A private seller is the seller of a mortgage note, who owns the note because they sold a piece of real estate that they used to own. They said to the buyer of that real estate, “you can buy here and pay here”.
In this case, the buyer of the property gives the seller a down payment followed by monthly payments for agreed upon number of years until the amount is paid in full. This is advantageous to the property buyer because they do not have to worry about qualifying for a loan in the event they have insufficient credit.
This is helpful for the seller who is having trouble selling the property. Instead of the seller renting the property and acting as a landlord, they find a buyer who cannot qualify for a mortgage loan from the bank, and instead finance the buyer. Then, the buyer will be able to make monthly payments to the seller.
Finding Private Note Sellers
Private sellers can be located through networking with those who are able to come across notes. They can be real estate attorneys, estate attorneys, from family members who lost a loved one and inherited their property, note servicers, bank trust officers, real estate agents, title company officials, and member’s of real estate investment clubs.
Most private sellers usually prefer a lump some of cash, instead of cash flow. This is helpful to us as note buyers because the sellers are not thinking about yields and discounts. In addition, most private sellers will not understand the foreclosure process, nor do many use a licensed third-party loan servicer to collect monthly payments.
Nor will they have an escrow or impound account set up for taxes and insurance with the buyer. However, they will hire an attorney to draft the documents in compliance with the state which the property is located. Most sellers will not know how to price a note. Your role as the investor/note purchaser is to educate the seller so they understand where your pricing originates from.
As an investor, you are to take the risk and the yield into consideration. If the seller has written the paperwork well, including the original note with a qualified buyer, then you may be able to pay more money for their note.
You may also want the buyer to make a down payment. You would also like to have a decent interest rate on the note. You would also like to earn a decent yield on the note.
What Investors Need to Know
You will need to know how to operate a financial calculator so you can determine the yield you would like to earn and the number of payments remaining. This will help you determine how much you should pay for the note.
You may need to ask the seller to provide confirmation that the real estate buyer has been making their payments every month by way of viewing the seller’s banks statements or copies of the deposit slips in the event the seller does not have a licensed loan servicer.
If it is brand new note as opposed to a seasoned note, then it comes with more risk of the borrower not making payments since there is no track records of them making payments.
Understand Credit Reporting
Under the Fair Credit Reporting Act, if you are thinking about loaning money or buying a note, you are legally authorized pull the credit report of the borrower.
Although not required, as part of protecting yourself from liability, it may be best to ask the current note holder to ask the borrower to sign a piece of paper which gives you permission to pull their credit.
Sellers generally do not monitor property taxes or insurance. Therefore, it is not unusual for there to be delinquent taxes or expired insurance on the property. It is your responsibility as an investor to get the borrower to buy an insurance policy and to pay the property taxes. However, if the borrower does not pay the property taxes, then it becomes your responsibility as an investor to pay these taxes.
Judicial vs Non-Judicial
When you are ready to buy the note after agreeing on a price, then you will want to prepare a loan sale agreement (LSA), send it to the seller and have him sign it. It would be wise to include at the top of the LSA to recommend to the private seller that they hire a third party (i.e., attorney or title company) to close the transaction.
This will prevent them from feeling that you are taking advantage of them. If they choose not to, then there should be a place where they can sign off on the LSA indicating that they have been advised of this and chose not to.
You may also want to take into consideration the state which the collateral is located in. Some states are creditor friendly while other states are debtor friendly. Debtor friendly states have a much more difficult foreclosure process for situations in which the borrower fails to make monthly payments. As an investor, you must also take into consideration as to whether it is a judicial state or a non-judicial state.
In judicial states, you go to court to foreclose which is more expensive and time consuming than a non-judicial state in which the property is sold at an auction on the courthouse steps to the highest bidder.
Doing Due Diligence
When buying from private mortgage note sellers, you may also want to hire an attorney to review the note to ensure that it is in accordance with the state laws if you are not familiar with them yourself. If it a note is not written in accordance with state laws, the entire note could be voided.
Bottom Line – Buying from private mortgage note sellers can be very profitable, but it also comes with risk. Thorough research and due diligence are crucial to ensure a successful investment.
