If the private loan is documented and structured by the law (and correctly accomplished), private mortgage lenders in ontario can see several benefits from a private mortgage. These include a higher rate of return on the investment when compared to other alternatives and a regular stream of income from the mortgage payments. Since the loan is backed by the property being purchased, it is more secure than other investment options. Some lenders use the investment as a way to move money around quickly when making short-term private mortgage agreements. Some home sellers who have difficulty in unloading a property will also make a private loan an option to help the home buyer take over existing mortgage payments and use the private loan to pay the difference between this and the sales price of the property.
The primary risk of a lender with a private mortgage is the always present potential of the borrower to default on their payments or damage the property. A significant consideration on the part of private lenders is the inherent risk entailed with offering a mortgage to a person or family who can’t qualify for a publicly backed note. This includes the possibility that the person may be unable or unwilling to make payments on the loan once obtained. There also may not be as many options to obtain the money lent if the person dies or decides to abandon the home if they don’t provide specific terms on what will happen to the debt in the event either of these events occurs. Some states will also mandate a cap on the total amount of interest that can be charged on a private loan.
How to Avoid Problems with a Private Mortgage
The easiest way to avoid issues with a private mortgage is to make sure one researches the local and state laws that govern this type of loan before entering into a private loan for a home or property. This requirement doesn’t just apply to those seeking loans; however, lenders need to make sure they understand the rules associated with entering into a private home loan. Both parties will need to make sure they agree on how the loan is going to be secured. This primarily consists of any collateral that will be provided to secure the loan or the details on what will happen if the person who is taking out the loan must enter foreclosure or is late on payments. Copies of all documentation related to the loan should be maintained by both parties as well.
Considering Private Mortgages as an Investment
Some third-party private investment companies will offer private mortgages or seller-financed mortgages as an opportunity to invest. These types of investments are then bought and sold through a financial exchange. In some of these cases, the investor can then sell their “stake” at a later date for a discounted price and provide the seller with a single lump-sum payment vice the normal monthly payments. In order variants of this type of investment, a “balloon clause” can be included that requires the person who obtains the loan to either pay it off by a certain point or convert it to a conventional mortgage. Depending on the setup of the investment, it can take several years to turn a profit based on overhead or may not provide as much income as putting one’s money into the stock or bond market.
What Role Does PMI Have with Private Mortgages?
Unless you are seeking out a private mortgage through a family member (and sometimes even in these cases), the lender is going to want to make sure that there is enough equity in the home that they will not take a significant loss in the event of foreclosure. This comes from most homes being sold in foreclosure realizing a reduced price compared to what is outstanding on the home loan (in most cases). As a result, the lender will want to make sure that they have a buffer in place to mitigate their potential losses on the property. This is where the 20% figure comes into play about the requirement to carry private mortgage insurance.
Most private lending entities will still allow consumers to pursue loans when they can’t afford to pay a 20% down payment if PMI is an option to obtain. This allows the mortgagor to take out the loan with sufficient PMI coverage to cover the difference in the loan-to-value (LTV) ratio. In reality, PMI is issued by a company specializing in this type of coverage to lending organizations to the benefit of the lender in the event of property foreclosure. PMI will then pay the bank or company that owns the mortgage the difference in the price realized at the foreclosure sale versus the amount of money financed for the loan.
Mortgages that are “public” or backed by governmental agencies such as FHA or VA loans are not eligible for PMI. Instead, these loans leverage equivalent insurance to PMI that is managed in a slightly different manner. For example, VA and FHA loans will continue to require the insurance equivalent or fee to be paid well past the point of the LTV dropping below the 80% threshold. Read more on our post about what is a private mortgage to get further insight into private lending in Ontario