The Biggest Mistake Property Sellers Make

Published: Tue, 01/19/10

January 19, 2010..

The Paper Source Cash Flow Express

A Note Course Bonus Lesson

Hi ,

Do you want to find more notes?

Who doesn't?

After many years of hard-knocks experience, I'm convinced that one of the best sources of notes is from people who come into contact with them every day. Among the best of these "networking" sources are real estate agents.

Bill Broadbent and George Rosenberg (80 years of combined experience in real estate) came up with a great idea --a book you can use to show real estate agents and property sellers how to take back a note safely in order to sell property faster and at a higher price. This issue of The Cash Flow Express features an excerpt from the book, called OWNER WILL CARRY: HOW TO TAKE BACK A NOTE OR MORTGAGE WITHOUT BEING TAKEN. We've just made it into an e-book and bundled with the forms and documents you need, PLUS a download of software and articles about notes. Go here for information.

Enjoy!

Bill

W. J. Mencarow
President, The Paper Source, Inc.
www.PaperSourceOnline.com
www.cashflows.org

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In This Issue

IN THIS ISSUE:

The Biggest Mistake Property Sellers Make

OWNER WILL CARRY now is an e-book with FORMS and downloaded SOFTWARE!

Featured Products

Make Money Trading Mortgages -- Best E-Book On Cash Flow Brokering

OWNER WILL CARRY: HOW TO TAKE BACK A NOTE OR MORTGAGE WITHOUT BEING TAKEN
by Bill Broadbent & George Rosenberg

The Biggest Mistake Property Sellers Make

(An Excerpt From "OWNER WILL CARRY: HOW TO TAKE BACK
A NOTE OR MORTGAGE WITHOUT BEING TAKEN")

by Bill Broadbent, CCIM, SEC

THE BIGGEST MISTAKE sellers make is when they sell their property
for little or nothing down.

They allow the buyer to take out a new first loan, usually for about
80% of the selling price and they carry back a note secured by a 2nd mortgage for the balance of 20%. The buyer contributes nothing

and takes on no additional risk, therefore this 2nd mortgage is not

a down payment. This 2nd position mortgage note is frequently

structured with monthly payments of principal and interest amortized

over 25 to 30 years with a balloon payment due in 3 to 5 years.

This presumes that property values rise and that the property and

buyer will be able to qualify for a new loan large enough to refinance

the first loan and pay off the 2nd when the balloon payment comes

due. THIS IS A DANGEROUS ASSUMPTION and can have disappointing
consequences for both parties.

Having reviewed many thousands of privately held mortgage notes in
recent decades, I see this same scenario repeated over and over
and over again. After a few months the holder of the 2nd mortgage
tires of servicing the note and thinks it would be nice to have
some cash, so he tries to sell the note by running an ad in the
newspaper or through a note broker/finder. It attracts few offers,
if any. If he gets an offer the discount is HUGE and he feels
insulted or discouraged. The note broker/finder having little
background in real estate or private money lending is of no help
in explaining why.

Q. Why are there no offers or only an occasional offer at pennies
on the dollar?
A. Because people with money to buy privately held mortgages
realize the tremendous risk this note involves. If anything goes
wrong they will probably lose their entire capital investment as
well as any return on that capital. The holder of the 2nd
mortgage will end up holding the empty bag having lost that
amount of value trying to protect his interest.

When Dan Ferris, a popular author on the stock market, was asked
by his publisher to finish the following sentence: "My Single
Most Successful Strategy For Making Money Is," Dan replied
"not losing it."

Not losing it goes by another name: "Margin of Safety." In the
mortgage field the margin of safety is known as protective equity.
For many decades the traditional first mortgage loan on a home was
funded at a loan to value (LTV) of 80% of the purchase price.
The buyer put 20% cash down and borrowed the rest from a bank or
mortgage company. If the buyer defaulted and the lender
foreclosed, the lender had a chance to break even because the
buyer had invested a 20% cash down-payment of his own money which
provided a 20% cushion of protective equity (margin of safety) for
the holder of the first mortgage.

In recent years we have seen a proliferation of "creative lending"
wherein first mortgage loans were made to some "credit-worthy"
borrowers at LTVs up to 100% of the purchase price of the
property. During this period the real estate market was strong
and interest rates were the cheapest in 40 years.

