Better yet, does it even matter?
A recent subscriber’s questions are answered.
“I am getting confused with – what is a private mortgage note and a seller finance note.
They both seem the same.
A private mortgage note is a note that someone is holding on what was sold.
A seller finance note sounds like the same thing to me – a note on property sold and is holding the note?
What about a discount mortgage note ?
A defaulted mortgage note – is like it sounds – a note that a person has stopped paying.
I am sure there is a logical explanation to these questions and when you have time could you please send an explanation to a newbie?
Thanks so much!”
New Note Broker
Mortgage Note Definitions
At the top level you have “mortgage notes”. The note is the IOU or promise to pay and the mortgage is a lien against the real estate that serves as security for payment (or nonpayment) of the note.
A mortgage note could be a traditional bank loan, a private party loan, or a seller financed transaction.
Private Mortgage Notes
The term “private mortgage note” is used when the mortgagee or person receiving payments is a private entity or individual.
This could refer to a seller financed transaction OR a mortgage loan made by an individual or private party (somebody besides the traditional banks and mortgage companies). Many self-directed IRAs are a source of private mortgage notes that may (or may not) involve seller financing.
Seller Financed Notes
A “seller-financed note” is a specific type of transaction involving owner financing.
This is created when the owner of the property sells to a purchaser and allows that buyer to make payments to them instead of getting a loan from a mortgage company.
The consideration for the note was the sale of the property. Cash doesn’t change hands in the amount of the seller financed note.
With a loan origination either the bank, mortgage company, or private lender would send cash in the form of a wire or cashier’s check to closing, which is then used to pay the seller for the purchase price.
Other common terms tied to seller financing are owner financing, owner will carry, seller carry back, and installment sale.
Discounted Mortgage Notes
A “discounted mortgage note” could be any type of note that is sold for less than the remaining principal balance or at a discount.
For years banks and mortgage companies rarely sold “paper” they originated at a discount. They wanted “par” (100% of balance) or “premium” (over 100% of balance) pricing… and the market would pay it. Then came the sub prime meltdown and delinquencies. Now many are selling individual notes or portfolios they hold at a discount.
So discounted mortgage notes could come from any source – banks, private entities, or seller financing.
The same can be said of defaulted, delinquent, or non-performing mortgage notes where the buyer is behind on payments, taxes, insurance or any other provision of the note and mortgage.
Deeds of Trust and Contracts for Deed
While we have been discussing notes and mortgages the general terms could also apply to a note and “deed of trust”. The trust deed is more common in many western states. While similar to a mortgage, there are differences in the foreclosure process.
There are also “Real Estate Contracts” or “Contracts for Deed” where the buyer does not receive the Warranty Deed to the property until they have paid the seller financed debt in full. It’s safe to say that any Contract for Deed would be considered a type of seller financing (even if it was the bank that sold a piece of REO on contract). For more information read the article: What is a Real Estate Contract?
Getting To The True Definition
You will find that often people use the terms interchangeably. There can also be regional differences. So rather than relying on what someone calls a note it is better to ask a few questions.
When getting to know the seller and talking about the property, I like to ask:
“Did you live in the property long before selling it?
The answer will provide valuable clues that can identify how the note came into existence and set the course for follow-up questions. You are trying to figure out:
- Was this a loan origination or a seller financed note?
- If seller financed, did the owner live in the property as a personal residence or was it an investment property?
- If an investment property, how long did they hold it? Did the buyer possibly rent first or was it a fix and flip?
- Is creating notes something the note holder does regularly (say more than 3 times per year)?
But you don’t want to interrogate the seller so starting with a simple friendly question can start the conversation.
Why Does This Even Matter?
There are investors that will only purchase seller financed notes while others will consider loan originated paper. The rules, regulations, and documentation that apply to each can be different so it is important to make this distinction when gathering information for quoting purposes.
The finding cash flow notes training and the investor directory primarily deal with performing seller financed notes. Directory listings for delinquent note buyers have also been included since these are prevalent in the current market.