Investing sweat before money in notes

20 Replies

I would like to get started with getting “hands on experience” in or around note investing, but do not yet feel comfortable enough with the asset class to lay down the type of capital it would take to get started directly investing (~$100k or more to start, I’m told). So, what is the best way to invest my sweat to get hands on experience before I invest my money?

Background & details:

I am an engineer by trade & education and I also have an MBA in finance, which by no means makes me an expert, but it is a start … I'm good with numbers, pay heed to the details, and conservative in nature (defense first, then returns). I also have a wicked independence streak, don't mind being contrarian, and like to be hands on & in control, which could be a good or a bad thing depending on the context and who you ask. I already have been successful investing and managing a small SFR rental portfolio. I work a fulltime job and am not quite yet financially independent from my passive rental income (but almost). I have money to invest in the form of cash in SD Roth IRA LLC + excess equity that may be tapped via either sale or cash out refi. I worked hard for this money, by investing carefully and with a lot of sweat equity, and don't want to be cavalier in investing it into something I know little about (like notes). However, I'm finding that the SFR rental numbers in the markets I operate in are no longer working, so I'm looking to diversify my investments into notes. For my SFRs, I purchased distressed REO "cosmetic fixers", was active in repairing them, then hold them for passive long term income … I would like to adopt a similar type of strategy with notes. I would like to stay in my own backyard (SoCal), be hands on and independent as possible, without pooling my $ into a fund or JV (MyM, not OPM). I'm not looking to get rid of all my SFR rentals, just augment them by diversifying into notes. This is where I'm envisioning ending up.

My ideas so far:

I would like to work part time (10-20 hrs/week, nights + weekends) to get some hands on experience. Part time is likely my best bet because unless I could start at or near 6-figures (not bloody likely), then the opportunity cost of quitting my current day job would be too high. I don’t necessarily need to make any money on my initial sweat, but must get valuable knowledge & experience out of it. I would then invest money once I:

  1. 1) Understand due diligence to assess risks, rewards, and values as well as develop skills to find good deals, remedy issues that may arise, and execute a variety of exit strategies successful.
  2. 2) Find notes that meet my investment criteria. I’d be happy with 12-14% annualized returns when notes are performing, plus a “kicker” derived from a discount from UPB if the note prepays. All this while having equity sufficient to cover my downside and avoid principal loss. I see item 1 above as a prerequisite to 2.

So, is this a reasonable plan, and what is the best way to execute it? Should I get my license and work as a mortgage broker/originator? Work at a mom & pop title or escrow company? Volunteer to work for/with a seasoned investor in a mentoring arrangement? A seasoned investor like the one I’d like to work with by definition wouldn’t really need my help or money, so what would my value proposition to them be? I'm not paying $10k for a guru mentoring program; I know what business they are in (hint: it is NOT the business of finance). On the other hand, I don’t want to ask for a free ride as a charity case. Or should I stay on the RE side for now, work as a RE agent, then RE broker, then commercial RE broker, etc. until I “rise to the level” of dealing in notes?

What do you think?

You may want to just "learn by doing" and buy a small note then figure out how to get it performing. Attend some conferences and build up a network of resources. That is pretty much how I've learned it and I'm learning something new all of the time. 


Thanks Bob. I assume by "get it to perform" you are referring to a NPN, no? My concern with a NPN is that there seems to be a more than decent chance of getting fully wiped out on any single note, especially if you are a newbie like me ... while I don't mind not making any money initially on my sweat, so long as I learn, I certainly don't want a significant risk of losing money, even on a "small note" until I'm experienced enough to assess and mitigate or avoid such a risk. On the other hand, I'm not ready to lay down enough to buy a pool of NPN to "spread the risk", and haven't yet convinced myself that this is a good idea for me anyhow.

I do like your idea about networking at conferences. Any coming up? Any recommendations of good educational and not too "sales focused" conf?

A lot of private guys or lenders that do hard loans will create a note when they fund a deal, and often times they sell those notes to other investors so they can cash out and re-lend their money.  I've seen them as low as 5k, and as high as $375k.  You could get a feel for it by calling up and interviewing some of those guys.

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@Blair Poelman Thanks for your response. Do you mean interviewing those guys to see how they underwrite and lend, or to consider buying one of their resale notes, or to ask if I can work with/for them to get hands on experience?

