Holding a mortgage note. Pros and Cons

C

Clubber Lang

Anyone with experience holding a note for the buyer?

One of my tenants would like to buy the property he rents but he most likely won’t qualify for a mortgage from a bank.
He works as a bartender/manager off the books completely cash in a hot seasonal beach bar, and in the slower winter months Bartends and picks up side work.

He can put down 20% and wouldn’t haggle over a higher interest rate (a full point maybe two above bank rates).

I bought the house in cash so there is no mortgage on it. Cash flow is solid ($2400/month rent) so I don’t need to sell.

Any thoughts/experience would be appreciated

Thanks.
 
Depends on both of your situations, motivation levels, the value of the property, it’s condition and the appreciation rate of the location, how you feel about liability.

Deed in buyer’s name, you’re not liable, you retain title, you still are. The closing costs are where there are trade offs.

Land sale contracts are where you would retain title and are easier to remove a non-paying tenant than initiating foreclosure proceedings.

With either, best to have a payment processor so that non-payment goes through a scheduled protocol without heart wrenching emotional appeals.

Also, imho, it’s advantageous to set a higher payment with meaningful discount for auto direct deposits.

Lease option might be an alternative where the option price paid can be applied to whatever route you ultimately go and the purchase price can be negotiated upfront. Many lease options fail to execute porchase due to a variety of reasons. Some because they were structured with a bias toward the seller with higher than market purchase price and others because the buyers circumstances have changed.

In either case if the buyer walks, you’ve retained the premium for the option.

My belief is that whatever you negotiate, designing the transaction so that your buyer is in the best position to cash you out is more ethical than being predatory.

If you want to get creative, you could also negotiate equity-sharing or a JV.

Robert Allen’s Nothing Down classic outlines a variety of ways to negotiate creative contracts that have been repackaged by others since then.
 
Sprout said:
Depends on both of your situations, motivation levels, the value of the property, it’s condition and the appreciation rate of the location, how you feel about liability.

Deed in buyer’s name, you’re not liable, you retain title, you still are. The closing costs are where there are trade offs.

Land sale contracts are where you would retain title and are easier to remove a non-paying tenant than initiating foreclosure proceedings.

With either, best to have a payment processor so that non-payment goes through a scheduled protocol without heart wrenching emotional appeals.

Also, imho, it’s advantageous to set a higher payment with meaningful discount for auto direct deposits.

Lease option might be an alternative where the option price paid can be applied to whatever route you ultimately go and the purchase price can be negotiated upfront. Many lease options fail to execute porchase due to a variety of reasons. Some because they were structured with a bias toward the seller with higher than market purchase price and others because the buyers circumstances have changed.

In either case if the buyer walks, you’ve retained the premium for the option.

My belief is that whatever you negotiate, designing the transaction so that your buyer is in the best position to cash you out is more ethical than being predatory.

If you want to get creative, you could also negotiate equity-sharing or a JV.

Robert Allen’s Nothing Down classic outlines a variety of ways to negotiate creative contracts that have been repackaged by others since then.
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Great information
Thanks Sprout!
 
One last thing about creating a mortgage note. There is a network of note buyers and sellers. So if you were to be strapped for cash at some point down the road you could get cash out of the note. It'll have to be seasoned at least a year and the buyer will demand a discount but is an option to know.

Good luck!
 
Sprout said:
One last thing about creating a mortgage note. There is a network of note buyers and sellers. So if you were to be strapped for cash at some point down the road you could get cash out of the note. It'll have to be seasoned at least a year and the buyer will demand a discount but is an option to know.

Good luck!
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Thank you!
 
A seller's note or option like this is almost always a horrible deal from a risk perspective for the buyer, and hence a great deal for you as a seller. It sounds like you're in a win-win situation here because you personally know the buyer and can do the deal with much less risk than a bank, he doesn't have access to a bank and is happy to pay you a bit extra for the extra service you're providing, and it's really little risk to you over your current arrangement.
 
Sig said:
A seller's note or option like this is almost always a horrible deal from a risk perspective for the buyer, and hence a great deal for you as a seller. It sounds like you're in a win-win situation here because you personally know the buyer and can do the deal with much less risk than a bank, he doesn't have access to a bank and is happy to pay you a bit extra for the extra service you're providing, and it's really little risk to you over your current arrangement.
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Agree Sig.
It’s basically getting a chunk of cash (his down payment) back and also off the hook for maintenance/repairs and RE taxes.
If he defaults I get the house back.

Seems solid.
Thanks for helping!
 
I live in California...A note and deed of trust state. A deed of trust state is much more easier to foreclose on than a mortgage state. Most lenders love deed of trust states...Many lenders wanted loans from CA. It is also what got us into the mess in 2007-2009. I believe a mortgage has to go before a judge to foreclose on...They can take up to one year to try and redeem the property. Deed of trust does not need a judge. This is what the foreclose looks like on the courthouse steps. It's funny...Many times you will see these people making announcements to no one. It looks like they are talking to themselves. No, just following the law. I've bought about 10 deeds of trusts over the years. I would never want to own a mortgage. Just me.
 
Clubber Lang said:
Agree Sig.
It’s basically getting a chunk of cash (his down payment) back and also off the hook for maintenance/repairs and RE taxes.
If he defaults I get the house back.

Seems solid.
Thanks for helping!
More...

That's the biggest overriding financial issue.

I have a close friend family that owned a bowling alley. Had an offer to buy it for $2.8MM. Wanted to pay $2.3MM down, and have the owner carry the $500K balance. Wife objected. I adviser her that in the event of default, they'd get the property back and could keep the $2.3MM. She wanted "all the cash or nothing". Deal fell through. A few years later they sold for $1.1MM. Tragic.
 
If you are in California or another state with anti deficiency laws and the FED jacks interest rates you could be taking a property back worth than what you could sell it for today and you would probably not be able to recover anything else from the buyer. You might a property which has been neglected or "harvested".

This is why I believe buyers should pay a premium when sellers do the financing. Buyers in anti deficiency situations are getting a call option on rising real estate prices for the amount of the downpayment money and whatever premium they pay in interest.
 
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