A July 22, 2013 report by CNBC.com Business News reporter Diana Click began this way: “They swarmed the distressed housing market, buying thousands of foreclosed properties and pushing prices higher and faster than anyone expected. Now investors are pulling back, dissuaded by the higher prices they themselves brought about.”

15% of June 2013 sales were by investors, according to the National Association of Realtors.  This is the 4th consecutive month investor sales have fallen. N.A.R. says this is the lowest investor share since tracking began in October 2008.

Slowly, it appears, current homeowners are starting to drive the market. And,  typically, first-time homebuyers  make up 40-45 percent of the home buying market. They are at about 29% of buyers right now,  N.A. R. reports.  These buyers have competed in a market with limited supply and cash buyers.  Plus, they usually have smaller downpayments and typically need financing.

Here is the opportunity for owner carryback financing to help in restoring the housing market to some degree of  “normalcy.” If a first-time homebuyer, for example, has 10% downpayment but not 20%; has 600 credit but not 650; and has moved into town 1 year ago with a new job, young family and extended family close by – he just might be an excellent prospect for an owner carryback sale. A solid citizen should be recognized by a savvy broker or seller, who can sit down and agree to terms that are protective for both parties. And if the seller would prefer to cash out, he can receive 6-12 payments and take his well constructed owner carryback note to the marketplace and sell it.

He should find a receptive notebuyer. Everybody wins.

Have you ever wanted to attend a big sporting event or musical concert? The desire builds inside you, you have to go. The problem is you don’t have a ticket. And, you will not be satisfied unless you get a “good seat.” You will not sit up in the rafters.

What do you do? You go to a ticket broker. Sure enough, he has the seat location you want. And if your desire and pocketbook are aligned, you will buy the ticket and pay the broker’s price. And if the event lives up to your expectations, the whole experience will be a gratifying one. You would do it all over again.

Most of us have done this and had a good time. This is the marketplace at work. This is the secondary market.

Here is what happens. Let’s say you are a season ticket holder for a major professional sport team. You can’t go to an upcoming game, and neither can any of your friends. You don’t want to get stuck with the ticket and take a loss. That would be foolish. So, you offer your ticket to a sports ticket broker, who will normally pay you face value. At this point, you are made whole. You are out of the risk. You have transferred the risk to the ticket broker. You are happy.

The ticket broker is now 100% invested in the risk. He will attempt to sell your ticket at a premium, and if successful, he will make a profit. On the other extreme, if he can’t sell your ticket, he has lost his entire investment. This is the broker’s price of doing business.

People have different views about the role of ticket brokers. The bottom line, though, is that the marketplace will dictate the pricing of any particular ticket for any particular event. The more desirable the event, the higher the price. Simple as that. When the seller transfers the risk to the ticket broker, the ticket broker accepts that risk. If I want that ticket, I will pay the premium required to get what I want. So, all parties – seller, ticket broker, new buyer – are satisfied. The secondary market is working at it’s best.

When a person sells a property, carries back the note, receives monthly payments for a period of time, and then decides to sell that note to an investor in the secondary market, the same principles apply. The seller has made a decision that he wants to transfer the risk to the investor, receive his cash, and move on. The investor, through his due diligence, has offered a price he believes is fair and hopefully, will prove to be a prudent investment over time. But, the investor will only discover everything he needs to know about that note until he actually owns it and is receiving payments. Most of the time, the transaction works out. Sometimes it does not. Sometimes it is a disaster, and the investor has a mess on his hands. This is the price of doing business. This is the secondary market at work.

What I love about the world of seller carryback transactions is the democracy of the whole thing. Two people deciding, without interference, the terms of their transaction, and then living with the good and the bad.  And, should the seller ultimately decide to sell his stream of monthly payments for cash, and transfer the risk, this is just another example of two parties – on their own – allowing the marketplace to work.

A beautiful thing!

