A few months ago, I was in a bank lobby that provided little or no privacy for the people that were conducting their business with the tellers. I couldn't help but overhear a conversation taking place with a couple probably in their early 60's. They were trying to figure out how they could put more money into the bank under the FDIC's $100,000 insurance - by opening separate accounts, opening accounts in the name of their trusts, children, grandchildren, etc. And it really saddened me. You might wonder why?
Well, it's because the interest rate that they were going to be earning on their money was MAYBE keeping up with inflation. In other words, they weren't growing their money. And it saddened because there are alternative investments that they could be putting their money into that earn far greater returns with low risk and high security!
Let's take a look at what banks and other lending institutions are paying today - these are national overnight averages from BankRate.com:
2.38% Money Market Accounts
2.89% 6-month Certificate of Deposit (CD)
3.27% 12-month CD
3.86% 5-year CD
Click on the link below to check out today's rates for yourself:
BankRate.com
Again, these are national averages, so you can find some banks with higher rates around the country. For example, I know of one bank that is offering 3.9% on its Savings Accounts right now. Regardless, we're still talking about interest rates that are barely keeping up with inflation if we're lucky. And, I'll step out on a limb and say that they are NOT keeping up with inflation because of the way that the government calculates and reports it. (We've been quoted 3% inflation since the price of gas was well under $2.00 a gallon. Who still believes that inflation is 3% now that the price of gas is approaching $5.00 a gallon??)
So, let's take a look at one Alternative Investment that can earn much higher yields with low risk:
Well, it's because the interest rate that they were going to be earning on their money was MAYBE keeping up with inflation. In other words, they weren't growing their money. And it saddened because there are alternative investments that they could be putting their money into that earn far greater returns with low risk and high security!
Let's take a look at what banks and other lending institutions are paying today - these are national overnight averages from BankRate.com:
2.38% Money Market Accounts
2.89% 6-month Certificate of Deposit (CD)
3.27% 12-month CD
3.86% 5-year CD
Click on the link below to check out today's rates for yourself:
BankRate.com
Again, these are national averages, so you can find some banks with higher rates around the country. For example, I know of one bank that is offering 3.9% on its Savings Accounts right now. Regardless, we're still talking about interest rates that are barely keeping up with inflation if we're lucky. And, I'll step out on a limb and say that they are NOT keeping up with inflation because of the way that the government calculates and reports it. (We've been quoted 3% inflation since the price of gas was well under $2.00 a gallon. Who still believes that inflation is 3% now that the price of gas is approaching $5.00 a gallon??)
So, let's take a look at one Alternative Investment that can earn much higher yields with low risk:
TRUST DEED INVESTMENTS
There are many investors that only invest in this one asset type and consistently make a steady 9-12% annual return. But there are many more investors who have never even heard of Trust Deeds, let alone know how to invest in them.
Basically, investing in Trust Deeds involves your becoming a lender to a homeowner or a builder. For the purposes of this blog, I'm going to narrow it down to lending to homeowners.
Now, as a Trust Deed lender, you can either 'create' a Trust Deed loan directly with a borrower yourself (usually with an attorney's assistance) or more commonly, you can purchase an existing Trust Deed loan from a Mortgage Loan Broker (aka 'Hard Money Lender').
Many homeowners are unable to obtain loans from banks or other large financial institutions due to various reasons: low credit scores, gaps in employment, etc. However, they may have a very immediate need for the money. This is where 'Hard Money Lenders' come in. These are typically smaller local businesses with money to lend. They are much more flexible than the large financial institutions, can react very quickly, but charge significantly higher interest rates for the use of their funds.
The typical Hard Money Lender doesn't intend to hold onto most of the loans or Trust Deeds that they initiate. Instead, they seek to sell these loans to individuals, institutions, trusts, etc. They make their money by charging loan fees and points in the initiation and resale processes.
Before I get too far along, let me explain WHY you should consider doing this with some personal examples: I own several Trust Deed loans in California. The interest rates I earn on these loans range from 12% to 16.99% and I get paid every month on these loans by my borrowers. And I've turned downed Trust Deeds as high as 18.99%.
