When trying to decide which non-performing mortgage note(s) to purchase you have to take many factors into consideration. There are several steps to narrow down the list and decide which notes will be best to meet your criteria. Everyone has different preferences/criteria such as certain states, notes with equity, notes with no equity, vacant property vs occupied property, risk tolerance, etc.
In this newsletter, I would like to go through how I narrow the field, then discuss what are the steps that I take to determine whether it is a note that fits my criteria and tell you what my criteria is which may be different than yours.
Determining which mortgage note is a good investment involves a thorough evaluation of various factors and knowing your risk tolerance, main exit strategy, funds available, timeline, etc. Here are many things to consider when assessing whether a particular mortgage note is right for you.
Research the market and the foreclosure laws for the location(s) you are looking to buy. Gain an understanding of the social and economic conditions that may impact the value of mortgage notes like how good are the schools, crime rate, rent rates, property tax rates, neighborhood types, etc. Just like buying real estate, buying notes is all about location, location, location. Now that being said, I have bought notes in not so great neighborhoods and made good money but you have to price the note accordingly to offset these risk factors. In addition, you have to know the foreclosure laws in that state. Certain states have a very long and costly foreclosure process (NY, NJ, etc.) and some states have a short and less costly foreclosure process (TX, GA, VA, etc.). I buy notes in long foreclosure states as well as short foreclosure states knowing I have to price in the legal costs and time frame to resolution into my bid (or you will lose money).
Define your investment goals. Clarify your investment objectives and risk tolerance. Determine whether you're seeking a short-term or long-term investment, and the level of risk you're comfortable with. For example, if you are looking for cash flow then you should look for notes that are owner occupied and possibly doing some sort of loan workout and get the borrower repaying. If you are just looking to get the house to fix/flip then a vacant property would be better.
Evaluate the key features of the mortgage note, such as the principal amount due, total payoff, interest rate, remaining term, payment history, and any other relevant details.
Analyze the underlying property securing the mortgage note. Factors to consider include the location, condition, market value, and potential for future appreciation. A property BPO (brokers price opinion) or inspection (if vacant) might be necessary. Ask a local agent what houses are selling for in the area and ask them to take exterior pictures of the property and their impression of condition.
Calculate the Loan-to-Value (LTV) Ratio. Determine the LTV ratio, which represents the loan amount relative to the property's value. Lower LTV ratios generally indicate a lower risk. In addition, you will want to know your Investment-to-Value (ITV) especially when buying the note at a discount.
Review the note's documentation. Carefully examine the mortgage (or deed of trust) and promissory note. Also examine the supporting documents, such as the assignments, allonges (endoresements) and any associated legal paperwork. Ensure all necessary documentation is in order. Super important! If you do not have the correct docs then you will not be able to foreclose if necessary. For example, many states require the original “wet ink” promissory note in order to start the foreclosure process.
It is a good idea (especially if new to the process of buying notes) to conduct a comprehensive due diligence process that may involve engaging professionals like creditor attorneys, mortgage servicing experts, and title companies. They can help verify the note's authenticity, identify potential legal or compliance issues, and assess the overall investment viability.
You need to do the math. You must assess the potential cash flow and/or returns based on your exit strategy. Look at the various exit strategies, such as holding the note until maturity after you get the note re-performing, selling the note in the secondary market, or exploring options for renting or owner financing the property if you get the property back as an REO. You have to determine what your cash flow would be if you got the note re-performing and compare these returns with your investment goals and expectations. What if you could not get the note re-performing and had to foreclose..would you make money?