John, can I get started with notes with no money? - Posted by Parag

Real Estate Investing Real Estate Financing
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Posted by John Behle on March 02, 2008 at 17:13:17:

Right on Dan. Good calculations. The problem with a partial post is too many distractions get in the way of me coming back to finish the calculations or thought I left un-done.

Thanks for the follow up that shows a nice increase in yield and profits for a minor change to a note.

That’s one reason I like smaller notes. Most people avoid them. For that reason, they are easier to buy. Yet, since they are small, something like doubling the payment in exchange for a lower rate or just for a shorter amortization is possible. You can end up with some yields that are incredible. The small notes can produce yields in the 30, 40, 50% range and higher.

People avoid small notes because they rely on some expensive methods of due-diligence. Yet, on a small note there is not the room for expensive due-diligence.

But, it doesn’t have to be expensive. Not every note needs an appraisal. It isn’t about the exact value, it is about just determining that there is enough equity to protect you. That can happen with past appraisals, just pulling comps, etc.

Not every note HAS to have title insurance. There was likely title insurance with the transaction when the note was created, so it is already there and the work has been done. What I need to know is that the title is OK. I don’t need a guarantee, I just need to be sure. I can check my own titles. Sometimes it is so easy that I can push one button on the county website that gives me an abstract of title. So, the result is that I can know that I have a safe note with little or no cost at all to do the due-diligence.

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John, can I get started with notes with no money? - Posted by Parag

Posted by Parag on November 27, 2007 at 22:43:14:

John:

I saw your reply for a post on the $7,000 seminar on note brokering. I was thinking if I can get started in investing in notes for very little money or no money than I would prefer being a note investor. I have been in sales before and like many people I would prefer not to do the selling profession. Some people enjoy it but I dont prefer it. I would not mind doing just to make ends meet or get a good income but if I had a choice I would rather do other things to make a good income.

No, if I dont have money to buy notes but I have money for marketing could I start investing in notes. Like real estate, can notes be bought for no money down or it is harder than buying real estate for no money down?

If I need money to buy notes, how much should I at least have to get started? How much should I allocate for marketing?

Parag

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70K PROFIT ON A 50K NOTE - Posted by John Behle

Posted by John Behle on December 01, 2007 at 21:40:44:

Here’s another example of buying notes versus brokering them and using none of your own money or money such as retirement funds. Let’s take the note I used in the other post for our example (http://www.creonline.com/cashflow/wwwboard3/messages/23758.html) .

The terms again were $50,000 8% interest payable 366.88 per month for 360 months. Discounted to a 16% yield the price would be $27,282.42. This is nearly a 50% discount. Sometimes a seller balks at such a large discount. It all depends on their needs, desires and education. If you were to try to broker this note and discount it that much, you would run into a problem. Most sellers wonâ??t go that much. But, when you are buying for your own account, there are other options. We could buy a partial. Most national buyers are backing away from partials for reasons that do not affect local buyers and note investors buying for their own account.

HALF PRICE FOR HALF THE NOTE

One offer that sits much better with most sellers is to buy half their note for half of the balance of the note. This especially works well for someone that doesnâ??t see much need to discount the note or to discount for such a large amount. Why doesnâ??t a seller see a discount as being reasonable? Because they do not understand or believe in the time value of money. They donâ??t see a dollar tomorrow being worth much less than a dollar today. We see things differently, but instead of fighting to change a sellerâ??s point of view, we structure an offer to please them.

I offer half the price or $25,000 to buy half the note. Since I do understand the time value of money, I see the first half of the note being much more valuable than the second half. The seller might see a difference too, but not as much as we do. What would be my yield if I buy under these terms?

FV = 0
PV = 25000
N = 180
PMT = 366.88
I = 15.98%

I would have just a tiny bit under the 16% I wanted and the seller doesnâ??t see himself as taking much if any kind of discount. Again, I could borrow from an investor at 12% and have cash in hand or a nice monthly cash flow plus potential future profit. The difference in the way I do partials is essential here. Most people do partials by using a contractual method. Itâ??s laden with problems and one major reason it hasnâ??t worked well for them and they are now backing away from partials. I use what I call a â??compensating noteâ?? technique where I buy the whole note and give the seller a note for the last half. It can be secured by the note I am buying, another note, a piece of property or any collateral I want.

TANTALIZING TAILS

One other option in using partials is to use retirement funds to buy the whole note, pay off the investor in half the time and leave the last half of the note in an IRA. Or, you could even buy the whole note and sell off the first half if you had a buyer that buys partials. Letâ??s look at the investor financing option.

In option one, letâ??s forgo the commission to see what we can create in the way of a free note. So, I buy the note under the original terms of $27,282.42. I then borrow from my investor at the 12% yield he/she needs to be happy and hereâ??s how it works out. The loan to the investor pays out in a little over 13 years leaving us with 17 years of free cash flow.

PV = 27282.42
PMT = 366.88
I = 12%
FV = 0
N = 137

70K PROFIT ON A 50K NOTE.

Another option is to see how much cash we can take out up front and still keep the last half of the note for free. So, in that case, the N = 180 and we recalculate for the PV and end up with 30,569.05. That means we could pull out a $3,000 commission up front and still have the ending cash flow of 366.88 per month for 15 years - for free. That means a total profit on this note of $69,038.40.

