Sale of mortgage, note can raise capital quickly

by Kent Harlan

for the Business Journal

Many who have financed the sale of their home or other real estate think that they are locked into receiving monthly payments until maturity.

The fact is there is a large market devoted to the purchase of carryback notes and mortgages.

If the individual is content with the monthly cash flow, happy with the interest rate he's receiving, and the property has a relatively low loan-to-value ratio, then he probably should continue to receive monthly payments until a need for a larger amount of cash arises.

However, there are several reasons why selling a cash flow makes sense.

?Paying off high interest debt.

?Down payment for a new property.

?Cash for a high yield investment opportunity.

?College tuition

?Emergency cash fund

?Eliminating various worries that go along with holding a note, such as collecting payments, IRS requirements and the risk of default.

Monthly payments are like a drip of water from a faucet. Selling a note can turn this drip into a waterfall.

It's a fact that one is more likely to spend monthly payments received, while a lump sum of cash is perfect for investing.

Who buys these notes? There are individuals who regularly invest in these instruments, but the majority of private mortgages are purchased by institutional buyers.

These large national corporations rely upon brokers to communicate with the seller, gather the necessary documents and do whatever legwork is required to close the transaction.

How much can a note seller expect to receive? It is important to be aware that this is a discount market. Just like everything else in our economy, the note is worth what someone is willing to pay for it. Part of the reason the note is discounted is compensation for the cost of due diligence.

When an investor considers purchasing a note, a credit check is run on the property buyer (the payer). In addition, an appraisal is conducted (usually a drive-by) and title work is ordered.

The underwriting department examines the results of the due diligence review in detail and also weighs other factors such as the amount of money put down at closing and the seasoning of the note. Seasoning refers to the amount of time the property buyer has been paying on the note.

The greater the length of time, the more confidence the investor has in the payer's ability to make payments in the future.

Another significant factor that impacts the amount of proceeds to the seller is the time value of money.

This concept simply means that today's dollars are worth more than those in the future.

For example, an amortizing note maturing in 10 years is much more valuable than one in which the entire balance is due in 10 years.

What if a seller needs a lump sum less than the liquidation value of the entire note? There are a variety of methods available to those with these special needs. In the note industry, these are called partials. Several of these methods are summarized below:

Partial: The sale of a specified number of installments for a lump sum. After the investor has collected these payments, the note is reassigned back to the seller for him to collect the remaining payments or balloon.

Reverse partial: The sale of future installments allowing the seller to continue receiving immediate payments for a specified period of time.

Split disbursement partial: Sale of a portion of each installment with the seller receiving the remainder of each payment.

Multiple staged payout: The sale of a receivable by a guaranteed staged payout of proceeds. This method could be used if someone has multiple obligations coming due in various time frames.

How long does the whole process take? Once the worksheet containing information on the property, the note and the property buyer is received, an initial quote can generally be offered within three days. The quote is contingent upon the due diligence referred to earlier.

If the seller accepts the quote, the next step is ordering the appraisal and title work, as well as submitting the recorded deed, current insurance policy and note. This process usually takes from two to three weeks, depending upon the activity of real estate sales in the area.

If the investor feels comfortable with the appraised value and the title is clean, proceeds are typically disbursed through a closing or escrow company just like any other closing.

In this article, I have focused entirely upon the sale of seller carryback notes involved with single-family dwellings. Any type of cash flow can be purchased, such as lottery winnings, insurance settlements, mobile home notes and leases, just to name a few.

Finally, even if a note holder isn't interested in actually selling the note, receiving a note appraisal is a good idea as it can be beneficial for estate planning and investment evaluations.

(Kent Harlan is a CPA in private industry and is the owner of Ozarks Capital Funding.)

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