Mortgage investing for beginners-is a mortgage an investment?
Note investing has provided me with a level of financial freedom I failed to achieve through my job and two decades of real estate investing. The numbers for the mortgage industry are staggering. As of 2019, there was $15.8 trillion in mortgage debt in the United States. Home ownership is the American dream, and you don’t need to be a massive bank or financial institution to enjoy the benefits of mortgage loan investing. Everyday investors like us can create passive income and invest in that dream either through individual notes or investment in a note fund.
When I purchase a residential mortgage loan as an investment, I am simply buying a debt obligation for a set number of payments from an existing loan that has already been originated, usually by a licensed financial institution. Once originated, the loan terms cannot be changed unless both parties agree. Originating mortgage loans is a completely different endeavor from buying and owning them. Origination is a tightly regulated business requiring licensure and compliance with myriad laws on the state and federal level.
Investors can buy the loans secured by multifamily properties, commercial properties, vacation homes, and single-family primary residences. For the purposes of this book, the focus will be on the latter—single-family, owner-occupied, primary residences—which I believe to be the safest mortgage-related investment.
Mortgage loans are secured loans, meaning that the borrower’s home is pledged as collateral. A lien is recorded against the property to secure the lender’s interest, and if the borrower ever defaults, the lender has the right to foreclose the collateral and sell the property in order to satisfy the debt.
While the borrower is the rightful owner of the property and is allowed all the rights and responsibilities of ownership, that ownership is subject to the lender’s lien on the property, which must be paid in full before the borrower completely owns the home. What the borrower builds in the meantime is equity, or the difference between the value of the property and the amount of debt owed to the lender. Over time, equity grows as the value continues to rise and the amount of debt is paid back to the lender.
The types of loans covered in this book are referred to as performing loans, and there’s a good reason for that. In a performing loan, the borrower is current and making regular payments. This is something that can help an investor feel confident about their investment, but I want to be clear that tracking billing and payments is not part of the job of a mortgage loan investor.
Almost all investors hire a loan servicer to manage their mortgage loans. Servicers are usually licensed in the states in which they service loans and charge a flat monthly fee per loan for servicing. This involves:
● notifying the borrower of any changes in loan ownership
● sending monthly mortgage statements
● collecting monthly payments
● keeping track of the payments and loan balance via payment history
● communicating with the borrower
● paying property taxes through an escrow account
● collecting proof of hazard insurance on the property
● disbursing monthly payments to the lender
● following up on any delinquencies
● handling payoffs
● sending out year-end tax statements to the borrower and lender
I use several servicers, and find that their monthly servicing fees range from $15 to $30 per month, per loan. Considering the amount of work, regulation, licensure, and responsibility it takes to service a loan, this is a bargain.
Part of the beauty of mortgage loan investing is that the lender has no other responsibilities for the collateral property; that is entirely up to the homeowner. Ultimately, mortgage loan investing is a simple business. Money was lent, the borrower needs to pay it back in monthly payments, the investor buys the lender’s rights to the repayment, and the rest is an opportunity for our accounts to grow exponentially.