Times are changing, interest rates and foreclosures are rising and
the market is softening. It remains to be seen how these "creative
lenders" will weather the storm when there is little or no safety
margin of protective equity.

I don't think the law of gravity has been repealed.

Some buyers will buy at any price if the terms are soft enough.
They have nothing invested, so if things don't work out, they just
walk away. Those sellers who carried large 2nd mortgages behind
new 80% first mortgages have little or nothing to sell.
Note brokers are wasting their time trying to sell these notes.

Ask yourself: "If I had the cash to invest, would I invest in this
note that I'm asking someone else to buy?"

When we wrote the book "Owner Will Carry," George Rosenberg and I
knew from our decades of experience in real estate and notes that
there is no substitute for protective equity, and this became a
theme in the book. I've never met a successful note investor who
didn't echo that principle.

There are some variations on protective equity that are worthy of
understanding. California is the most regulated state in the
nation when it comes to private money lending and buying and
selling notes. Here is a summary of what I've seen in the
evolution and importance of loan to value ratios in California
during the last 50 years. While the referenced regulations only
apply in this state the principles described herein are valid
anywhere.

Shortly after I entered the real estate business in 1959,
California passed a wave of legislation that affected brokers
involved in privately funded hard money loans and their investors.
The public had been injured and the legislature reacted. In the
early 1970's it happened all over again. Public injury,
legislative response. In the early 1980's a repeat performance.
Public injured, legislative response. Since then, there have been
individual bills or regulations passed which affected brokers
and investors in privately held mortgages but not on the scale
previously mentioned.

In recent years federal "predatory lending" legislation has been
passed and many states have followed with their own versions of
predatory lending legislation. Even some cities have adopted
predatory lending legislation. Most of their focus seems to be on
loans for one to four units which are residential properties used
or intended to be used or occupied as the principal dwelling of
the consumer.

In California the real estate commissioner has recommended the
following LTV guidelines for making a loan (privately funded)
or purchasing a note -- again, while the referenced regulations
only apply in this state the principles described herein are valid
anywhere.

LOAN TO VALUE- GENERALLY the aggregate principal amount of the
notes or interests sold, together with the unpaid principal amount
of any encumbrances upon the real property senior thereto,
shall not exceed the following percentages of the current market
value of the real property as determined in writing by the broker
or appraiser:

    Single-family residence, owner-occupied: 80%
    Single-family residence, not owner-occupied: 75%
    Commercial and income-producing properties: 65%
    Land which has been zoned for (and if required, approved for
    subdivision as) commercial or residential development: 50%
    Other real property: 35%

The percentage amounts specified above may be exceeded when and to
the extent that the broker determines that the encumbrance of the
property in excess of these percentages is reasonable and prudent
considering all relevant factors pertaining to the real property.
However, in no event shall the aggregate principal amount of the
notes or interests sold, together with the unpaid principal
amount of any encumbrances upon the property senior thereto,
exceed 80 percent of the current fair market value of improved
real property or 50 percent of the current fair market value of
unimproved real property. A written statement shall be prepared
by the broker that sets forth the material considerations and
facts that the broker relies upon for his or her determination
which shall be retained as a part of the broker's record of the
transaction.

How and why were these LTV percentages arrived at? The regulations
don't tell us, but I suspect that in most cases, the regulators
found that where these limits were exceeded the investor who
funded the loan or bought the note LOST MONEY. This would
certainly be an understandable reason.

Most property sellers who carry a note have never heard of these
ratios nor have most of the note brokers who are trying to flip
notes. Investors seeking a higher yield on their their savings
are usually unfamiliar with the LTV guidelines.

Most note brokers and note sellers have no understanding of
the foreclosure process, its costs, and their responsibilities
if there is a default and they have to spend money to protect
their interest in the note they hold. The foreclosure process can
easily eat up 15 to 25% of the property value. By carrying back a
note in a nothing down sale the seller/note holder is underwriting
the risk if anything goes wrong. One recent article indicated
that the average lender loss in a foreclosure was about
32%. This is why the underlying theme of our book "OWNER WILL
CARRY: How to Take Back a Note or Mortgage Without Being Taken,"
warns readers there is no substitute for protective equity.
Protective equity is critical during a real estate recession when
property values are declining, which reduces the noteholders
margin of safety.

