A private mortgage is a real estate note, or mortgage, that
is held by a private individual or Trust, as opposed to a traditional lending
institution.These mortgages are
frequently offered by homeowners when traditional interest rates are higher or
mortgage qualifications are tougher, as fewer potential purchasers can qualify
for traditional mortgages.In this
way, the homeowner increases the number of potential purchasers for their home.
This private mortgage or note is sellable on the secondary market, at a
discount.An investor will
purchase all or part of the remaining payments for slightly less than the “face
value” of those total payments.The original noteholder “wins” because he is getting a lump sum of cash,
now, rather than waiting to receive monthly payments.The investor “wins” because he is purchasing, at a discount,
a regular cash flow, backed by a first position in real estate.
Look for privately held notes that have at least two years history of
payments being made on time.Also
look for healthy down payments and for higher interest rates, as these factors
make the note more valuable to the investor.
Here is an example:John
and Jane are ready to sell their starter home.They have already qualified for a mortgage on their
new home.Bank qualifications are
fairly strict at this time, so they offer to “hold” the mortgage (or “take
back” the mortgage) on the home they are selling.This increases the number of potential purchasers, as
someone who doesn’t meet the bank’s strict qualifications could still be a good
purchaser of this home. John and Jane also enjoy a tax benefit: they will pay
taxes only on the payments they actually receive each year.Since their income is fairly high at
this time, this is good for them.Years go by, and the purchaser of the starter home has been making
timely payments.John and Jane
decide they need a lump of cash to pay for their son’s college tuition.An investor purchases the remaining
payments at a discounted price.The original purchaser will now be sending their payment to the
investor, not to John and Jane.