Fri, Sep 03, 2010
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Buying Notes for Dummies
| | Monday, July 26, 2010 @ 01:52 PM EDT
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Contributed by: Amber Gunn
Amber Gunn Properties
Read more archived articles about Paper and Mortgage Investing
Are you a Realtor/Investor that has been chasing short sales that have taken you months or years to complete?
Are you looking for a new way to hone in your skills as a Realtor/Investor to create new income streams to replace revenue you’ve lost?
Are you looking for a virtually untapped niche to establish your unique marketing proposition as a real estate professional?
As a licensed Texas broker, I can and have said yes to all of these things. Over the past 5+ years, I’ve negotiated and closed 300+ short sales. It’s been a long road paved with a lot of frustration as well positive meaning to the distressed sellers I’ve saved. Let’s be clear here though. Short sales are not rocket science, they are just terribly cumbersome. They always say that you can make the most money in a down market, and I’m finally seeing how.
I’ve heard too many times that those specializing in the REO/preforeclosure market are just not closing enough deals fast enough to make ends meet. Luckily, I was introduced to the concept of buying the nonperforming notes (defaulted mortgages) on these preforeclosure (short sale) properties. Loans/mortgages get sold to other lenders all the time. You end up getting a letter in the mail stating that your loan has been sold, and your new servicer is someone like Wells Fargo or Chase or B of A. It turns out anyone can buy the note (bad debt) as long as they have cash and can prove it.
Because these loans are nonperforming with missed payments by the borrower, the lender is willing to sell the note at a discounted rate. It’s better for them to have the bad debt off the books and to make a little money than it is to keep these defaulted mortgages. Now, this all sounds really easy, but I’m here to tell you otherwise. Just as short sales can be time consuming, so can buying the notes. BUT, buying the note increases your total return on your cash AND reduces the complete sales cycle by about 2/3 of the time it takes for a short sale/flip.
Not all banks sell their notes. They are usually the smaller, local or state lending institutions. Those lenders usually sell in pools (groups of properties) that they have put together, and sometimes they will let you add/detract from their pool, put together your own original pool, or sell them off individually (as a “one-off”). The larger lending institutions like Chase, GMAC, Wells Fargo, etc. typically sell their residential pools in minimums of 10’s of millions of $$$. Unless, you are overly wealthy, I would start with a “one-off” to get your feet wet. Most lenders will sell commercial notes individually, but again some of the larger ones require a minimum investment amount in the form of a pool (tape) that they put together.
Honestly, without calling these lenders directly getting to the secondary marketing department or the capital assets desk or the head of loss mitigation, you cannot assume anything. On top of that, banks are changing their policies almost daily, and turnover inside the bank is rampant as well. So, when you actually DO get to the right person, their job might be taken by the next week, and you’re back to ground zero. Expect to be hung up on, for emails to never get through, and to possibly lose some hair during this process. BUT once you get one contact that you develop a rapport with, it could be the jackpot! (I speak from experience on this one.)
Now, you have this contact, and they you send you a spreadsheet (tape) of loans they are willing to sell. You will need to ask what type of color (cents on the dollar) they are looking for and start to evaluate the properties. Typically, they will be asking for around 40-50 cents on the dollar of unpaid balance (UPB), NOT FMV (fair market value) of the property. There are several exit strategies after you decide which properties you are interested in. The first thing I suggest doing is pulling them on Zillow. Zillow will give you an estimate AND will tell you if the property is for sale. If the property is for sale a short sale, this will be the easiest way to cash in on your note investment in the least amount of time. Let’s look at the example below.
123 Smith St.
UPB: $16,000
FMV (as is): $75,000
Listed as SS for $60,000 (according to Zillow)
I think the lender will sell me the note at 40% of UPB (16k) for a price of $6,400.
I call listing agent on the SS as a prospective buyer asking if they have any offer, fishing… The agent ends up telling me they have an offer “close” to list price. I will assume conservatively that it is for $50,000. They have already found my buyer! Yea!
I put in my LOI (letter of intent) and a POF (proof of funds) to the lender to buy the note. Since I’m only buying one, they counter at 50% of UPB for a price of $8,000. They accept!
It takes about a week to get everything on the books. Since this is NOT a change of property ownership and ONLY an assignment of collateral, there are no closing costs, minus maybe recording fees and attorney fees for the escrow account at 5% of my purchase price of 8k for a total of $400. So, at this point I’m $8,400 into this…
I become the lender, and I call the borrower. Of course they tell me about their financial hardship and the SS listing, and I tell them I’m more than happy to work them and their agent. I call the agent informing them that they loan has changed hands and to submit the short sale offers they have received to me.
Well, I get the highest offer, and it turns out the Realtor embellished just a tad… It was ONLY for $40,000. Erggggggg… Well, I’m not greedy, and I want a fast turnaround on my $$$, so I accept the SS offer of 40k. I want to build a good rapport with the listing agent and buyer’s agent, so I agree to pay the full 3% to each which is virtually unheard of in the RE market these days. Let’s say with title, escrow, back taxes, commission, HOA, etc., I have 10% of closing cost that come out of my profit. Out of 40k, that is $4,000. Because it’s a short sale, we will say it took 45 days to close. Let’s just add another week to be conservative.
We have the first week to become the lender, 45 days and additional week for a grand total of roughly 60 days or 2 months. We have a total of $12,400 ($8,400 to buy the note and $4,000 in closing costs) out of our 40k sales price to net us $27,600. The best thing about this scenario is that we are REALLY able to say the homeowner by them escaping from having a short sale on their credit. We are a private lending institution (not a Wells Fargo) and do not care about ruining their credit any more than it already has been. All the homeowner has on their credit report as a result of us buying the note are late pays!!! And you don’t think that will bring referrals for us to purchase the note or at lease more SS listings??? Sound better than a short sale flip? Um…yeah! So our investment on our money with buying the note yields us 69% (27600/40000) of our money, and it only took 2 months!
Typical short sales take 3-9 months. We will use 3 months for extra, stellar SS specialist brokers. There is some make ready at about $1,000 that has to take place. That takes at least 2 weeks, but we will give them the benefit of the doubt because these are SS pros. It goes back on the market, and the property gets an offer of 70k when it was purchased from the lender as a SS for 50k. With commissions and closing costs, $5600 (8%) is taken away from the gross profit of 20k (70k minus the 50k). It takes 30 days to close from there, and our net profit is $13,600 (with closing costs and make ready taken out). Our total sales cycle for the short sale flip is 4.5 months. And that is wishing for the best! This scenario yields us 27.2% on your cash investment of 50k. Not bad numbers… But it doesn’t compare to the ease, $ in your pocket, and savings of 2.5 months with buying the note.
As a real estate AND note broker now, let me tell you what excites me about purchasing the nonperforming note (defaulted mortgages). I have been able to create multiple streams of income from one contact at one lender and to expand my business, geographically as this ONE lender sells notes all over the United States. The hassle and time factor of “fix and flip” is no longer an affliction I suffer from, and the three “T’s” of property management, termites, toilets, and tenants, will never make me cringe again.
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