Mortgage lending was once reserved for financial behemoths like banks and large institutions. But today it is more popular than ever. Retail investors from across North America are participating in private lending, either directly, through syndications or by purchasing shares of mortgage funds. Here’s why mortgage lending is often so enticing.
It can generate cash flow
A mortgage loan can be an income generating asset because the borrower will generally be required to make regular interest payments. In most cases it will be on a monthly schedule, meaning that the lender earns cash flow every 30 days.
It is backed by real estate
Mortgages lock down a property until the borrower repays the debt. They are registered with the relevant authorities and lifted only once the loan agreement has been satisfied. In the event of a default, the lender has the option to take legal action and foreclose on the collateral. After which, it can be sold in order for the lender to recoup what it is owed.
Therefore, the lender has security in real estate. There is recourse available if all does not go according to plan.
It is relatively simple to research
Mortgage lending is a simple investment when compared to some others, like many technology companies, small-cap stocks and cryptocurrencies. The lender should ascertain certain facts which are easily verified. These can include the value of the collateral, the amount of existing debts that are registered to the real estate and the loan-to-value ratio of the deal. Oftentimes, the lender’s attorney can do this on its behalf and at the expense of the borrower.
For clarity, this does not mean that due diligence on mortgage loans should be taken lightly. It is important to make calculated and thorough decisions for any prospective investment. Rather, the point is that on the spectrum of easy-to-complicated deals to research, mortgage lending is probably on the simpler side.
The lender’s costs are reimbursed
As alluded to earlier, any expenses that the lender might incur during the course of the loan – including at origination and even through litigation – are generally borne by the borrower. Oftentimes, they are deducted at source. For example, a $150,000 loan that cost $2,000 to set up might lead the lender to advance only $148,000 to the borrower. However, the entire balance would still be payable, along with interest.
The fact that these costs are reimbursed by the borrower means that the lender should not have to cut corners on due diligence. It can hire a competent attorney, pull land title searches, verify the borrower’s income and tax circumstance and do what’s necessary to feel comfortable advancing a loan.
There is a clearly-defined term
Private loans typically have a maturity date. That is the time at which they need to be repaid. It provides the lender with an idea of when it will recoup its capital.
However, borrowers are not always able to pay back the debt at the agreed-upon date. For one reason or another, they may be late and require an extension. Whether the lender agrees to extend the term is its choice. But it is often the preferred course. Otherwise, its other option is litigation.
As with all investments, there are both pros and cons to this type of asset. Moreover, investors in a mortgage fund are usually shareholders or unitholders. They are not direct lenders. Therefore, there are additional layers of due diligence that they should perform.
About the Author: Alexis Assadi is a writer, entrepreneur and investor. He was born in Switzerland and lived across Asia and Australia until his family settled in Vancouver, Canada. He obtained a bachelor’s degree in political science from the University of British Columbia in 2010. Today, he operates several financing companies, such as Pacific Income Capital Corporation.