The California Association of Realtors reported the other day that a big chunk of potential home buyers in the state are being shut out. The culprit? Rising home prices and rising mortgage interest rates.

During the first quarter of 2013, C.A.R. reports that the statewide median home price was $350,490. In the second quarter, it had risen to $415,770. Ouch!

The minimum income required to purchase a home at this price “soared” from $66,800 in the 1st quarter to $79, 910 in the 2nd quarter. Ouch! Ouch!

Wealthy coastal communities are driving this rise. Only 17% could afford to buy a home in San Francisco and San Mateo Counties, 23% in Orange County( South of Los Angeles).

Richard Green is Director of USC’s Lusk Center for Real Estate. He says the decline in affordability is just the latest indication of wage stagnation. “People are not making more money, except at the high end. This gets at the broader problem, which is not a housing problem. It seems to me the problem is much more of an income one.”

Everyone in the real estate industry knows that the lack of inventory has been a huge issue as well. Realtor.com reported that nationwide inventory dropped over 5% from July 2012 to July 2013. But, in my state, California, the biggest inventory increase in the nation was 26% in Riverside and San Bernardino Counties – areas that were hit very hard as the housing market tumbled. This is good news for folks in those counties.

These statistics, along with reported drops in mortgage refiancing, will leave a certain number of  otherwise “qualified” buyers on the outside looking in. These folks may not have enough cash for a 20% downpayment, or sterling credit histories and scores to get the most favorable mortgage rate from a lender. Or, maybe they really can’t afford the home of their choice given their income level. But the marketplace always finds a way to fill a void, so that some of these folks can in fact buy a home. How? Seller carryback.

Several years ago, as the housing market spiraled downward, people who owned a property they wanted to sell would offer a seller carryback. Their motivation was “to sell the property”, and as a result, they found buyers who had little or no cash for a downpayment and poor credit. The seller would agree to terms totally favorable to that buyer – little downpayment, no credit check, low interest rate, interest only payments, balloon payment in 3-5 years. At best, a high risk transaction. At worst, a disaster and foreclosure waiting to happen. But, the seller “sold his property.”

Today’s sellers have learned from these mistakes. Working with an otherwise “qualified” buyer, the parties can agree on price and  terms that protect both of them, and make for a sound transaction. If not a 20% downpayment, maybe 10%. If not a 5% interest rate, maybe an 8% to recognize the risk being absorbed by the seller. An amortized loan, not interest only payments.  Maybe “stepped up payments”. A third party servicing agent to monitor payments. A credit check by the seller upfront so he knows what he is working with. Perhaps a conversation about the buyer’s desire to refinance a few years into the transaction, strengthening his credit posture and paying off the seller early. Or, the seller who wants to cash out, can go into the market place and sell his note to a reputable notebuyer. A well constructed transaction should find a willing buyer easily enough.

Not every seller is a candidate to offer a seller carryback. Not every property sales situation calls for a seller carryback as the solution. It’s an option.  And where appropriate, the parties can play a small role in helping the housing market get back on a solid footing.

When real estate agents and brokers find themselves in a competitive market, the creative juices start flowing. The need to differentiate themselves from the pack and attract the  right kind of seller and buyer heightens. Here is an example cited in a recent LA Times article:

 In the high end market of West Los Angeles, brokers are combining “houses and horsepower” to draw a moneyed home buyer. If the seller owns expensive cars, a broker preview or buyer showing will be set up in such a way that guests must walk by the cars before entering the home. In another home showing, the broker persuaded a local BMW dealer to park several latest model BMW’s in the driveway. The dealer then offered a raffle prize of a weekend test drive of a BMW Alpina B7.

In addition, some brokers will hire a local chef to cater the event. And, if a well known architect designed the home, the food and cars selected will match the nationality of the architect or the design characteristics of the home.

Not every agent and broker works in a high end market. But there are lessons learned here. Everyone can take a look at their market and find local restaurants, car dealers, businesses, etc. who might  be thrilled to particpate in an open house  by doing something “out of the box” in their community.

