April 27, 2009
Why Would You Do THAT??
There are dozens of reasons a property owner will agree to finance the borrower's acquisition. Most times the seller preserves the value of the note by charging an above-market interest rate, receiving a substantial cash down payment, and ensuring the borrowers are creditworthy. Other times, I shake my head and wonder "What were they thinking?"
A recent request for quote involved a property that sold in 2006. The sales price and the note amount were the same, meaning the seller did not demand a down payment as part of the transaction. Strike one. The borrowers' credit scores were abysmal. Strike two. The note was written at an interest rate of 3%. Strike three. To determine the value of this note, ask yourself if you would buy it with your own money, at any price. Most people wouldn't.
The borrowers got a great deal. They were not creditworthy, yet they were able to purchase a house with nothing down and get an interest rate that even the most highly qualified, highest credit-score consumers in America wouldn't be able to get. Sure, the seller sold her property, but at what cost to her?
Unless she is willing (and able) to hold the note to maturity, she will realize very little cash on the sale of the note, if she's able to sell it at all. Most investors will want to yield 13-15% on high-risk notes. With regard to this particular note, that will put the purchase price at around 35 cents for every dollar owed on the note.
As I've said before, sellers must protect themselves when they agree to finance the sale of their properties. The borrowers clearly came out on top in this particular negotiation, and the seller will pay dearly for it if she is forced to sell the note out of desperation.
I know most sellers never expect to sell their notes, but life happens, circumstances change, and liquidation of the note is necessary. Even though the secondary market is a buyer's market right now, there are steps you can take to maximize the value of your note. Cash down payments, strong-credit borrowers, charging an above-market interest rate, documenting the borrowers' payment history...these are the things you'll need to do to realize the most dollars for your notes.
We have two possible responses once you've given us the details of your note. The first is "Wow, that sounds like a really good note." The second is "Why would you do THAT?" Which would you rather hear?
Make it a great week.
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