@David Faulkner

 I'm in a similar situation to yours. I still have my "day job," which I need to support my wife and kids because I'm not making enough with my rentals. I work 6-8 months overseas but when I'm home, aside from family obligations (3 kids under 4 years old is a lot of work!), I get to do what I want.

I met up with a note broker/investor and I'm planning to work in his office full-time when I get back to California in June. I'll have a couple of months before I have to go back to my "day job" and I intend to learn as much as I can. I have some money to invest but I'll wait until I feel comfortable enough with the situation before I go forward.

I would suggest networking with other note investors in the SoCal area. The more like-minded investors you meet, the better your chances are of meeting a mentor or a business partner that you can form a mutually beneficial relationship with. I know Gerald Lemoine has a Meet Up called "Note Pros Workshops." I co-own a few NPN's with Gerald and he's a very knowledgeable guy. I haven't been to any note specific networking events yet myself but I hope to have the time for it in the future. With my limited time at home, I've got to spend time with the wife and kids in the evenings when most investor meetings take place. I know how essential it is to meet people in person and grow your network.

I've got the next best thing, though, which is learning and networking on BP :) In addition to learning a ton and having access to very knowledgeable and experienced people, I hope my time here will lead to partnerships and deals with fellow BP'ers....


Read the forums, yesterday was a post on NPNs and PNs. How to study on your own. I think my post killed the thread LOL, rather long.

If you aren't connected with me, why not? I'll talk notes, for free, this is not a solicitation.

@David Faulkner I'd say you're more ready than you think , but need the edges on that square peg rounded off to fit in that round to speak.

What you need to consider is the compliance side, really, you probably have the RE background and your finance knowledge is beyond most, what can sink you is compliance and many dealing in notes are rather cavalier or simply ignore this area. 

And, I agree, you need to begin in your own backyard, where due diligence will be much easier. 

When you bought your first car, did you buy one you could drive off with or did you buy a wrecked on you had to fix first? :) 

@David Faulkner  I'm saying you could start small on a performing note buy purchasing a trust deed from a hard money lender.  Going after larger note portfolios from banks or mortage co's is above my pay grade - can't really speak to that but sounds like this is right up @Bill G.'s alley.

Diversification? You're complicating things, how many millions are you investing? Buy a seller financed note that has seasoning in your own backyard, performing with equity. Many note holders are ready for cash after a couple years. Pay around 60-65 cents on the dollar. Then make an offer to the borrower to refinance it, early pay off = profit, rinse and repeat. 

Construction financing carries the highest risks, especially with a borrower that lacks credit and/or experience.  HMLs may not even look at credit, they can have solid notes and wrecks waiting to happen. Buying a note at the table, after closing or within a short period is considered "table funding" a wholesale mortgage function requiring a license as a lender in some classifications and states. 

You can simply invest with many HMLs, if they are in compliance. @Ann Bellamy has such operations I believe. 

I don't suggest beginners start with wrecked institutional notes, NPNs. :)  

@Bill Gulley

 Why would someone sell a perfectly good seasoned performing note for 60-65 cents on the dollar? That doesn't make sense (to me that is, I'm sure you have a very good reason for saying that). And, where would someone go to find such a note?

Originally posted by @Bill G.:

Diversification? You're complicating things, how many millions are you investing? Buy a seller financed note that has seasoning in your own backyard, performing with equity. Many note holders are ready for cash after a couple years. Pay around 60-65 cents on the dollar. Then make an offer to the borrower to refinance it, early pay off = profit, rinse and repeat. 

Construction financing carries the highest risks, especially with a borrower that lacks credit and/or experience.  HMLs may not even look at credit, they can have solid notes and wrecks waiting to happen. Buying a note at the table, after closing or within a short period is considered "table funding" a wholesale mortgage function requiring a license as a lender in some classifications and states. 

You can simply invest with many HMLs, if they are in compliance. @Ann Bellamy has such operations I believe. 

I don't suggest beginners start with wrecked institutional notes, NPNs. :)  

Hi Bill. Yes, perhaps I am complicating things ... what I meant is I plan to continue to invest in RE AND notes, not notes INSTEAD OF RE. When you say "make an offer to the borrower to refinance it" can you go into more details? Are you working with another bank/private lender to get them to refinance it and take you out at full UPB? Or are you restructuring the terms of the performing not you own, in which case I don't see how this gets your money back. We can take the discussion of the details offline, but I thought that if I had this question others may as well and benefit from the same elaboration. Thanks!