Getting creative is fun. Trying to do something different is exciting and can pump up anyone’s business. Maybe a home will be sold and maybe it won’t. But, relationships may be forged with “locals”, and who knows what future successes may develop.

And, if someone decides to offer a seller carryback in order to get their home sold,  I’m always available to provide guidance on appropriate terms or find a buyer for the note somewhere down the road.

As the housing market continues to rebound, buyers of seller carryback notes are loosening the purse strings a little bit. Offers to buy quality notes are higher than they have been in several years.

The National Association of Home Builders tracks the nation’s metropolitan housing markets. If a market shows increases in housing permits, employment and home prices for at least 6 months, they label the market improving. On July 8, 2013, the Association reported that 255 markets are improving, representing more than 70% of the areas they track. The number of improving markets has more than tripled since July 2012, they report. “The relative stability of the index is representative of the broad recovery underway, which is much more extensive than what we were looking at one year ago,” Chairman Rick Judson said.

This is reflected in the prices some sellers are receiving for their seller carryback notes. With increased equity in properties comes less perceived risk for the buyer. Given good seasoning and reasonable credit, sellers are reaping the benefits, some receiving into the mid 80% and higher on their unpaid balances.

If you are holding a note and find yourself with a need for cash, your note may be a good source for that cash. You may want to consider the pricing options available  for your note and compare that to your other cash sources before making a final decision.

Feel free to contact me if you would like to talk about your particular situation.

The first page of the Business Section of a prominent newspaper had these headlines on June 26, 2013:

Risk Seen in Rate Surge

“Mortgage rates have zoomed a full percentage point above their recent record lows, raising costs for borrowers and questions about the housing recovery.” Doug Duncan, Fannie Mae’s chief economist, was quoted as saying “the higher rates would have the immediate effect of pricing certain stretched borrowers out of the market. But he said  he thought it would take rates rising to 6% over the next 12 months to depress home purchases and prices.”

Stay tuned!

Soaring Home Prices Raise Fear of Bubble

“Home prices in large U.S. cities rose sharply in April, posting the biggest one month gain in the history of the Standard & Poor’s/Case-Shiller index. Prices have risen so quickly in certain markets that some economists are warning of another housing bubble. San Francisco posted the biggest year over year gain, a whopping 23.9%. Home prices can’t continue at this breakneck pace for long without accompanying growth in jobs and wages, economists said. Relatively tight access to mortgage credit should also put a check on runaway prices. Said Richard Green, director of the USC lusk Center for Real Estate – ” I would be stunned if we keep going at this pace.”

Stay tuned!

Fannie, Freddie May Be Replaced

“Nearly five years ago, the subprime meltdown triggered a huge taxpayer bailout of housing finance giants Fannie Mae and Freddie Mac. Four Democrats and four Republicans want to shut down Fannie and Freddie over five years and replace them with a new government agency modeled on the Federal Deposit Insurance Corp.(FDIC).”

The problem? Fannie and Freddie have posted record profits under government conservatorship, paying a combined $65 billion in dividends to the government. Plus, Fannie Mae is set to make an additional $59.4 billion payment by the end of June. These payments have reduced the federal deficit, but if another housing bubble develops, taxpayers could be on the hook for pumping more money into Fannie and Freddie. The legislators want to avoid this by requiring private companies that package mortgages into securities – primarily banks – to hold at least 10 cents in capital for every dollar of the underlying loans to help cover potential losses. This is the first step in the reform process.

But, said Bert Ely, an independent banking consultant, the improved financial condition of Fannie and Freddie makes it difficult to shut them down. “The old saying is you prefer the devil you know over the devil you don’t know. And we know Fannie and Freddie.”

Stay tuned!

What does it all mean? My daily business activity tells me there is definite optimism amongst the folks. I think it is cautious optimism, however. Only time will tell what kind of playing field we will have and if the true players – you and me – will feel the confidence in our guts to spur a true and sustainable recovery.

