Buying Discounted Mortgages

You can invest in mortgages, just like Wall Street’s Mortgage Securities but on a smaller scale. Make money in the same method by buying discounted mortgages.  You can even do this in your IRA or 401k!

Here is a simple scenario that reveals how it works:

Mr. & Mrs. Smith find a house that they want to purchase. They both have excellent credit and earn decent incomes, but the Smiths are $5,000 short of their required deposit. Interest rates are below 5%, but since the seller is taking a second mortgage on the property for the $5,000 (behind the buyer’s new first mortgage), the seller wants an interest-only, 8-year mortgage (that’s interest-only payments, with the principal due in 8 years).

In our scenario, the Smiths would pay $400 each year for 8 years, and in the 8th year, also pay off the full $5,000. In the meantime, they would have two mortgages on their new home.

Let’s use the above example to calculate the figures. Since the mortgage is interest-only payments, the principal amount never changes, so if the mortgage is three years old, they have already received $400 per year = $1,200.  Suppose you offer to buy this mortgage at a discounted price of $3,000.  This may sound risky buying a second mortgage on a property, but think about this – if the borrower has been paying on time for three years, what is the likelihood they will default in the future? 

Now that you have paid $3,000, you will receive $400/year for another 5 years, which equals $2,000.  Plus, in year eight you will receive the $5,000 principal payment, for a total of $7,000.  Then, divide $7,000 by 5 years and you get $1,400/year.  Since you paid $3,000 for the mortgage, your average annual return is $1,400/$3,000, which equals a whopping 46.67%!!  Now, that’s average return and it still has to be discounted to its present value, since payments in the future are worth less than payments now.  But you get the idea of how profitable a discounted mortgage purchase can be.

So where do you find this gems?  Well, whenever property is sold, information regarding the sale of the home is recorded at the country courthouse or clerk and recorder’s office. The information is public record. The information in these records includes:

• Purchase price
• Liens on the property
• Property Taxes
• Buyer’s and Seller’s names
• Mortgage amount
• Lender Name(s)

Given this information, how do you use it to generate income? First, go to the place where the public documents are recorded and look for properties that have first and second mortgages on them (or subscribe to a service that allows you to search this information online). The first mortgage is typically a financial institution, and the second is sometimes an individual.

Gather 15-20 of the second mortgage holder’s names, and research to find their phone numbers (whitepages.com). Call them, introduce yourself, and offer to buy the mortgage, at a discount.  Or, gather a few hundred names and mail them a personalized letter.  These opportunities won’t come knocking at your door – you must take action in a massive way to find these deals.  But when you do, you’ll see it’s clearly worth it!