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Small Land Notes, Are They a Good Investment?

seller financing

They’re the latest sexy kids on the block, but are they the greatest? There are gurus out there teaching their people to heavily market for small land parcels, and their exit strategy is to create a note that they can sell.

What it comes down to is that the land-buyer-become-note-seller takes most of the reward and the note buyer is left with all the risk.

Doesn’t mean you should buy any… you just need to go in with your eyes wide open. Because if it defaults, chances are it could cost more than the property is worth to foreclose.

“Oh no, you don’t understand… there wouldn’t have to be any foreclosure because this is a contract for deed, we’d only have to evict”. Well, in many states, lease options and contract for deeds, if contested, WOULD require foreclosure, as many courts would deem the buyer as having equitable interest.

Perhaps some states still let you get away with it, but the prevailing winds are in the direction of requiring foreclosure regardless of how you try to cleverly circumvent it. And if you’re in a judicial foreclosure state, it could literally takes years instead of months.

So when you start salivating over an 18% yield, just remind yourself that it comes with higher than average risk, so you definitely want to cap the percentage of your portfolio that you’d put to work in these notes.

In the video example, the remaining balance was approximately $10,000, and Chuck was thinking of offering $5,000 representing a 40% return. But depending on the state, it could easily cost $5,000 to remedy a default, plus you have property taxes to keep on top of as well.

So you spend $5,000 to get back a property you already put $5,000 into (for the note purchase), so now you’re in it for $10,000. And my guess is the cash value of the property is less than $5,000. The only way you’d get your money back out of it is to do what the original guys did… sell it for $0 – 20% down at 0% interest… and then you’re back with the same risk profile you started with… and it ain’t at an 18% yield, neither… no sir.

Great for the land flippers, though. Think of that… they buy a property for $2,000, then sell it for $12,000 with $0 down, 0% interest, payments of $200/month for 5 years. They collect a years’ worth of payments for $2,400, then sell the remaining 48 payments, a balance of $9,600, at a juicy 18% to put another $6,808 in their pocket for a total of $9,208 less the $2,000 they paid for it, so $7,208.

Meanwhile, the person who bought the note ties up $6,808 for four years to earn $2,791 in interest. And would have a headache and expenses which would far outweigh the value of the property upon default.

Yah… $7,208 profit and no risk vs $2,791 interest and all the risk is a bit lopsided to me.

I will say though that if the buyer is really motivated to own the property and put down at least 20% cash, that 0% interest would keep them incentivized. Each month they know their equity is increasing rapidly as the whole payment goes towards principal reduction.

If it’s on your bucket list to get started with a small note, go ahead and take a spin. Perhaps mostly everything will go as planned. Just know that statistically speaking, there is a much higher risk of default. The NQ underwriting department (me) would not put the stamp of approval on these notes for a newer investor.

Seasoned investors usually pass, also, because they’ve been around the block and seen how the movie plays out a few times.

Moving on… here is the follow up email I sent to everyone who registered for the first Property & Paper Live from Saturday, November 4th:

It means so much to me that you registered for the relaunch of my monthly Zoom calls, and if you attended, EVEN MORE SO!! I was so touched and grateful to see so many wonderful faces (and a few black boxes), haha.

Because I was trying to handle the call myself (which I won’t do again) I was not available to soak in and look at every beautiful face or chat message. That will change for next time, so I hope to see you next month for an even better experience!

I want to give a special shout out to Chuck for being our ‘hot seat’ participant, for Sri for sharing his valuable insight and experience, and for people who used the chat:

  • Joe Valerio – I’m glad you were there, too! And yes, the front end partial is the product I am most interested in right now, as well as the use of a very specific trust system when taking properties ‘subject to’ or creating an ‘equity participation’ solution with a real estate seller (thank you, Scott 🙂
  • Valerie – Great to have you on from Michigan
  • Eric – Yes, Nick Gerli and Peter Schiff are very important voices! Thanks for the YouTube suggestion: Hidden Secrets of Money by Mike Maloney
  • Ivan – Yes the recording will be available early this week I believe
  • Frank – Welcome from Las Vegas! And I believe Sri responded with a great answer as to why someone would carry paper on their own property… even if you carried at BELOW bank rates so you could get top dollar (like the builders are doing), because of the huge appreciation you most likely have you’d really come out ahead. It’s not for everyone in every situation but can be a powerful tool to have at your disposal.
  • Kennesha – Yes you are one of the rare real estate professionals that really understand this space! We need more like you, as you are also an MLO (mortgage loan originator!) Thanks for the warm welcome back 🙂 I appreciate your enthusiasm and support. And as far as NotesDirect as an MLS for notes… Sri commented that he finds the notes to be over-priced… Eddie Speed’s NoteSchool students have first dibs… what they don’t want stays on the exchange for others to buy.
  • Mike – thanks for the tips on muting people who had background noise. Going forward I will have someone who can handle all the tech issues. I forgot how complex it can feel to moderate a good-sized group of people… I think we had about 40 on for the entire time, which was fabulous. Sorry for the inconvenience.
  • Kathy – It may or may not be relevant for you to work with a Hard Money Broker if you already have your own deal flow of investors wanting business purpose loans. For passive investors who don’t have their own access to deal flow, they could hook up with a local hard money lender to get (and keep) their money working for them, and also be sure the loans are fully compliant. Idle money is the greatest opportunity cost, as you well know. If people have their money working for them @ 10%, but only have it working 6 months out of the year, their annual return is only 5%… you could do just as well in short term CDs in the bank!
  • Lelith – Yes you brought out even more concerns about Contract for Deeds… consensus is we really don’t like them. So it’s great that you’ll be converting to a Note and Mortgage instead!

Thanks, again, for your interest and participation. I appreciate you so much.

Much love,

Dawn

P.S. If you’re a Realtor, I am especially grateful for you learning to function in ways that most will never understand… you are worth your weight in gold.

P.P.S. And sorry for the clunky moment at the end where I was trying to send a ‘good-bye’ message to everyone using Morse Code… my new love language. I guess no one could hear it so it was an epic fail, whoops!

P.P.S. Here are the links that I promised that I couldn’t find… because they were right where I put them on my desktop :-/

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