Thanks all for your posts ... I appreciate and learn from your experience. However, most seem to be advising on what types of notes I should invest in and how to buy them. Once I learn how to cook, I'm sure I can figure out a recipe for my own secret sauce :) Therefore, my question is more how I can get hands on experience BEFORE I buy any notes, not what kind of notes I should start off buying. Maybe this is not possible, and that's what posters are trying to tell me, not sure, but want to try to make the distinction. Thanks all!

Well that is a well thought out intro and inquiry.  As Bill mentions you seem to have a foundation to work with and it is refreshing to see your push back based on your own assessment of default risk.

Bill's analogy is a good one relating NPN's to a wrecked car. To further it another step in concept often times those who purchase the wrecked car do so with the hopes and dreams of rebuilding it and selling it like new. At the very least with some margin. It is a plan that can and does work however, let's not forget our friends at CarFax. Sometimes a wrecked car is always a wrecked car no matter how much new paint is put on or the fact that the transmission was rebuilt.

Not to steal Bill's thunder Julian but to address your question we have to pause on the idea that you implied of "perfectly good".  

Is perfectly good the simple notion of payment history?  
Is past performance indicative of future results? (credit)
If performance fails can the remedies be enforced? (compliance)
If the remedies can be enforced is the collateral sufficient to support recovery? (equity/discount)

Buried in those ideas are reasons for discounts.  "Perfectly good" loans are considered prime loans.  Those loans do trade for par and premiums.  The returns are low single digits.  See prevailing 30 year mortgage rates from Fannie/Freddie, etc.  Most investors here would laugh at those types of returns.  So innately seeking higher returns does impose greater risks.  There in lies the idea to contrast what "perfectly good" really is.  

To the OP, the criteria is fine to an extent on each of their own merit. In the great state of California you will find market competition which drives prices up pretty far. I would say it would benefit you to understand that market a little better while you also seek understandings of underwriting and disposition. At a glance your terms do seem suited for a HML.

I caution the idea that your desired return is in addition to your upside from the discount.  That implies a higher rate loan even with a discount.  Conventionally a 5% loan needs a substantial discount to deliver back that yield.  Private loans as Bill mentions to seek will need a lesser discount.  HML loans very little.  With your background in finance you can start to sort out your comfort and enhance your criteria there.  So, at this stage which characteristic has priority over the other?

I think if you can start to refine those ideas it will start to push you in the direction of where to learn and who to talk to.  That said, the skills you can learn from an originator, underwriter and title agent will all be quite valuable and necessary.  An originator has exposure to each more so than the others have exposure to the alternates provided that is the way the workflow is setup.  Some originators are just expected to take application and pass it off.  Others work the application through to funding.  An actual lender would have exposure to all through the life cycle of origination to funding.  Disposition and servicing is a whole other ball of wax.  Exposure can be gained at the servicer company or with an active investor.  

I think it is hard to tell someone where to start in those set of fields.  That question is asked literally every other day here.  I personally started on the origination side and let my curiosity lead my learning.  So my suggestion to you is what are you most curious about?

To ultimately be successful you will need pieces of them all.


Thanks Dion! To clarify, I meant 12-14% effective yield (not sure if that is an actual term) after applying the discount received to the original note rate (which would likely be HML would best suit my background or personality. On the RE side, I'm long-term buy-n-hold, not short term flipper ... my understanding is that HML tend to be more oriented towards short term flipper type borrowers.

Good explanation or "perfectly good" ... it seems similar to the RE side in that there are a variety of ways to obtain a discount on a house. It could be a house in the ghetto with a cracked foundation and leaky roof, and you'll get a big discount but not a good deal. On the other hand, it could be a new house in a primo neighborhood with a seller that keeps the house like pigs, with a turd in the toilet when you view it ... you can get a discount and it is more likely to be a good deal because the defects from "perfectly good" are easy to remedy (a little bleach, paint, elbow grease and a dumpster). The note equivalent of these type of investments would likely be what I'd gravitate towards, I just don't know enough yet to know the difference between a cracked foundation (hard/impossible fix) and a "turd in the toilet" (easy fix) in the note world, though I have my suspicions ...

