Mortgage note investing can diversify your investment portfolio, offering a unique blend of risk and reward. Explore the truth behind mortgage note investing with Chris Seveney as he debunks the top 10 myths that often mislead new investors. Chris addresses common misconceptions, such as the belief that investing in mortgage notes is overly risky or only for the wealthy. He discusses the low foreclosure rates, the potential for non-performing notes, and the accessibility for non-accredited investors. By unpacking these myths, Chris offers valuable insights for effectively navigating this alternative investment strategy. Don’t miss this chance to enhance your understanding of this unique investment avenue!

—

Watch the episode here

 

Listen to the podcast here

 

Top 10 Mortgage Note Investing Myths

Myth 1: Extremely Risky

Welcome back everybody to another episode. I want to talk to you about the top ten myths about mortgage note investing. As people who are not very familiar with mortgages, note investing typically has the brains to always go to worst-case situations, especially when we start talking about non-performing loans. I want to talk about some of these myths because many of them are just that. They’re myths, not reality. Let’s go through them.

I want to spend the next twenty minutes or so just talking to you about explaining the realities of what mortgage note investing because there isn’t a lot of information out there for people to understand more about investing in this alternative investment. Case in point, I was in real estate for twenty years before I even knew this existed. Let’s get started.

The first myth is mortgage note investing is extremely risky. The reason I added the word mortgage before note investing is to make sure people understand mortgage notes are backed by real estate. That’s the safety net. Now, with proper due diligence, and being able to purchase loans at a discount, there are ways you can minimize risk. I just want people to realize that there are different types of investing.

A lot of people invest and basically like, oh, I gave somebody in syndication money and they gave me back a note. I’m “Note investing.” For example, there’s a fund out there that was investing in Broadway plays and people were like, “I have a note.” They thought it was note investing backed by real estate. That wasn’t the case. Mortgage note investing is when the loans are backed by real estate and that’s what the company is doing.

It’s not what you hold whether you’re a bondholder or a shareholder with the company. It’s what is the entity doing. Is there risk involved in investing? 100%. If anybody tells you that it’s risk-free or guarantees any type of return, they are full of it. There is risk involved in any type of real estate, whether it’s mortgage note investing, short-term rentals, multifamily, commercial, self-storage, or mobile home parks, everything has risk.

Myth 2: We Are Always Foreclosing On People

Now, one of the benefits of most mortgage note funds is they don’t take on leverage. Leverage can enhance returns, enhance risk. Mortgage notes typically don’t take on that leverage, which can impact some of that risk profile. Myth number two. I get this asked all the time. We are always foreclosing on people. The reality is, yes, foreclosure is an option. It’s usually not our primary goal. In fact, we typically want to work with the borrowers to restructure the loan and allow them to stay in their homes.

 

Also, of course, we need to maintain some level of profitability. With foreclosure, when we underwrite our loans we underwrite them to make sure that they work based on restructuring the loan with the borrower. Our foreclosure rates are extremely low. As we mentioned previously, now they’re under ten percent of the time we foreclose. In many instances, it’s when the borrower doesn’t come to the table and wants to work with us or they’re also deceased. Those are primarily the two main reasons why we end up not foreclosing.

It’s not that we’re just buying loans, people think 2008 and we’re wiping everybody out. 2008 is not going to happen again. Again, I shouldn’t say it’s not going to, but I cannot envision a situation where it would because there’s so much fraud back at that point in time. Could there be something that impacts real estate values and the lending business? 100%. What happened in 2008 was unique.

Myth 3: Only For Wealthy People

Myth number three, only wealthy people can participate. That was the case before the Jobs Act and Regulation A plus offerings. Most people don’t even know what a Regulation A plus offering is. Most people think I got to be accredited. It’s a $50,000 minimum. Again, furthest from the truth. Our fund is open to a wide range of investors. You can start in our fund with a minimum $5,000 and do not have to be accredited.

You have to be eighteen, but a $5,000 minimum investment to let people invest in these types of opportunities. I see on forums all the time, people saying, “I’m looking for a place to invest or why cannot anybody take non-accredited investors?” There are lots of places out there. People just need to look for them. Regulation A offerings, which do go through more scrutiny. You have to get qualified by the SEC. You have to do different types of reporting that are out there but it’s not only for wealthy investors.

There are lots of places out there to invest. People just need to look for them. Share on X

Myth 4: We Own The Physical Real Estate

The next myth is that we own the physical real estate of the property. Again, we are the lender. The simple way to let people understand is most people when you buy a home and you have your financial institution giving you a mortgage, you pay them your mortgage payment every month. Usually within 90 days after you get a loan, you’ll get a letter in the mail saying, “Your loan has been sold. Please now make your payments to X, Y, and Z.” Again, most people forget about that, but your loan was just sold.

Now who was it sold to? Most likely it was probably collateralized into mortgage-backed security. Let’s say I bought it. I could buy it. Now I’m your lender. You make payments to me. If your roof leaks, do you call me? Nope. If your toilet breaks, do you call me? Nope. Need paint outside of your house or the steps railings are loose, do you call me? Nope. If you’re renting, in every situation, call your landlord. In these instances, we’re just your bank. We’re your lender. We do not own the physical real estate. We are the bank. We’re the lender behind it.

