Two Expert Cash Flow Tactics - Part 1 Introduction
Body builders develop muscle and strength by pumping iron. You will be "pumping
up" your chances for financial success when you study and learn new profit making skills
and tactics.
Often times it is just the little things you know that can turn an ordinary opportunity
into a real winner. The key is to have a whole bag of tricks to call upon when needed.
Here you will add two "Investment Power Tools" to your profit building arsenal.
These are not techniques you will use everyday, but when you are deep into a deal that
requires some very creative thinking, you will be ready.
File these two tactics away in that part of your brain where you keep all of those
"just in case" items. They have the power to keep you on the correct side of the cash flow!
Part One
Mortgage Collateral Loans
Life in the "paper jungle" is tough. More and more people are trying to buy
mortgages at attractive discounts. Sure there is a lot of mortgage paper being created, and
that’s great. But remember much of that paper will never be offered for sale. People are
happy with the yield, don’t realize they can sell the note or they don’t really understand real
estate notes and are afraid of selling.
Whatever the reason, most mortgage notes are never sold. They get paid off within
an average of five to twelve years and float away to mortgage heaven.
So what, you ask? Well, just maybe new mortgage note buyers are being created
faster than the supply of new paper will be available for purchase! I don’t know that for
sure, but it sure seems that way in some areas. No matter how hard you try it can be very
difficult to survive in the paper jungle as a new note buyer/broker.
Here’s what happens to many. They hear about the profit opportunities in
discounted paper. They get very excited. They spend money and time learning the basics
of buying discounted cash flows. They set up business and hit a brick wall! They just don’t
have much luck finding notes to buy. After a few months they just give up. They are
chewed up and spit out of the paper jungle.
The chances for success are much better of you are not a one trick pony! Why not
have more than just the one profit center? In addition to buying discounted mortgages offer
allied services.
And yes, this is a service business. As a mortgage buyer/broker you will be serving the
financial needs of note holders by buying their cash flow for cash. Expand your horizons by
offering other financial services.
You could buy judgments, originate real estate loans or make loans collateralized
by mortgages or trust deeds. The latter is the tactic we will explore next.
It is not unusual to find a real estate note holder who needs money, but does not
want to sell his note. If you are locked into a mind-set of only buying notes you are losing
a profit making opportunity. This error can result in the loss of thousands of dollars every
year.
Most note buyers don’t really understand how to make a loan secured by paper, so
let this little manual be your introduction to the mechanics of it. You might also use this
knowledge to borrow money using a note for collateral.
Laws vary from state to state, so the first time you do a "lending" deal you must
have the help of a real estate attorney. In most cases the transaction will closely follow
what is presented here.
When you lend money with paper as security for the loan you are not buying the
note or the payments. The note holder (the person receiving the payments) temporarily
assigns and delivers the note and mortgage to you. This is called hypothecation. When a
note and mortgage are hypothecated they are pledged as security for a loan.
Here is an important point: A note and mortgage is personal property, so the loan
will be governed by the Commercial Code, not real estate law.
Under commercial law personal property given as security for a loan is usually
referred to as a "pledge". The holder of the note (beneficiary or mortgagee) is called the
"pledgor". You as the lender will be the "pledgee".
The document that places a lien on the mortgage note is called a "security
agreement".
You, as lender, will record an assignment, which transfers ownership of the note
and the beneficial interest in the mortgage to yourself. This does not actually transfer
ownership to you, but gives notice of the lien you have on the note, because you have also
agreed to return the note and mortgage when the loan is repaid. You do this in the
Agreement To Hypothecate.
Watch Out! Some lenders claim they have purchased a specific number of monthly
payments, rather than having made a loan. The catch is, anytime there is an agreement to
return the note and mortgage you have effected a loan and not a purchase. Commercial
law, not real estate or mortgage law would govern this transaction. Be aware of this
anytime you create a deal where you purchase or sell payments. You might be in violation
of usury laws in your state.
You must follow good lending practices to make a secure loan:
1. Check the credit history of both the property owner (the person making the payments on
the note) and the holder of the note (the person to whom you will be lending money).
2. Is the value of the mortgaged property of sufficient value to secure the loan?
3. Can you get title insurance?
4. Can you become a co-insured on the fire insurance policy?
As an educated note buyer you are familiar with all of these procedures.
Once you have determined that the security is OK, you will create the Agreement
To Hypothecate. This document addresses all of the same concerns you would want
included in an agreement to purchase a real estate note and mortgage. It will indicate the
number of payments you will collect to repay the loan and agreed upon interest, among
other important points.
When the borrower agrees to the terms in the Agreement To Hypothecate the
transaction has begun. You can turn the handling of the details over to an escrow
company or handle the closing yourself. As the person with the cash you can dictate how
the deal is to be done.
During the escrow period you will want:
1. An Offset Statement from the owner of the property. He is the one making the payments
and you must be sure there is no dispute about what is owed to whom.