You might be saying "there's no way!". Quite the contrary my friends. In fact, these interest rates are very common in the "Hard Money Lending" business, which you are going to learn about shortly - and they are completely legal. I won't go into "usury law" in this blog because the laws vary by state, but I will be happy to speak with you about it if you care to send me an email with a question. (My email address is: Johnha7@yahoo.com)
Now, I'd like explain more on what Trust Deeds are and why they can be very secure investments. Then, we'll discuss what determines their value and then, how you can invest in Trust Deeds.
The Trust Deeds we'll discuss in this blog are related to real estate. When someone purchases a home, they commonly take out a loan (mortgage) to acquire the property. Loans against real estate have two components:
1. The Trust Deed (aka Mortgage or Deed of Trust): this legal document pledges the property to the lender as security in case of a default or non-payment by the borrower.
2. The Promissory Note: this legal document specifies the payment terms of the Trust Deed, including the amount of the loan, monthly payment amount, payment due dates, interest rate, term of the loan (# of months), and penalties in the event of late payments or default. This is essentially, the borrower's promise to repay the loan amount plus interest.
Now, there are many situations when an existing homeowner needs money and their only significant asset is their home. It may be for a 'hot' new investment asset, a remodel of their home, a family or medical emergency, etc. So, they might seek to take out a 'Home Equity Loan'. There can take various forms, but I'll focus on the following:
* First Trust Deeds: if the homeowner/borrower has no current mortgage on their property (they own it free and clear) and they took out a Home Equity Loan, it would be considered a First Trust Deed. This means that in the event of a default or failure to pay and subsequent foreclosure, this loan would be paid off before any others. (As noted above, the Trust Deed pledges the property as security in the event of a default.)
* Second, Third, Fourth.... Trust Deeds: if the homeowner/borrower does have a current mortgage (this would be their First Trust Deed) and they have a good amount of equity in their property (their home is worth more that they owe on their mortgage) -- they might take out another loan(s) against their remaining equity in the property.
These 2nd, 3rd, 4th.... Trust Deeds, however, are named as such because it identifies their 'lien position' in the event of a default. Sometimes, as we're experiencing in a number of U.S. markets today, the property values can go way down and the equity that was borrowed against virtually disappears. In the event of a foreclosure and subsequent resale of the property, whatever funds are obtained from the sale are paid out in order of priority: First Trust Deed gets paid off first and if any money is left over, then the Second Trust Deed gets paid, etc. Unfortunately, there may not be enough funds to repay even all of the First Trust Deed off. In this case, the 2nd, 3rd, 4th Trust Deeds, etc. don't receive anything. That's right, they're out of luck!
So, what's the lesson here? Well, like any investment, you need to do your homework and research before you invest in a Trust Deed. My definition of risky investments are those that are made in the dark.
Now please don't let this scare you off. Here's why - there are:
Five Simple Ways To Reduce Risk For Trust Deed Investments
1. Make sure any Hard Money Lender that you will be purchasing your Trust Deeds from is reputable and experienced. Check them out. We'll discuss how to do this a little later.2. Review the property appraisal and title (this will determine if the borrower has equity and if the property has clear title with no other liens or complications). Is the appraisal current? Who did it? You want an independent 3rd party doing these. Some investors will have their own appraisals done. Make sure that there is title insurance! This is added SECURITY you don't want to invest without.
3. Research the market value of the property and trends. Is the real estate market stable? What have comparable homes in the immediate area sold for recently?
4. Give yourself a 'cushion' between the amount of the loan and the value of the home which you researched in steps 2-3 above. This is called Loan To Value (LTV). It's calculated as follows:
Amount of Loan divided by Market or Appraised Value = Loan To Value
A good LTV is my opinion is under 70%. This means that if a home is valued at $100,000 - then I will loan no more than $70,000 on it. Why?
Well, if the borrower defaults on their loan and I foreclose, I could take possession of the property valued at $100,000 for which I only have $70,000 invested in the loan. It's now mine and I have an automatic $30,000 in equity if I can sell it for the market value of $100,000 AND I would get my original investment back!
There are two big benefits here:
* Potential for additional profits: The 'cushion' of the 70% LTV means there is potential for additional profits in the event of a default and foreclosure. (In the example above, it was an additional $30,000 of profit that I didn't originally plan on.) This isn't ever my intended outcome, but it's nice to have the added security and cash.
