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What Is A Purchase Money Note Used For?
After the debacle 2008, it should be common knowledge to players in the real estate industry that most lenders sell the mortgages in their portfolio on the secondary market after the loans are made.
While corporations and financial institutions will not be interested in acquiring notes from private individuals, there is a huge market of smaller investors who do purchase mortgage notes individually.
A purchase money note is a promissory note that converts into cash when a buyer purchases it from a willing seller.
While it is not recommended that the private investor make purchase money notes a focus of their business due to it’s complexity, it is an option that should be explored and exploited when the opportunity presents itself.
An individual real estate investor can create a note and sell it to a third party simultaneously at closing.
Because we are starting to enter the realm of financial markets, investors looking to buy notes will be interested to find out how attractive the yield and discount is.
The good thing is that these investment tools are highly flexible, and the creator of the note can conceptualize one that fits the needs of a buyer’s criteria.
The value and purchase price of the note will depend on various factors including type of investment property, value of property, creditworthiness, etc.
However, even though notes are traded regularly, it is best to handle such transactions through escrow especially when you are new to them.
An example of a discount which a buyer might demand is a 5% discount on a property worth $100,000 with a loan-to-value of 90%.
This works out to $90,000 – 5% = $85,500
If this is a price that the seller is comfortable with, then a deal can be done.
The main reason why investor go this route of purchase money notes is to avoid the various and sometimes excessive costs of loans when using a traditional mortgage.
Moreover, with a typical lender out the of picture, there will be no requirement of meeting a bank’s strict lending criteria and assessment.
As mentioned earlier, entering the world of notes is like stepping into an entirely different world compared to real estate.
There are many variations of how investors may use notes to customize their deals.
People are known to create 2 notes secured by 2 mortgages on the same property, create partial notes and sell them to different parties, and even giving one party cash and another in notes when multiple parties are involved.
So please do your homework before going into purchase money note investments whether as a buyer seller or creator.