Stay tuned!

I pulled a dollar out of my wallet yesterday. For reasons I can’t explain, I found myself staring at it in wonderment. I liked the way it smelled. It was crisp to the touch. It was beautiful and powerful in its design. I liked George Washington’s hairdo!

I thought about the economic tumbles this dollar bill has experienced since its inception, certainly during my lifetime. I knew the purchasing power of this dollar had declined – a lot. How much I wondered?

I went to Google and came across an article written by Kimberly Amadeo, President of WorldMoneyWatch.com. She is an economic analyst. According to her, here’s the purchasing power of my dollar over the past 50 years:

1960   –   $7.76

1970   –   $5.92

1980   –   $2.79

1990   –   $1.76

2000  –   $1.33

2010  –   $1.05

Wow! My one dollar bill bought over $7 worth of stuff when I was in college. I know the United States came off the Gold standard about 40 years ago, but I’m not smart enough to understand that impact on the dollar.

But, when we talk about the current value of something – say, our home – are we really accurate in saying that our home has a market value of “x” amount of dollars? Or, is it more accurate to say that we need way more dollars today to buy this home than we did at some point in the past?  How about a  house bought in 1970 for $100,000? Does it really have a value of $500,000 today? Or, has the dollar plunged so much in purchasing power that we really need $500,000 dollars today instead of $100,000?  Maybe the home’s “value” hasn’t really changed that much.

Who cares? And, what does this have to do with the note business?

If an experienced, established note buyer buys a note for his portfolio with the intention of keeping that note till maturity, the monthly payment received every month – in dollars – will buy less and less as each year goes by. If the note extends 20 years or more, you can see from the table above how the dollar will deteriorate. The note buyer knows this. The seller may never give it a thought.

Discounting the note – paying less for it today – in dollars – than its current principal balance – is not an exercise intended to profit at the expense of the seller. It’s a judicious practice for the note buyer to evaluate all the risks associated with that particular note. Future purchasing power is one of those risks.

I had a phone conversation this morning that, unfortunately, I have had too many times.

A man called about a marketing letter he received from me and wanted to know how the note selling process worked. I asked if he had ever sold a note before. He said no. I asked if he understood notes were purchased at a discount. He said yes. He indicated he was holding a residential and a commercial note and asked what kind of discount would apply. I answered that the note particulars dictated the pricing, and that a broad range in this market was 60-85 cents of the unpaid balance.  The bigger the downpayment, the more seasoning, the stronger the note terms, the better the credit, etc., the closer the price is to the top of the market. And, the contrary applies for transactions that are weaker. He said he would not sell for a 20% discount.

I asked him to tell me about the commercial note. He began evasively. I then asked how much downpayment he received. He said “zero.” I asked if the payments were principal and interest. He said “No.”  He said the payments were interest only with an annual balloon, with full payment due in 5 years.  He then said he was getting ready to take the property back. I asked if he was receiving the interest only payments and he said “No.” With every question, the news got worse. I told him his note was not marketable to buyers of performing notes.

This man wanted information from me before he gave me any facts about his situation. I was a stranger to him, so I understand that.  I told him I wished we could have talked before he negotiated this sale, because he made a lot of mistakes. The biggest, it appears, is that he did not know his buyer well enough. He said he owed back property taxes and he gave concessions on the terms in return for the buyer paying the taxes. In less than a year, the deal was falling apart.

I repeat this Ad Nauseum – the world of seller carryback is the Wild Wild West. A buyer and seller can basically agree on any terms they want. That doesn’t mean, however, that the terms are wise or protective of the parties. Exhibit A is the story I just told you.  What’s more important – to get the price a seller wants or to get a strong buyer? A very high percentage of owner carryback transactions in the current marketplace are first time owner carryback sellers. Many times they are not being advised properly or at all. Sometimes it all works out fine. Sometimes the result is as I just described.