* Added SECURITY: In the event that the real estate market were to depreciate like it's doing in many areas today, with my 'cushion' provided by the 70% LTV -- the value of the property can decline by as much as 30% and I'll still be protected and able to get my original investment back if there's a foreclosure.
IMPORTANT: In a situation where the borrower already has a First Trust Deed on the home and they are seeking a Second Trust Deed, I still stick to my 70% LTV model. If the COMBINED loan amount (1st + 2nd Trust Deeds) is under 70% LTV, I would loan the money. In other words, if the home is worth $100,000 and the 1st Trust Deed balance owed is $50,000, I would loan up to $20,000 for a 2nd Trust Deed. This would add up to a total amount borrowed of $70,000, which is within my 70% LTV guideline.
5. Research the borrower's ability to pay. Check employment, credit scores and payment history where possible. Honestly though, if I get a really good LTV, say 60%, I'm not concerned about this. Why? Because, if the borrower defaults and I foreclose, I get the property at 60 cents on the dollar.
If you follow the five steps above, you will virtually eliminate the risk from your Trust Deed investment.
Factors That Determine The Value Of Trust Deeds
I recommend that before you invest any money with a Hard Money Lender, that you meet and interview them - ask for a professional profile, background, experience, etc. Then check them out with your State Dept. of Real Estate and Better Business Bureau. Most states also have Mortgage Loan Associations that you can research.
B) Once you've identified a qualified Hard Money Lender, you'll want to review the existing Trust Deed Loans that they currently hold and are offering to sell. (By purchasing the Trust Deed from the Hard Money Lender, you are actually becoming the new Lender on the property associated with this loan.) A good Hard Money Lender will have the critical information you need to use for 'sifting' through the offerings and narrowing them down to a short list for further, more detailed research and due diligence by you. This critical information should include:
* Property information: description, location, photos, etc.
* Loan amount
* Loan position (1st, 2nd, 3rd, 4th Trust Deed, etc.)
* Other loans on the property
* Total combined LTV (all loans)
* Appraisal
* Market comparable sales
* Interest rate
* Term of loan
* Title information
* Borrower information: credit score, employment, etc.
* Etc.
With this information, you should be able to identify a couple of Trust Deeds that might fit your requirements. From here, you may want to take these and dig even deeper, perhaps visiting the property, driving the neighborhood, talking to realtors about the area, researching market trends, etc.
C) Assuming you've found a Trust Deed that fits the bill, you will start the Escrow process. Your Hard Money Lender will lead you through the process and serve as middleman to get the property assigned to you as the new lender of record. I always recommend communicating directly with the borrower via letter/email and telephone to establish a good working relationship with them.
D) Finally, you'll need to start getting paid! Some Hard Money Lenders provide the administrative duties of processing payments for you. Others do not and you'll have to determine whether you want to handle those chores yourself or farm it out to a third party note processor. Personally, I use a third party service called The Note Servicing Center. They're national and very good at what they do. In fact, they are located very near my old hometown in Midpines, CA. Click on the image link below to check them out:
Well, I hope that this information inspires you to explore Trust Deed investing further. If you go about it the right way and do your homework, these investments can help to truly diversify your portfolio and add stable, high yielding assets with low risk. And please, don't rely on CD's as your primary investment strategy! There's too many great options available and Trust Deed loans are just one of them.
Until next time, I am the Retirement Wiz! (email me anytime at: Johnha7@yahoo.com)
All of the following factors needs to be considered together when investing in Trust Deeds. In other words, you should look at everything before you decide to lend money - not just one factor by itself.
* Loan-To-Value: as explained above, this is the relationship between the amount borrowed and the valuation of the property. I stay below 70% LTV. A Trust Deed at this LTV is more valuable than one at 80% because it has less risk (more 'cushion'). Trust Deeds with higher LTV's will commonly pay a higher interest rate to compensate for the greater risk level.
* Interest Rate: obviously, a Trust Deed with an interest rate of 12% is more valuable than one with 9%.