2. A Beneficiary Statement from each senior lien holder.
3. A fire insurance endorsement.
4. Title insurance.
The borrower signs:
1. A Collateral Note and Security Agreement.
2. A Collateral Assignment of the Note and Mortgage.
As the deal closes the borrower must deliver to you the original note and mortgage.
The security agreement is the security device that links the loan to the mortgage
collateral. The security agreement is not recorded, but the assignment transferring the note
and mortgage to you is recorded.
The security agreement describes the rights and remedies of both the borrower and
the lender. All future actions will be based upon what is set forth in this agreement and the
Agreement To Hypothecate.
To perfect (confirm) your security interest in the note and mortgage you must take
actual possession of the note and mortgage through an assignment. The note and
mortgage must be handed to you at the close.
The assignment must be recorded to give notice of your interest in the property and
mortgage. It should have title insurance.
Next, you as the lender must notify the owner of the real estate that you now hold
his note and payments should be sent directly to you. In this notice to the property owner
you must specifically identify the note and mortgage that you are referring to.
Attach copies of the note, mortgage and assignment to the notice. Identify the note and
mortgage in the notice by indicating the original amount of the loan and the date it was
signed. This eliminates confusion if there are multiple liens on the property.
What if the property owner stops making payments to you? The borrower must make the
payments. If he does not:
1. You can sell the Collateral Note and Security Agreement. This cancels the borrower’s
right to redemption and reassignment of the note and mortgage. In other words, you are no
longer obligated to return the note to him.
2. You can seek a money judgment on the collateral loan against the borrower.
3. If provided for in the Security Agreement, you can foreclose on the real estate securing
the delinquent note and mortgage and apply the proceeds of the sale to the loan balance.
The security agreement would be void if it called for the forfeiture of the collateral
upon default. But, the borrower can agree in writing after his default to waive any right of
redemption.
In a default you (lender) can give the borrower written notice that you will retain the
note and mortgage as full satisfaction of the money still owing on the loan.
If the borrower responds within 21 days with a written objection, then you must have
a sale and sell the note and mortgage.
Anytime there is a sale of the collateral the borrower can redeem the note and
mortgage by paying all of the following:
1. All amounts due under the note.
2. Expenses of preparing and arranging the sale.
3. Reasonable attorney’s fees.
The lender (you) can sell the note at a private or public sale. Law prohibits the
lender from purchasing the collateral at a private sale, so there would be little reason to
have anything but a public sale.
The lender is entitled to recover all costs of the sale and all unpaid principal and
accrued interest from the sale proceeds.
The lender must account to the borrower for any surplus funds produced by the
sale.
If the collateral is sold for less then the amount due on the loan, the borrower may
be liable for a deficiency judgment. That means you could go after their other assets to
satisfy what they still owe you.
Requirements for a sale vary from state to state, but in most cases notice of the
sale must be given to anyone who may be concerned.
The sale of the collateral transfers to the buyer full ownership of the note and
mortgage and all rights available under them both. He may foreclose on the real estate. If
sale of the real estate does not produce enough money to satisfy the loan, you may be
able to seek a deficiency judgment against the borrower.
Another course of action may be available to the lender in case of default. Instead
of selling the collateral you may be able to call the collateral note due and, when the
borrower fails to pay, seek a judgment against the borrower for the amount owed.
The Commercial Code applies in all of these remedies and you should seek legal
advice.
Whenever you directly lend money you must be aware of the usury laws in your
state. There is seldom a problem with usury when buying discounted mortgage notes, but
there could be interest limits on loans. Be sure you understand what you can and can’t do
as a lender.
The borrower may be subject to income taxes on the amount of his note in the year
that he gets a loan from you. This is not your problem and you have no obligation to
council the borrower, but you should be aware of the tax situation should you ever wish to
raise cash by putting up a mortgage note as collateral for a loan. Speak with you CPA for
an expert opinion.
Where do you get the cash to make these loans? Good question. As you progress
as a note buyer you will accumulate funds faster than you come across high yielding
investments. You will often be happy to invest some of your own funds at yields in the 12%
to 15% range.
By making a loan to the note holder you establish a relationship with him or her.
This can result in more loans in the future, the inside track of the purchase of any real
estate they sell and first chance to buy their note and mortgage should they decide to sell.
Using your own funds is a good tactic, because it keeps you plugged into the note
holder. If you don’t have the ready cash you can use other strategies.
You can act as a finder. When you locate a note holder who does not want to sell,
but will pledge a note for a loan you can pass that name on to a lender and collect a fee.
In most states you can act as a finder without a state license of any kind. The one
requirement is that you play absolutely no part in the loan negotiation. It is best to avoid
gathering any information concerning the note holder. Just pass on the name and phone
number and let the lender do the rest. This may save you any legal hassles if there is a
later conflict between lender and borrower. This document and accompanying materials are designed to provide authoritative information in regard to the subject matter covered in it. It is for illustration purposes only and presented with the understanding that the author and publisher are not engaged in rendering legal, accounting or other professional opinions. If legal advice or other expert assistance is required, the services of a competent professional should be sought. |