We all know the Latin saying Caveat Emptor – let the buyer beware.

In the world of owner carryback, pay heed to Caveat Vendit – let the seller beware.

This idea and concept is borrowed from Tom Henderson and Lawrence Tepper, two seasoned pros in the note business.

Value  – “The monetary worth of a thing.” So says Webster’s dictionary. Webster’s goes on to give eleven(11) definitions of the word value.

But in the minds of many note holders, there is no discrepancy as to the value of their note. The value is as they see it, based on their perception of the quality of the terms agreed upon, their buyer, the property condition, the neighborhood, price and market conditions, etc.

But, value means different things to different people. The payor – the person who bought the property, living in it, and making the monthly payments, may have a very different perspective on what he feels is the value of the note. In part, this may be based on the nature of the relationship between the two, and how easy or difficult the negotiations were.

How about a note investor? He is an outsider looking dispassionately at the seller, buyer and property. He is risking capital. Think he may have a slightly different feeling as to the value of the note the holder wants to sell?

How about a note appraiser? He does not own the note.  He does not want to buy the note. He is being asked to give his professional opinion – for a fee – as to the value of a particular note. He has no skin in the game, if you will. He is several steps removed from any interested parties. Think his view of value might differ from the noteholders?

How about heirs? They invested nothing, and one day a note is part of an estate they are about to inherit. If the heirs have different needs, live in different cities, have different levels of education or business experience, do you think there may be a difference of opinion as to the value of the estate note?

If a noteholder has an urgent business opportunity, with a resulting urgent need for cash, might his opinion of the value of his note be different if that urgency did not exist? We know the answer.

At some point in life, we have all been in a situation where we say to ourselves, as sellers, “My “____________” is worth more than your “___________.” It’s just human nature to have a skewered view of our possessions. The key is to be open to the possibility that our emotion is getting in the way, and we might be wrong.

Remember, beauty is in the eye of the beholder!

The following ideas and concepts are not mine. They come from two long time professionals in the note business, Lawrence Tepper and Tom Henderson. I hope my words do justice to their teachings.

My old Webster’s New Collegiate Dictionary provides a definition for the word “myth” as follows: “A person or thing existing only in imagination.” In other words, it has no basis in reality.

The #1 myth that many noteholders are convinced is true about their note is that their $100,000 note is equivalent to $100,000 cash. This is simply false. I am holding a note in my hand right now, and the first line reads “In installments as herein stated, for value received, the undersigned promise to pay…

Promise To Pay! A note is not cash. A note is not a bank CD. It is a promise to pay cash over some period of time. Since the payment is not guaranteed, there is uncertainty about repayment of this debt. This uncertainty creates risk. The risk may extend to the terms of the transaction, such as – inadequate downpayment, inadequate interest rate, poor collateral, poor paperwork/documentation, etc. The risk escalates if payments have been consistently late or missed. A notebuyer must be compensated for all the risks associated with a particular note, and does so by demanding a higher yield on his investment. This in turn results in a discount to the seller.

An interesting analogy to note discounting is winning a lottery. Let’s say a  lottery claims that the jackpot is $5 million, Cash Value $3.15 million. If you win, your option will be to receive the $5 million over some period of time, say 25 years at $200,000 per year.  The jackpot is not $5 million cash today. Or, you could choose to receive a cash option today of $3.15 million. The cash option represents a 37% discount from the advertised payout of $5 million.

So, the choice for the winner is $3.15 million today or $200,000 annually for 25 years. In selling a note, the seller can choose a lump sum of cash today or a promise to get monthly payments over the remaining term of the note. Most people understand this analogy.

The world of Seller Carryback is like the Wild, Wild West. Sometimes a seller will ride into town, act as the new Sheriff, create a note, and then be humbled by some tough hombre who has been there and done that. Blogs and Newsletters like mine are designed to help educate sellers before they ever climb on the horse.