* The Loan Term: this is the period of time in which the debt has to be paid off. Most investors like to get their money back quickly. So, Trust Deeds with shorter terms are more valuable than those with longer terms.
* The Borrower: the creditworthiness of the person borrowing the money is another factor. Trust Deeds for borrowers with sound employment, high credit scores and good payment histories are more valuable than those with lesser credentials.
OK, we now know what a Trust Deed is; how to reduce risk when investing in Trust Deeds; and the factors that create value in a Trust Deed investment. Next, we're going to look at:
1) By lending the money directly to another party and creating a new Trust Deed yourself.
2) By purchasing an existing Trust Deed from a Hard Money Lender.
* Interest Rate: obviously, a Trust Deed with an interest rate of 12% is more valuable than one with 9%.
* The Loan Term: this is the period of time in which the debt has to be paid off. Most investors like to get their money back quickly. So, Trust Deeds with shorter terms are more valuable than those with longer terms.
* The Borrower: the creditworthiness of the person borrowing the money is another factor. Trust Deeds for borrowers with sound employment, high credit scores and good payment histories are more valuable than those with lesser credentials.
OK, we now know what a Trust Deed is; how to reduce risk when investing in Trust Deeds; and the factors that create value in a Trust Deed investment. Next, we're going to look at:
How To Invest In Trust Deeds
There are two ways to invest in or acquire Trust Deed investments:
1) By lending the money directly to another party and creating a new Trust Deed yourself.
2) By purchasing an existing Trust Deed from a Hard Money Lender.
We are going to focus on # 2 above:
Key Steps For Purchasing An Existing Trust Deed:
A) First, you must locate a reputable, experienced "Hard Money Lender" (aka Mortgage Loan Broker). There are a number of ways to find these companies - I typically look in the classified ads of my local newspaper under 'real estate', 'business opportunities', or 'money to loan'. Other good ways are to search the internet for 'hard money lenders' in your area and to consult with friends or business associates who may have experience with Trust Deeds already.I recommend that before you invest any money with a Hard Money Lender, that you meet and interview them - ask for a professional profile, background, experience, etc. Then check them out with your State Dept. of Real Estate and Better Business Bureau. Most states also have Mortgage Loan Associations that you can research.
B) Once you've identified a qualified Hard Money Lender, you'll want to review the existing Trust Deed Loans that they currently hold and are offering to sell. (By purchasing the Trust Deed from the Hard Money Lender, you are actually becoming the new Lender on the property associated with this loan.) A good Hard Money Lender will have the critical information you need to use for 'sifting' through the offerings and narrowing them down to a short list for further, more detailed research and due diligence by you. This critical information should include:
* Property information: description, location, photos, etc.
* Loan amount
* Loan position (1st, 2nd, 3rd, 4th Trust Deed, etc.)
* Other loans on the property
* Total combined LTV (all loans)
* Appraisal
* Market comparable sales
* Interest rate
* Term of loan
* Title information
* Borrower information: credit score, employment, etc.
* Etc.
With this information, you should be able to identify a couple of Trust Deeds that might fit your requirements. From here, you may want to take these and dig even deeper, perhaps visiting the property, driving the neighborhood, talking to realtors about the area, researching market trends, etc.
C) Assuming you've found a Trust Deed that fits the bill, you will start the Escrow process. Your Hard Money Lender will lead you through the process and serve as middleman to get the property assigned to you as the new lender of record. I always recommend communicating directly with the borrower via letter/email and telephone to establish a good working relationship with them.
D) Finally, you'll need to start getting paid! Some Hard Money Lenders provide the administrative duties of processing payments for you. Others do not and you'll have to determine whether you want to handle those chores yourself or farm it out to a third party note processor. Personally, I use a third party service called The Note Servicing Center. They're national and very good at what they do. In fact, they are located very near my old hometown in Midpines, CA. Click on the image link below to check them out:
Well, I hope that this information inspires you to explore Trust Deed investing further. If you go about it the right way and do your homework, these investments can help to truly diversify your portfolio and add stable, high yielding assets with low risk. And please, don't rely on CD's as your primary investment strategy! There's too many great options available and Trust Deed loans are just one of them.
Until next time, I am the Retirement Wiz! (email me anytime at: Johnha7@yahoo.com)
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