Which NOTES have MORE RISK?

33 Replies

@Odie Ayaga   I am not up to speed on the license requirements in AZ.. I know CA Oregon NV you would need a RMLO  but for non owner occ in that state maybe not.

@Odie Ayaga I would be servicer. Basically it would be just as Jay described. It would be a personal loan to me secured by the equity in my rentals in order to take out the money I have invested in some of my properties. I know that a version of this is what some of the investors do on larger scales as mentioned in some of Ken McElroy’s books and Robert Kiyosaki’s books. I’m going to try to do it with some of my properies on a smaller scale.

@Jay Hinrichs from what I understand, I can do it this way as long as they are my own properties.

Simon unless your getting that info directly from the state regulators I would double check.

in many states there is a carve out for the small investor like you .. were you can do a few a year with no licesne requirements.. in ORegon its 3 in a year and no more than 7 in your portfolio.. and if you advertise at all you need a license.

in NV even one and you need licensure.. all states are different.. and the state regulators are who you want to talk to .. also a very good HML in your state would probably know off the top of their head.

@Don Konipol   and I bet Don would know..

@Jay Hinrichs thank you. I will look into connecting with some state regulators to double check.  I will also ask some of my hard money lenders that I work with to see if they are familiar with regulations on creating these types of loans/notes.

For me, location is immaterial because one of the major allures of note investing is not having to drive by or deal with the underlying property in any real "hands on" manner.

If the underlying property WERE in your backyard, would you ACTUALLY make a point to drive by it from time to time? That's a question you will need to answer. At any rate, in the event of a default or bankruptcy, I would personally take my lumps on that individual loan if necessary but I've already mitigated the potential damage by performing the requisite due diligence at the time I acquired it, factoring in the balance owed on the 1st position along with the cost of liquidation and whatever potential I can assess for the underlying property to lose value.

That said, if I am buying a note to keep, I've always preferred firsts. I'm looking for high returns and safety.

Arizona is one of the 11 states that require a mortgage brokers license to originate loans whether owner occupied residential, non owner occupied residential, or commercial.  In act Arizona issues 4 different categories of mortgage broker licenses.

That said, there is a carve out or a seller financed property, but as I recall the limit was 2 in any 12 month period.

However, as of 2014, when I last checked, the penalties for non compliance were nowhere near as harsh as the penalties under Dodd Frank or the penalties in a state like Texas where making an out of compliance loan on a homestead can result in loss of the collateral securing the note.  I believe we are talking about cease and desist orders, and possibly a fine in the area of $1500 - $2500 per violation.  

This discussion provides support for the belief that there are numerous "niches" to the note business, and although all are based on the theory of secured real collateral, the risks and rewards are all over the map.

I find it interesting that almost all participants in the discussions of note investing on BP invest in residential notes. My personal experience has been that the reward vs risk ratio is much more favorable in commercial properties. However, there is an additional learning curve, and a cost for the education. Also, the education is of a more formal variety; college courses, courses offered by the CCIM Institute (which run about $895 each), courses by the other trade groups, (SIOR, CRE, Appraisal Institute, etc.) and fairly detailed textbooks. Also, the capital required for investment in each note is much greater. Our average note origination or note purchase is $1,800,000. Minimum investment for our accredited investors is $50,000 or $100,000 per note depending on the note size.

It looks like this went from what seemed like an institutional note question to a seller finance noted question!

If it were institutional notes, @Patrick Desjardins is right. You're comparing apples to oranges in the original question. To make a decision it comes down to the borrower, collateral, and equity more than location, especially with a 2nd lien. Generally speaking, geography is less relevant with 2nd liens unless there's high equity and the risk is more statistical (i.e. your past data) and more dependent upon occupancy and senior lien status. With 1st liens it's all about sticks and bricks, and geography plays a bigger role (though it's not an end all be all since you don't know borrower intent, especially if the home is still occupied).

@Shiloh Lundahl

How do you own these properties you're looking to do 2nd liens with?

If an LLC owns the properties, have you tried getting a business line of credit to your LLC that's backed by the equity in your properties? That could be a viable strategy and while you're looking for a bank to do that, just find private investors willing to do seconds. They're out there. If they're not thrilled with the property attached to the note, then consider offering to cross collateralize it with another property. And lastly, to everyone's point above, licensing is something to be cognizant of when creating these types of notes.

If all else fails, maybe consider a different approach: selling shares of your LLC to a private investor and that way you don't have to create any notes!

@Dave Van Horn the business line of credit is a great idea. I have some lines of credit with some of my businesses but not with this business yet. I will look into that. Also, I never thought of selling shares of my LLC. That is is really interesting. I'll have to check with my CPA on how that would work.

I really appreciate all of the quality responses. Thanks to everyone who has taken the time to help educate me on this process and give me good direction. I really appreciate it.

Create Lasting Wealth Through Real Estate

Join the millions of people achieving financial freedom through the power of real estate investing

Start here