You have hopefully reviewed parts 1 and 2 in this series, so have become more knowledgeable about setting the sales price for a property, collecting the down payment, and whether to carry a 2nd lien. Of course, there is much more to know if you will be selling the property using owner financing and carrying a mortgage note.
To start with, you’ll want to make sure that your mortgage note has appropriate terms. The word “terms” can include many things, but here we are most concerned about the interest rate that you will charge, the number of months over which the mortgage note will amortize (payments will be received), and whether you will collect a balloon payment.
The interest rate that you charge should be closely related to the riskiness of the mortgage note, but also be in the range of market rates and not exceed legal (usury) limits. For example, if rates for 30-year loans with banks average about 6%, you might give a similar rate to a payer who has stellar credit and has provided a good down payment on a house. On the other hand, if you selling a land parcel to someone with weak credit, a rate closer to 9% or 10% is justified. The higher the risk, then the higher the interest rate that you would normally require.
The number of months over which the buyer will make payments to you, known as the amortization period, can vary based on what time period that you desire as the seller and what the buyer can afford to pay. All else being equal, the buyer will make smaller monthly payments to you with a 30-year amortization period than with a 10-year amortization period, though you as the seller will collect much more in interest with the longer amortization period. Decide what you want for incoming payment amounts and discuss that figure with your payer to make sure that the payment amounts fit with their financial capabilities.
Tied in with the amortization period is whether the payer will have to make a balloon payment. A balloon payment is usually when after a period of time, say five years, the buyer of the property is required to pay off all of the remaining balance on the mortgage note. From your perspective as the holder of the mortgage note, you may not want to carry the note for a long period of time or you may have certain expenses coming due (e.g. college costs for kids) at a point in time in the future. Again, compare your needs with the capabilities of the payer so that you can arrive at a reasonable compromise.
And finally, once everything has been agreed upon, have a title company or attorney draw up the documents for you. At a minimum, these should include the deed of trust or mortgage, the note, a title policy, a closing statement for sharing of closing costs, and continuation of insurance. Having properly prepared documents makes sure that all details are clearly agreed upon by both parties and protects you in case of default or other issues with the payer.
Alan Noblitt is the owner of Seascape Capital Inc., which buys real estate notes. He may be reached at (858) 672-4678 or toll-free at 1-800-634-4697. If you would like to learn more about real estate notes and read informational articles, visit www.seascapecapital.com.
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Creating a Note – Terms & Documents (Part 3 in the series)