Can someone help me to analyse this Note?

Question

A seller finance note:
Property buying price: 315k;
Down:100k;
Financed amount:215k;
Term:15 yrs;
Terms remaining 14 yrs and 5 months; (174 payments)
Interest Rate:5.75%
Monthly payment: $1748

Note asking price 200k
The property buyer ofc can pay off the equity any time.

BTW, I can finance at 45k down at 4.75% rate on a 20 yr term

Jon Holdman · Answer

Brian Stone this isn't really a percentages issue. Determining the value is the same calculation as for a mortgage payment. There are four variables involved: The loan amount, or, more formally, the "present value", the interest rate, the term (number of payments) and the payment amount. Often you know the first three and can calculate the fourth. But knowing any three, you can calculate the fourth. In determing the value of the note, all I did was use the payment and number of payments provided by Richard Lee and what I would consider a possible rate (10%). From those three, I can compute the "present value" of the note, $159.847.52. Using the correct value of the payment, $1784.23 by my calculations, I get a PV of $163,160.60. You can do these calculations in Excel (PMT (payment), PV (present value), RATE (interest rate) and NPER (term)). The related FV (future value) will let you compute the loan balance of a loan at some point in the future. For instance, after 7 payment. I get an actual loan balance on this loan of $209,632.77. You can usually do these calculations on a financial calculator, but Excel is much easier.

Richard Lee · Answer

I think you guys are right, I don't think I know what I am doing with this notes, and it is best not to rush into any deals that I have no clue about. I am buying a fourplex with 8% capital rate

Don Konipol · Answer

A number of states, including the two I am involved in, Texas and Arizona have enacted legislation controlling contracts for deed. In Texas, this contract for deed may already be illegal as "borrower" must be given title to the property when his equity in the property reaches a certain percentage of value. In Arizona, the notification period for the lender to take back the property under a contract for sale increases as the borrower's equity in the property increases. Further, contract for deeds with a minimum of equity require a judicial action, which can take 6 months - one year, as opposed to a trustee action in a deed of trust financing which in Arizona takes about 120 days. Homestead issues increase the foreclosure time and efforts in both states; in Arizona by statute and in Texas by judicial practice. The days of just buying a note with little knowledge - especially a note in which a homeowner is or may be involved - like in a single family home - are over. Note buyers lacking extensive knowledge of both Federal laws and regulations as well as state specific laws and regulations regarding note origination, note servicing, debt collection practices, foreclosure proceedings and bankruptcy laws need to spend an extensive amount of time getting educated, or need to utilize the services of a broker knowledgeable in the specific area of interest. The number and variety of lawsuits against lenders is staggering; with new regulations enacted recently this will only increase. I for one will invest/lend on notes secured by commercial property only.

Dion DePaoli · Answer

Some insight into what I see here. The loan is barely 7 months old. This is a hard money loan, unknown residency. The borrower put down 30%. The Lender offered a rate very close to market at 5.75%. From the looks, the borrower got a pretty good deal here, maybe even too good. As Jon and Bill pointed out the post doesn't include any underwriting information related to borrower credit. I would be curious to understand why the borrower didn't get conventional finance. That down payment would have helped him a bit unless his credit is a real wreck. I come up with a current UPB of $210,635 based on 7 payments. So the asking price is around 95.40% of the UPB and 63.49% of the RE Value. I come up with a yield at 5.72% (gross). (Jon, we may have used different numbers but he is not going to get a 0.50% boost to his coupon holding to maturity so he should be under the coupon) New originations just hit 4.5% on a 30 year. That is an important benchmark as the rate on this loan puts the risk into a similar category as those 'vanilla' prime conventional loans. Granted we have some additional equity insulation but we do not have much of a payment history. It is tough without more credit risk information to understand if the rate is warranted or under market. My guess is it is under market. That same 4.5% on a 30 year will get you good credit at 680+. I agree with Bill, there seems to be a lot of newbies trying to finance notes. It also seems that the newbies tend to have little experience with purchasing whole loans. I think the OP here is a little confused on the matter. Richard Lee, are you sure someone will provide you debt, secured by this mortgage, at 4.75%. It seems like you are trying to compare what sort of mortgage terms you will get if you finance an investment property with a mortgage to financing a note purchase. That is not the proper comparison here, really apples and oranges. At best, we are seeing 7.0% cost of capital to finance notes and the leverage is closer to 1:1 not 3:1. I don't know anyone with that type of leverage (3:1) at all right now at that type of low rate. For similar hard money loans, rates are flirting around 9%. In comparison, this loan is a little light on the downpayment requirement for those loan types by around 5% to 10%. If the finance terms given to put debt on the note are true, the OP would be looking at 18.72% rate of return. Again, great if true, but not likely this is the correct terms for debt with this type of collateral. A little detail tidbit, in the sentence, "The property buyer ofc can pay off the equity any time."....as Jon pointed out this sounds like you mean there is no prepayment penalty. Fine. However, the OP terminology here is still wrong, a Borrower does not pay off their equity, they already have their equity, they pay off their debt. I hate to seem like I pick on details, but that says to me, the OP doesn't really understand the asset class all to well. (not picking on you, just an observation) I didn't fully follow this statement in the thread from Richard, "Although the cash on cash rate of the note seems fine, the return on my opportunity cost for my credit is low, about 6%, I may want to consider the offer before I jump into it. " Not positive that is being properly evaluated and could even be misleading. The CoC or [P&I] x 12 / [Sale Price] = 10.70%. Not a bad looking number. If you calculate the cumulative interest payments to maturity, you will receive $99,039. The discount to UPB will bring you back another $9,632. So your total earning potential is around $108,671. That is a Return on Investment of 54.3%. Spread over 14 years. However, you are only earning 5.72% as a Total Return for this loan held to maturity. Not sure if you are looking at the wrong number when you say the cash on cash rate of the note seems fine. You mention you have a 6.0% opportunity cost. That would mean there is an alternative investment on your desk that you can use your credit to earn over 11%. Your opportunity cost is the difference between the primary and secondary investment choices. If you really have an opportunity cost of 6.0%, this deal should not be on your desk any longer. You should be looking for deals that are north of 11% return.