In most real estate recessions we've seen, unimproved land values
decline further and faster than home prices. Other notes commonly
offered for sale are those carried by the seller of a small
business or a mobile home without land. To offset the greater
risk inherent in these notes, realistic LTV's would tend to be
65% or less on business notes. The term of these notes should be
shorter than on notes secured by real estate, probably in the 3 to
12 year range on business notes and fully amortized.

Mobile home notes should have LTV's of 75% or less with a term in
the 10 to 18 year range. Balloon payments can be extremely
dangerous because it is very hard to refinance notes secured by a
small businesses or mobile home.

A note secured by a mobile home in a park is somewhat similar to a
2nd mortgage because in the event of a default the note holder
must continue paying the space rent to protect their position
before, during and after a foreclosure. Mobile homes tend to wear
out faster than regular houses and are more difficult to repair
when damaged. The size (double-wides are better than single-wides)
and the age (newer are better than older) are important
considerations.

High LTV's are the dominant weakness in seller held-notes which,
as a consequence, don't justify a full purchase offer without a
huge discount to offset the risk of the high LTV. Sometimes a
note seller's only alternative is selling a partial (a number of
payments less than the total payments remaining). If enough cash
is raised by selling a partial to meet their current objective
then that can be a solution. They will be sharing the risk with
a note buyer/investor in the event of a default/foreclosure.

Property sellers who accepted little or nothing down in order to
sell their property quickly may have gotten a premium price.
If the buyer discovers he overpaid for the property or that prices
have dropped, he has little incentive to stay and can walk away
with little pain, feeling it was just rent. While property sellers
may make other mistakes when carrying back a note, none of them
are as potentially costly and unforgiving as selling for "little
or nothing down."

Copyright 2010 Bill Broadbent

This article is an excerpt from the book OWNER WILL CARRY: HOW TO
TAKE BACK A NOTE OR MORTGAGE WITHOUT BEING TAKEN by Bill Broadbent
and George Rosenberg.

One of the best sources of notes is from people who come into
contact with them every day. Among the best of these "networking"
sources are real estate agents.

OWNER WILL CARRY shows you how to explain to real estate agents
and home sellers how to sell property faster using owner
financing - who will then think of you when they need to sell
the notes!

It comes complete with forms and documents AND software.

OWNER WILL CARRY shows how to safely structure both a down
payment and/or a carryback note for maximum value now. Later,
if the note holder needs cash for the note, it will command a top
price because of its safe and secure structure.

The major focus in this book is directed toward the sale of real
estate using seller financing. The principles explained in this
book also apply to carrying a note secured by almost any asset,
including but not limited to: a car, boat, airplane, mobile home
(w/o land), a business (w/o real estate), stamp collection,
tractor, machine, or other equipment, to name just a few examples.

OWNER WILL CARRY shows the proper structure of a note so that it
is safer if held for income and saleable at the highest price if
sold.

Sellers, buyers, real estate and mortgage investors can benefit
from the authors´ combined 80 years experience in real estate.
For more information and to order, see
http://papersourceonline.com/finding-notes/finding-notes-book-software/

Bill Broadbent (San Luis Obispo, CA) received his BS degree from
Cal Poly in 1956 and MBA from Cornell University in 1958. He has
been an active real estate broker and consultant in San Luis
Obispo for over 38 years. Bill is president of Arnett & Broadbent
Inc., a real estate firm specializing in real estate investment
brokerage and consulting. In 1976 he became a charter inductee
to the Exchangor´s Hall Of Fame and has won state and national
recognition for his exchange transactions. Bill was the first
broker in America to achieve both the prestigious SEC and CCIM
designations. He has served the California Association of
Realtors as local board president, state director, teacher and
district representative to various committees. From 1970 to 1988
he taught an average of 4 seminars a year in a total of 18
different states.

An active broker, consultant, investor, author and educator, he is
best known for his specialties of Exchanging, Consulting, and
Buyer Representation, all practiced under Single Agency, a term
he coined in the late 1970s.

Bill is a DOER of what he teaches. Insiders who have seen his work
consider him "one of the best" when it comes to transaction
structuring. He has used the techniques in his book OWNER WILL
CARRY for many years to benefit and protect his clients. In
addition to his real estate investment brokerage and consulting
practice, Bill has been buying trust deed and mortgage notes for
his own account in over 36 states during the past 24 years.

For more information:
http://papersourceonline.com/finding-notes/finding-notes-book-software/