Note partials have long been a favorite strategy of mine. Although they aren’t right for every circumstance, they seem to have a place during good financial times and bad.
Just a few days before writing this post, we learned that the April 2020 United States unemployment rate reached 14.7%. Many experts, including Treasury Secretary Mnuchin, feel the May rate could reach 25%. The highest rate ever is 24.9%. That was in 1933… during the Great Depression.
Whether you believe we’ll rebound quickly, or not, many people are hurting now. Government stimulus can only go so far.
While now isn’t a time to panic (we never recommend that), it is a time to be proactive. Personally I’m planning for a recession that will last until the end of 2021 but I hope our nation’s resilience gets us out of the weeds sooner. Time will tell.
Being proactive as an investor and someone who is financially responsible means having cash reserves. If my rainy day fund is lite, I look to bolster it without selling assets at fire-sale prices. For someone who owns real estate notes, I immediately think of note partials.
How Does It Work?
It’s no secret that notes are sold at a discount. When you sell ALL the remaining payments, the discount factors in that some of the payments may not be received for years down the road.
Next month’s $1,000 payment will purchase far more than a $1,000 payment received 10 years from now. Also, the longer one holds a note, the greater the chance something bad from a financial standpoint will happen to the Borrower.
It’s simple to sell a note partial. Still owed 100 payments? Sell the next 12, 18, 42… whatever. Keep the rest. Down the road, you can sell more if you wish.
Because you’re only selling payments that are due nearer in the future, inflation and risk of non-payment are reduced. That means you should be able to negotiate a smaller discount.
It also means that during the uncertain times we’re living in, someone other than you gets to sweat it out each month hoping the payments will arrive.
Here’s an example. Wendy owns a note:
- Remaining Balance: $75,000
- Remaining Payments: 120
- Interest Rate: 9%
- P&I Pmt: $950.07
Because of the COVID-19 pandemic, Wendy is uncertain about finances for the next 18 months. An extra $20K cash would help her sleep at night. So, she reaches out to Peter, a Note Investor, who offers to buy the next 24 monthly payments she’s owed for $20,500. Yes – Note Partials to the rescue.
Peter will collect $950.07 per month for 24 months. Beginning on month 25, payments will revert back to Wendy. There will be 96 payments remaining and the outstanding balance will be $64,850.18.
What just happened?
- Peter received the right to receive the next 24 payments and took on little risk because his small investment is secured by the value of the property. Therefore, he has great equity protection. Investors love to get their money back quickly and absolutely love equity protection.
- Wendy received money for her rainy day fund and is still owed $64,850 when the loan reverts back to her. Actually the 96 remaining payments she’s due equal $91,206.72 (96 x 950.07). $64,850 is just the balance due. Add that to the $20,500 lump sum she received for her partial, plus whatever she’d already been paid by her borrower as a down payment, plus monthly payments. All those numbers combined are her TOTAL income on the note.
You can see how partials turn notes into ATM machines – giving Noteholders the ability to take “withdraws” as needed. For those needing cash and owning a note – now is a good time to give Note Partials a closer look.