INFORMATION ARTICLE
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From Wraps To Riches (by John D. Behle) |
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The loans most profitable to consider refinancing right now
are underlying loans on wrap-around loans that you own. This
is a technique that will provide an astounding increase in
your rate of return and will work in any market, but may be
especially profitable right now.
The value of a wrap-around loan is determined by the cash
flow. This cash flow consists of the difference between what
is paid in to you and what you pay out on underlying loans. If
the payment on the underlying loan decreases, your cash flow
increases - as well as the value of the note. There are many
ways that you can lower the payment on the underlying loan.
Here are a few:
1. LOWER THE RATE
2. LENGTHEN THE TERM
3. LOWER THE RATE AND LENGTHEN THE TERM
4. RAISE THE RATE AND LENGTHEN THE TERM
5. LOWER THE RATE AND SHORTEN THE TERM
6. THE DISCOUNT REFINANCE
We will look at examples of the first two in just a moment,
but let's discuss #3, #4 and #5 first. The third way is easy,
because if both one and two work, then a combination of them
would work even better. Number 4 looks deceptive, because it
is the opposite of number 3 in some ways.
On some loans, lengthening the term will make such a
tremendous difference that even increasing the rate would be
possible. Also, if the term isn't shortened too much, lowering
the rate can raise the value.
Now let's look at the first two examples. Lower
The Rate
This example is a "wrap equity" of $10,000.00.
The value of this note at a 20% yield is $4,849.30. The cash
flow on this note increases in 180 months when the second is
paid off and then again at 240 months when the first is paid
off. How I arrived at the present value of $4,849.30 is too
lengthy to explain at this moment so the figures are not
shown, just the values.
Loan
Amount
Payment
Rate
Months --------------------------------------------------------- The cash flow for this note varies. It begins at $64.19
per month for the first 180 months (wrap payment less the
payment on the first and second) and then increases to $225.23
per month for the next 60 months. At the end of 240
months, then both the first and second are paid off, so the
full payment of $476.16 will be received.
If the second loan were refinanced at a rate of 13%
over the same period of time, the cash flow during the first 180
months would increase by $34.52 per month. This would
raise the value of the note you own (the wrap) to $6,814.80
- an increase of almost $2,000.00. You could actually
just sell the note for the same yield you bought it at and
profit by $2,000.00.
** SPECIAL NOTE - I would encourage you to never sell a
note. There are some exciting reasons to buy and keep all of
the paper that you can get your hands on - NEVER SELL. **
If the first loan were refinanced at 9.5%, it would
be even more profitable. Let's finance for $40,000.00 and
pay off both the first and second loans. Here is how it would
look now:
Loan
Amount
Payment
Rate
Months --------------------------------------------------------- The value of this note (the wrap) has now increased to $8367.35
- an increase of over $3500! Your yield or rate of
return has increased to 34.6% and everyone is happy. Lengthen
the Term
As we lengthen the term on the second loan, it will lower
the amount of the payment and the cash flow on the wrap will
therefore increase in the first few years (where the value
is).
In the original example, the loan goes for 66 months
and the wrap note is worth $5393.31 when purchased at a
20% yield. If we finance over a longer period of time, the
value of the note is increased to $6049.34 - an
increase of $656.03.
Loan
Amount
Payment
Rate
Months --------------------------------------------------------- Loan
Amount
Payment
Rate
Months --------------------------------------------------------- The
Discount Refinance
We discussed why examples 3,4 and 5 would work, but what is
a "discount refinance"? We don't have room for an
example here, but it involves paying either or both of the
underlying loans off at a discount and then refinancing with a
new loan. The discount will be realized in the form of a much
lower loan and payment.
The value of the "wrap" will have increased
substantially. Over 50% of the notes I've purchased have improved
immediately and some of my students report ratios of 80-90
percent. I hope this article has opened up some new ideas for
you and shown you some of the profit available in the paper
market. You'll find paper to be one of the most profitable
investments you'll ever see.
About the Author . . . John holds an National Council of Exchangors "Gold
Card" and an EMS designation. He is also listed in Who's
Who In Creative Real Estate. John Behle is the author of
several hundred articles published in national magazines and
newsletters and of several ground-breaking real estate paper
books, including: * The Paper Game Trilogy |
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