 

Myth 5: Non-Performing Notes Are Bad Investments

The number five myth is that non-performing notes are bad investments because how do you get people to pay? Truth be told, it can be a great opportunity because you can buy them at a discount. Would you tell somebody who was buying your neighbor’s house that, let’s say it was an elderly couple living there, they passed away, the house hasn’t been updated since the ‘70s? They’re buying it at a discount compared to they’re paying 400 grand for it and all the houses in the neighborhood sell for $800,000. Would you tell them, “That’s an awful investment?”

Would you be like, “How can we make that investment?” Probably be, “That’s a pretty good investment.” Same thing with non-performing notes. As we mentioned, we flip the loans, meaning that you’re in some type of distress, just like this property. We work out a strategy to enhance the loan by getting the borrower to re-performing or other exit strategies or alternatives. We increase the value.

Just like that neighbor would probably go and put new carpet, paint, and kitchen within the physical asset. We’re trying to get the borrower back on a payment stream because what makes a note valuable is payments coming in the door. By doing that, we enhance the value and we go to sell it on the secondary market for a premium. Now, there are plenty of notes that are bad investments out there and I’ve done plenty of episodes on that. When people hear non-performing, they think of how to get paid and all these other things.

Now, think about buying a house that might need a little elbow grease or a handyman special. Now, depending on how much handyman is needed, some more notes. Some of them are really bad and could take a lot and have high-risk car returns. Again, that’s not the ones we look into. It’s equivalent to almost demoing a house and rebuilding it. We’re looking at the equivalent of getting some paint, a new carpet, and moving on. Again, we’re not owning the physical real estate. I’m using that as an example so people can relate.

—

We hope you’re enjoying this episode of Creating Wealth Simplified. We wanted to take a moment and tell you more about our Passive Income Fund at 7E, which is open to both accredited and non-accredited investors. Our latest offering targets an 8% annual return distributed monthly with the ability to potentially achieve a greater return through our Bonus Share program. If you’d like more information, reach out to us at invest at 7EInvestments.com to learn more. Thank you.

—

Myth 6: Returns Are Too Low

Number six, returns are too low compared to other investment strategies. Now, what investment strategies are you comparing it to? Stock market historical returns are between 7% and 11%. Real estate is typically historical, on average, between 7% and 11%. We’re at between 8% and 11%. Now, I know people say, “I invested in a multifamily deal and I got 20%. Many of those multifamily deals also lost all of their equity recently.” Let me explain the difference. This is where a lot of people make brave mistakes.

They only, and this is the one thing they do, is look at who’s going to give me the best return. That’s like looking at a car without knowing any options inside it and just say, “I’m going to buy the cheapest car.” You live in Maine. Doesn’t have heated seats, doesn’t have anything. Basically, is that really the best situation for you? Might not be. When you’re only looking at that number of that return, not analyzing the risk, you’re probably going to fail or lose.

When you're only looking at that number of returns and not analyzing the risk, you're probably going to fail or lose. Share on X

Now, to understand that, yes, higher returns have a higher risk. I saw somebody post in a forum group the other day. I’m looking at an offering that has 70% debt, 20% investor equity, and then 10% common equity. The owners are holding ten percent not putting anything into the deal. They’re getting a 70% loan from the bank and they’re looking to target the rest from investors. When you’re leveraging at 70%, ask the question of sensitivity analysis. What if the rents don’t get what you need?

What if interest rates don’t go down or you cannot refinance? That eighteen percent you’re targeting can quickly go to negative eighteen percent. Understand, A, people are punch-drunk on recent returns that they’ve received for the last few years. Where are those returns today? Just understanding over historical perspective, now where are things falling into play?

Myth 7: Not A Lot Of Mortgage Notes

Myth number seven. There are not a lot of mortgage notes available. I’ve never heard of this. How do you buy enough loans? If you raise $50 million, now you cannot get that out the door. This is probably the biggest myth. People realize that the mortgage market is a $13-plus trillion industry. More than half the loans get sold. On the non-performing side, where we’re at all-time lows today, now there’s typically anywhere between $2 billion and $600 billion with a B.

If there’s $500 billion out there, and that’s just what’s reported, this doesn’t include all the other investor loans that don’t have to actually even report. The number is actually probably closer to $750 to a trillion, but now I’m just throwing spaghetti at the wall. I’m looking at like point, how many zeros? One 100,000, one 10,000. It’s a huge industry and we see on average 5 billion in loans per quarter.

The amount of non-performing loans does fluctuate that we see, but it’s significant. We’ve never had a continuous period of we’re like pulling our hair out and saying, “I cannot find any loans.” Might not like the pricing that we see on them, but then we see plenty of loans. Just remember that it’s a trillion-dollar industry. Similar to saying, “I cannot find a property to rehab, fix, and flip, to buy, rent.”

