Private Mortgage Notes: A Lucrative Diversification Tool

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As you start your investment journey, there’s one thing you’re going to hear over and over again:

“Diversify!”

The concept is absolutely true, you don’t want to put all your financial eggs in the same basket. But diversification is more than just selecting different stocks – sometimes it means finding financial products that are out of the spotlight to balance risk. One of these such financial products are private mortgage notes.

 
mortgage notes
 

What is a private mortgage note?

When most people hear the term “mortgage” they think of large financial institutions like Bank of America and Wells Fargo. However, each year thousands of Americans sign what’s called a “private mortgage note” or also called in some areas a “real estate note.”

In a private mortgage, the seller acts as a bank would in a traditional mortgage. The property acts as collateral against the loan they gave to the home buyer to purchase it: if the home buyer defaults on the loan, the lender becomes the owner of the real estate.

Just like Bank of America can sell someone’s mortgage to another bank, the note holder can sell the private mortgage note to a buyer. The buying company gives the note holder a lump sum of cash, and from then out the buying company sells the incoming payments to an investor for returns sometimes as high as 15 percent.

And you can be that investor.

Related: 10 Mistakes to Avoid as a First Time Homebuyer

Why invest in mortgage notes?

Investing in mortgage notes is a way to invest in real estate with less hands-on involvement than traditional ways.

Usually, real estate investing typical involves either flipping a piece of property or buying property with the intent to act as its landlord.

Both options have advantages and disadvantages.  One advantage is that real estate is often considered a fairly secure investment, especially from a long term investment perspective. But many find the amount of work you have to invest in either repairs needed to flip homes or the hassle of managing tenants to be tedious.

However, with mortgage notes, the investment is secured by real estate, which acts as collateral. But since the borrower is a homeowner, they take care of the property and there’s no need to manage tenants.

With a mortgage note, you just pay an upfront investment of capital, and then you receive the future payments from the home owner.

Related: [Investing for Beginners 101] The Basics of Investing

Types of notes

Both traditional and private mortgage notes can be purchased by investors. Investors can buy either a portfolio of notes or single notes. From an investment perspective, there are two main types of notes that an investor can purchase: performing notes and non-performing notes.

Non-performing notes are mortgages where the homeowners has not been making regular payments. Also referred to as distressed notes, these notes are often much cheaper for an investor and come with higher risk and a higher opportunity for return.

Different investors take different stances on how to manage non-performing notes. Some will take underwater and behind non-performing notes and work with the homeowner to restructure the loan and then sit back and let the payments come in. Others will purchase the note and then foreclose and resell the property.

Performing notes are notes are notes where the homeowner, aka borrower, is making regular payments. These notes obviously tend to have a lower risk and thus a slightly smaller return. Performing notes can be a great source of continual income for those planning their retirement.

Regardless of which note sounds appealing, this investment opportunity is one that should not be ignored on your path to diversified investing.

Catherine Byerly

Catherine Byerly

Catherine Byerly began her career in financial operations at Citigroup before moving into communications. She has worked in mass communications for the past five years, handling everything from on-air public radio casts to writing for business news publications. She received a Political Science and Communications degree from the University of North Florida.

Currently, Catherine covers personal finance and the secondary annuity market for several publications including StructuredSettlements.com.

When she's not writing about other people's money, she can be found at the beach or climbing a mountain.
Catherine Byerly

4 comments

  1. I like the idea of investing in real estate through real estate notes. It is not quite as risky or expensive as buying the home, or land myself. I also like the idea of being able to help someone make ends meet. I know that isn’t very business like, but I think it is safer to get regular payments than to try and get a single lump sum.

  2. Both traditional and private mortgage notes are very helpful in buying properties.But care should be taken in selecting the best or right notes.Thanks for sharing!

  3. I would love to purchase mortgage notes for a referral fee, but I am not sure where I can purchase the notes. It will be a tedious job to go online to a states property website to find the owner’s property. Can you suggest where I can purchase the notes for a referral fee?

  4. Thanks for explaining some of the benefits of private mortgage notes. I like that they are a less hands-on way to invest in real estate. You make a great point about how it is an investment opportunity that shouldn’t be ignored.

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