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Absolutely - Posted by John Behle

Posted by John Behle on November 30, 2007 at 21:11:43:

Yes, you can invest in notes with none of your own money. To me it is easier than investing in property. It’s just a matter of knowing the sources, how to approach them, how to find the notes and do the due-diligence.

Here’s an example.

Let’s say I have found a 50,000 note at 8% interest payable over 30 years. I negotiate with the seller and negotiate to buy at what to me is a 16% yield. A normal note broker would sell it at higher yield and collect the difference. Let’s use 12% for the example.

Here’s how the numbers lay out.

PV = 50000
I = 8%
N = 360
FV = 0
PMT = -366.88

Purchase terms

I = 16%
PV = 27282.42

Now here is the price for resale

I = 12%
PV = 35,667.68

So, the broker would make the differenc between the purchase price of 27,282.42 and sale price of 35,667.68 which equals 8,385.26.

But that is it. He makes a commission and moves on to the next note. At the same time, a note investor could buy the note under the same terms and borrow against it instead of selling it. The numbers are the same, but the long term results are a great deal different.

Instead of selling for 35,667.68 the note investor can borrow the same amount from an investor. The note investor would still put the same amount of money in his pocket of 8385.26, but he also still owns the note. With little knowledge of notes someone may see that as a bother or useless baggage. With more knowledge of notes (which few people have) they could see incredible opportunity.

What are the opportunities?

  1. Early payoff.

  2. Increased cash flow

  3. Paper Trade transactions

  4. EARLY PAYOFF.

Very few 30 year mortgages go the full term. Most pay off in just a few years as properties are resold or refinanced. So, what if this loan paid off in 2 years? Who would get the money in the first scenario of brokering a note? Who would get the windfall profit in the second scenario of borrowing from an investor.

If you broker the note, you’ve lost all rights to any future profits. If you borrow against it, you can receive windfall profits. In this case, the balloon payment in two year will be:

PV = 50000
N = 24
I = 8
PMT = -366.88
FV = -49,130.03

So, in addition to the money received right up front when buying the note, the note investor would receive a windfall profit of the difference between the payoff on the note and the payoff to their investor (-35,405.02). So, the note investor pockets an additional $13,725.01.

So, a note broker makes $8,385.26
And a note investor makes $22,110.27

Or, if it had been your own money invested through your self directed IRA, kids college funds, etc. then your rate of return would have been 42.27% IRR.

  1. INCREASED CASH FLOW.

There is also the possibility of increasing the value of the note in 117 different ways. One of which is to increase the cash flow through various incentives to the payor. Many payors on notes are thrilled at the option to shorten their loan. Sometimes it is just as easy as showing them how they can increase their payment. In other cases, you can do things like lower their interest rate to entice them. Letâ??s just look at what a little over a hundred dollar increase in the payment would do for everyone.

So, the payor increases his payment to $500 per month. His loan would now pay off in 166 months or less than half the time. Over 16 years early with a savings of $49,076.80 in interest (82,076.80 vs 33,000) .

PV = 50000
PMT = -500
I = 8%
FV = 0
N = 166

Without going into the calculations right now, you would also have a much higher yield or rate of return.

  1. PAPER TRADE TRANSACTIONS.

When you still own the note, you can still use it in â??Paper Tradeâ?? type transactions. That is a little beyond the level we discuss here, so I would say to search for â??Paper Tradeâ?? in the archives and get some background on that. In my seminar and materials I show people how these collateralized notes are still very valuable to use in paper trade transactions and how to do that. Unfortunately it would take an hour or two of typing to lay the background here and without a question answer format, whiteboard, etc. it is too much to tackle here in a post.

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Re: 70K PROFIT ON A 50K NOTE - Posted by Bob Smith

Posted by Bob Smith on December 01, 2007 at 23:29:26:

>One other option in using partials is to use retirement funds to buy
the whole note,
>pay off the investor in half the time and leave the last half of the
note in an IRA.

Some readers may not realize that an IRA that borrows funds, or
issues a compensating note, to do this deal makes it a fully or partially
taxable deal. An IRA reaches the 35% tax bracket at only ~10k in
taxable income. If you, personally, are already in the 35% bracket
(good for you!) you might as well do it in your IRA since it makes no
difference. If you personally are in the 25% bracket, doing a deal in
your IRA that’s going to be taxed at a 35% marginal rate may or may
not make sense. It takes a little more thought about your
circumstances before deciding the best place to put it.

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Re: Absolutely - Posted by Dan

Posted by Dan on March 01, 2008 at 15:33:49:

For whatever reason you didn’t have time to post the actual yields for your second example. There are two possible outcomes based on slightly different assumptions.

#1 Assuming a payment of EXACTLY $500, there would be either 165.33902 payments, or put another way 165 full payments and a final payment of $169.51 yielding 20.69%, or an increase in return of 47.79% over the brokers purchase yield of 14%.

#2 Assuming EXACTLY 166 full payments, which would be $498.91, you would yield 20.65%, or an increase in return of 47.75% over the brokers purchase yield of 14%.

Thank you John for giving us the tools to write our own 50% + raises. Please keep providing great info, there are those of us truly hungry to learn and willing to study, and we are listening!
~Dan