Myth 8: Mortgage Note Investing Is Liquid

You can find properties. There are still millions of, I don’t know, how many houses across the country are on the market right now, but it’s which ones fit your buy box or criteria. We have a pretty wide criteria for first-position loans we target. Myth number eight. Mortgage note investing is liquid. It’s not. Now, the reality is it’s not. Now, whether you’re buying a note yourself or investing in a fund, I don’t consider them liquid.

What I mean by liquid to me, when I look at liquidity, I look at a stock that I could sell that thing today in a heartbeat. Now, I view real estate in general as a liquid because you have to go through a process that can take 30, 60, or 90 days to liquidate that asset. To me, that’s a liquid. Now, there are different variations of liquidity. To me, it’s not a liquid. If people want to use mortgage note investing like a bank account, whether it’s independently investing or in a fund, not recommended. I don’t care what people tell you where it’s like, “It’s liquid.” It isn’t but be careful.

Myth 9: You Have To Deal With The Borrowers Yourself

Myth number nine. You have to deal with the borrowers yourself. Let’s be honest. Invest in a fund, then you’re just a limited partner. You’re not dealing with borrowers. If you’re also investing in a mortgage note, why hire a servicer? We pay $35 a month for them to deal with the borrowers, send out the statements, and file tax forms every year. It’s actually a pretty good deal in my mind. Not having to deal with the borrowers. Now we have to manage the servicer, but the day-to-day is through the servicing company and we don’t have to manage those borrowers.

Something to understand when people look at investing with us is, “How much staff do you need to deal with all these borrowers?” It’s a watching the grass grow process and some of the dealings because of getting legal involved and also understanding how to manage. Part of it is by using a service allows for better management.

Myth 10: Correlated To Real Estate Values And/Or The Stock Market

Myth number ten. Original investing is correlated to real estate values and or the stock market. To me, I believe this is the furthest from the truth. Here’s the example I’ll give why. People don’t wake up one morning and say, “I’m not going to pay my mortgage.” Also, if the stock market for most people goes up or down, it impacts your retirement funds. It doesn’t impact your day-to-day spending. The stock market goes up 10%, down 10%. Many people I talk to, they just wait it out. They’re not going to say, “I have to sell my house because the stock market went down ten percent or I’m going to buy a new house because the stock market went up ten percent.”

People often think mortgage investing is correlated with stock market movements. That's a misconception. Share on X

Especially on the defaulted side, most people default on their mortgage on heavily invested in the stock market. Non-correlation number one. The second is real estate values. We’re first-position fixed mortgages. You as a listener, if housing drops 10% or goes up 10%, you’re on a fixed mortgage rate, not variable adjustable, does that change what you do? Are you going to default because your home value dropped by ten percent? Most people answer it is no.

Think about it. You might sell to move up in the world, but what is correlated to people not paying a mortgage? Two things. One is increased expenses, inflation, taxes, and insurance. Kids getting older. I have my son now, he’s a teenager. Amount of food he’s eaten. That’s one. What’s the other? Reduction in income, and job loss. Those are correlated with mortgage-owned investing. Now stock market impacts companies which can impact jobs.

There’s a level of correlation there. Home prices can impact how much you potentially can collect on a mortgage. There’s some correlation there. I’m not saying they’re completely uncorrelated. What I’m saying is from an inventory perspective, what people will focus on is the job market and inflation. Now, the other myth is that people are thinking, “Rates have gone up, inflation is high, and home prices are coming down now. That’s a bad time to buy non-performing notes.”

It’s actually the opposite because of what’s happening now. More people are going into default. More people are struggling to pay their bills. Increased inventory, when there’s an oversupply of anything, what happens? Prices go down. Oversupply of non-performing loans will lead to lower pricing. Now, how does that impact us going to sell the assets? Performing loans have traditionally always been pretty close to selling for the same numbers.

 

For eight years, I can tell you performing loan fluctuate values, little fluctuations. Non-performing over the last several years, yes, pricing has gone up on non-performing loans specifically due to a reduction in inventory because, A, the government printed a lot of money, people had more money, and people weren’t losing their jobs. Inflation was helping them now because it really hadn’t hit or the cost of taxes, insurance, and food hadn’t hit until it’s starting to hit now because it lags by several years.

The last one I think is the most important and a big misconception because people look at a mortgage note fund and say, “I think the price is going to go down. I don’t want to touch it.” Actually, could be one of the best opportunities out there compared to other opportunities out there that take on leverage because when you take on debt, when it’s more expensive. For example, a multifamily or an investment property, now it’s harder to make those returns.

Those who are listening are rental property investors. You try and go get a loan today on a rental property that you’re buying that property because of the value of the property in your mortgage rate. You make that cash flow. Homes that cash flowed three years ago, four years ago, you’re not going to get them cash flowed today. It might not be a great investment. Something to consider as part of any balanced portfolio is looking at alternatives like mortgage notes. Understand the risks.

We talked here about some of the myths and understand them. Do your own research. If you have any questions, please reach out to us. We are always happy to provide you with additional information. As always, as I wrap up this episode, make sure to leave us a like and share on your favorite listening station. Take care, everyone. Thank you.

 

Important Links

• 7e Investments
• LinkedIn – Chris Seveney