How to Earn Fixed Rate Double Digit Yields With Private Mortgage Loans (Part 2 of 2)
In my last post I spoke about private lenders are able to earn fixed rate double digit yields by making private mortgage loans on real estate. Interest rates earned typically vary between 8-12% or more depending on how the loan is structured, the length of the term and weather it is a simple interest or compound interest type of loan.
In today’s post, I’ll first review how private mortgage loans are secured. Then, I’ll summarize the process involved in making a private mortgage loan.
How Are the Lenders Protected?
Lenders are protected by the same methods used by banks:
- Equity Cushion: Loan-to-Values are less than banks
- Promissory Note: Specifies the loan terms and security instrument
- Deed of Trusts: Secures the loan; recorded in county records
- Hazard Insurance: Policy names lender as beneficiary
Lenders are protected with an equity cushion because the maximum loan-to-value on properties purchased is typically 70% or less on a first mortgage. That means the borrower would borrow up to $70,000 on a $100,000 property. Banks typically loan 80% to 95% on first position mortgages.
I will sometimes borrow by offering a second deed of trust with a loan-to-value of up to 85%. In the case of a second position, we pay a higher interest rate to reflect the slightly higher risk associated with the loan-to-value and the second position.
The private mortgage loan is secured by a promissory note that outlines the detailed terms and conditions of the loan and identifies the security instrument. The loan is secured by a first or second first position Deed of Trust (mortgage), which is recorded with the county. This is the saving grace for the investor because the loan is secured by a fixed asset valued higher than the loan.
All closings and corresponding documents are completed by attorneys or title companies. Everything is handled in a legal and professional manner.
Private mortgage loans are made on a per property basis. The following steps outline the process involved in a typical deal funded by a private lender.
1) An investment property is identified and a discounted purchase price is negotiated.
2) A Lender Opportunity Package is sent out requesting funding for the deal including estimated value and all the investment purchase details.
3) A lender is selected and provides a Letter of Commitment (LOC) to fund the project according to the contract closing date.
4) The purchase contract is sent to the attorney’s office or title company, title search is ordered, and they will start preparing the rest of the documents.
5) Closing: Lender provides certified funds to title company (direct from personal account or retirement fund); All documents are signed and the transaction is complete.
6)
Documents created for the private lender at closing:
- Deed of Trust
- Promissory Note
- Title Insurance Policy
- Fire/Hazard Insurance
7) With the purchase transaction complete, the property is remodeled, and either marketed and sold or held depending on the terms of the private mortgage loan.
8) The private mortgage loan including principal plus interest is paid in full upon the sale of the investment property.
9) The private mortgage lender has the option to receive payment or invest in another deal.
The process is quick, easy and well documented.
Why Use Private Mortgage Loans?
When my firm pays cash for a house, I prefer to use private lenders instead of bank loans because this approach affords maximum flexibility to quickly and creatively structure the most profitable deals.
The availability of capital is more important than costs. The quick availability of cash makes it possible to purchase good deals with large amounts of equity that I would otherwise be unable to acquire.
And since I are able to get a very high return on my real estate purchases, I can offer private lenders high fixed-rate yields-often double digits-when using their money to fund our deals. Everyone wins!
If you or someone you know are interested in learning more about private mortgage loans, please feel free to contact me with any comments or questions.
John Thomas MSEE, MBA
Previous Post: How to Earn Fixed Rate Double Digit Yields with Private Mortgage Loans (Part 1 of 2)
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John Thomas MSEE, MBA
(m) 720-771-5594 (e) john.thomas@e3greenhomes.com
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John...I've held second mortgages in the past when selling my own investment property.....have had to negotiate on a couple of them(.50 on $1).....lost completely on one(buyer filed bankruptcy) and made a score on 2 of them....very risky business.....in order to protect your second, you would have to buy into the first mortgage, if the property was in foreclosure....Now, I'd rather take a small return on my money and sleep at night!!!
Thanks for the comments Barbara. Every investment has risks. Second mortgages are riskier and that's why they pay higher interest. My second mortgages are often with the same person as the first position. They are structured that way because the first is used to for the purchase and the second is used for the renovation. Even still, with proper due diligence, if the value is in the property and the documentation is done correctly, the risk factors are generally well managed.
Cheers,
john
John, this sounds like hard money? Is there a difference?
Hi Kate...Yes, there is a difference. Hard money requires points and is usually a higher interest rate. Private lending does not include points and the interest rates generally range between 8-12%. In the case of hard money, the hard money lenders are 'in the business' of lending money, whereas private lenders are not. Private lenders are simply private individuals interested in a safe and secure means of earning a higher return on their cash or IRA/401k retirement accounts. I hope that helps.
john