to sell their note payments, the details about the factors that control note discounting aren't important. Their objective is simply to sell quickly and get the cash they need now for the monthly payments they've agreed to receive over the long-term. As a Note Finder, I understand what Note Holders want. I specialize in helping them obtain the most cash possible for their secured payments. Also, property sellers who work with me when creating a note can optimize their situation and maximize the value of the note. In my next article, I'll discuss specific strategies that property sellers can use in order to create a note that will sell quickly and require minimal discounting. DISCLAIMER: This article is provided as information only and is not to be taken as financial advice. Understand much more regarding Real Estate Notes. Stop by John Manzanet's site where you can find out all about Real Estate Notes and what they can do for you.. Unique version for reprint here: Generating Market Place Price For Real Estate Investment Notes. |