As to what I'm more curious about, I tend to like working out "in the field" with people more than locking myself in my office and crunching numbers or sorting through paperwork (though I can do both). I still really like bricks & mortar, but am curious to understand the ins, outs, and intricacies of all the process and paperwork behind it. I like creative problem solving on problems that are solvable, and getting the experience to recognize those that can't. I think and hope that the two would compliment each other: Notes will help make me a better RE investor and RE will help make me a better Notes investor.

@Bill Gulley

 I don't want to hijack this forum post so I'm going to start a new one. Feel free to chime in. Look for the title "Why would someone sell a "perfectly good" seasoned performing note for 60-65 cents on the dollar?

This thread was incredibly interesting to read thanks!

@Julian Buick

@David Faulkner

Reasons an individual  note holder might sell a $20,000 UPB for $12,000 right now:

Death, illness/medical bills, qualifying for government benefits, nursing home costs, bankruptcy, divorce, law suits, business needs, their grandchild gets arrested for drugs and needs an attorney, they may have 90 days to move granny into their home and must remodel accommodations, they may be tired of collections and the tax headaches and servicing. The reasons are endless. 

Those who hold institutional notes are usually in a much better financial position, they have health insurance, disability coverage, tons of life insurance, cash reserves to pay for the oooops that come in life. Not many average Joe's that work at the plant buy institutional notes or get involved with mortgage brokers, but they could I suppose. 

Who are the most likely to sell a note in an emergency situation or have the greatest need to access cash? Individuals who sold the farm and carried back the paper! Seller financed transactions!

What notes have the poorest underwriting accomplished? Seller financed notes. What notes may have been created with overvalued collateral? Seller financed notes. Who has sloppy bookkeeping and servicing records? The guy with a seller financed note. Why are seller financed notes so deeply discounted, even if they are paying as agreed? I just mention the reasons. 

Is a 35, 40 or 50% discount always had with these notes? No, the motivation of the seller comes into play, the circumstances, but 20-35 is about the norm with individual note holders who are not really in the business. You might have a 10 to 15% discount with some, you also don't need to buy them if your yield isn't there.

Yes, get with a loan originator doing secondary market loans. Let them look at your note and docs, see if they think they can get it refinanced. You can even do that before you buy the note. I originated my own refis.

Offer the borrower an incentive to refinance! Motivate them.

Velocity of money, the faster it moves the more you can make with the same dollars. What is your annual yield investing that 12K getting 17K back in 60 days.....I'll let you figure it out, but it's better than holding the note, then do it again.

You probably can't buy half the seller financed notes within 40 miles of you, nor can you afford to, it's probably in the tens of millions. In my area many retirees sell a small motel or business, apartment owners sell out, I had a note on a horse operation so you can get all kinds of collateral attached in these transactions. You business experience has to kick in with commercial notes, it's not just single family homes. 

Lastly, who would be the easiest to deal with, a mortgage broker offering notes to a pool of investors or the individual motivated to sell their note? As a beginner, you may be headed into the lion's den with a broker, with individuals who never sold a note before, you're leading the lamb. Just be fair and don't mess them over. :)

@Bill Gulley

its sounds like you want an education in the note business... I would read most of Dion's post's they are incredibly detailed and informative and directly relate to the note business without delving into other issues. You may also want to talk with the Norris group right there in your area they have been doing many different forms of note investing for 30 plus years Bruce Norris is well renowned speaker and expert in the field. And your correct most HML are short term so you will not get long term cash flow you will need to roll into knew one's as they pay off.. Unless you invest in one of the HML funds that many of the larger HML have set up, those will pay long term... And of course there is always google

Thanks Bill & Jay! That is exactly the type of defects I'll be looking for to obtain discounts on notes ... of course, everybody else will probably be looking for the same exact thing, so we'll see how it goes. I have indeed been reading all I can on this forum and elsewhere, have learned a ton, and will continue to do so. Unfortunately, you can't learn everything you need by reading, and I think I'm to the point where I know enough to start to get hands on, but not yet ready to invest my own money ... it is that awkward "no man's land" that I'll have to work through to reach the other side. I have no problem bringing the sweat and materials to build the bridge to get to the other side, and appreciate everyone's feedback on the design of said bridge to make sure it is structurally sound ... Thanks!

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