Bill Gulley · Answer

I'm rather concerned about borrowing money to buy notes, that really needs to be addressed as to how that is set up as you may be getting into brokering. On the surface your source of funds may not seem important, the seller won't care or even know, but if you get into court on a foreclosure it could be a very big deal. I would not pay anywhere near that on a newish seller financed note at that yield! 150ish maybe. There is no information on the due diligence side, was this note originated by a mortgage broker, is there a MO seal on the note? Is there a loan file on this note, verified incomes, liabilities, credit report and closing docs? Appraisal and by who or is that the sale price? I do like the LTV if they buyer didn't overpay. Consider your servicing expense in your returns. :)

Jon Holdman · Answer

Perhaps actual note buyers like Dion DePaoli or Marc Faulkner could chime in on what you might expect. May depend on the buyer's credit, too. The return may improve with some seasoning, too. If I wanted a 10% return, I'd pay about $160,000 for that note. $200K is essentially face value, giving a yield to maturity of only 6.17%. I think the payment was miscalculated. I get a payment of $1785.38 given your terms. 14 years and five months is only 173 payments remaining, not 174. What do you mean by: That the borrower can pay off the loan at any time? Yes, that's typical. They can stop paying at any time, too, and force you to foreclose. Do you mean you're going considering borrowing $155K at 4.75% for 20 years to buy this note? That's not much of a spread. You're making 6.17% on the $45K you invest plus 1.42% on the $155K you're borrowing. That makes your net about 11.6%, which I guess is pretty good.

Don Konipol · Answer

Richard Lee, "I am buying a fourplex with 8% capital rate" good start! good luck.

Tom A. · Answer

Richard, I'm confused too. If the borrower paid $100,000 upfront that sounds like a land contract, but the term "lease to own" sounds like a lease option, which is a lease with an option to purchase the home. Richard, please don't take offense, but the factors noted above by several very astute commenters combined with what I perceived as your lack of real estate investing experience makes this a high risk transaction for you. Unless you can get much more comfortable with this potential deal, you may want to look for more of a plain-vanilla investment.

Dion DePaoli · Answer

The the "note" is the contract for deed. The sale structure would be you buy the real property which already has a contract for deed in place. It is hard to tell if you confirmed the real property comes with the sale of the contract for deed or if the contract for deed is being sold as a stand alone asset, which is really just buying the cash flow from the contract. In a Contract for Deed or Land Contract, essentially the borrower is more of a tenant than a borrower. They do not have title to the real property but have an interest which is created with the land contract similar to a tenant for use and enjoyment. If there is a default on the CFD, then you can pursue eviction opposed to foreclosure which might be a little cheaper and faster depending on your state. Not sure what legal action you think the tenant/borrower could take. Nothing here seems predatory or improper, just another way to finance real estate.

Richard Lee · Answer

I am confused! NEW updates. The borrower did not have the deed, he actually have a "lease to own" contract, except the borrower paid $100k up front! (Does he got tricked or something?) So, if I buy the "note", I will have the deed, and if he decide not to pay the monthly payment, I don't need to "forecloure"; I just don't have the obilgation to sell it to him after he . Has anyone done this kind of deal before? Does the situation improves because I will have the deed, or is it a even more complex thing and the borrower may take legal action against the "note" holder, Please help?