Much of what I do relates to private lending – rather than setting up mortgages for banks. So I suppose it is only natural that many people I speak with ask me about lending money with private mortgages. “How much money do you make on a private mortgage?” “Is it hard to set up?” “Are they a safe investment?”
Investing in mortgages is probably “harder to set up” than investing in stocks. There is work finding the people who wish to borrow. There is effort in analyzing the borrowers’ situation to see if you wish to invest. There are documents to review, lawyers to deal with, property appraisals to review. Sometimes borrowers do not make the payments so you would have to deal with that. So there is considerably more work than investing in stocks.
As to how much money you would potentially make on private mortgages – that depends on the deals you choose to fund, as well as the general (competitive) marketplace. Many private lenders I deal with earn somewhere around 10% rate of interest on their second mortgages, and an 8% rate of interest on their first mortgages. It can vary a little bit with the particular deal and the risk involved.
With respect to whether they are “safe” – I think that really depends on the deals you choose to fund. The borrowers’ specific situation, the types of properties you lend on, the loan to value, whether there are mortgage or property tax arrears, consumer proposals, judgements, liens, septic or city sewer, well or city water – all of these must be considered. Having a straight-shooter broker (like me) bringing you the deals certainly helps, as you receive solid information rather than rubbish.
To answer the “safe” question – as long as you have considered all the possibilities and covered your contingencies, in my opinion private mortgages can be a very “safe” investment.
But for me personally – Canadian dividend stocks are a superior investment in many ways to private mortgages. Many private lenders argue this point with me, but perhaps they are not familiar with dividend stocks like I am familiar with private mortgages?
In my world of dividend stocks, I earn about 12% per year – and I am obtaining that return from dividends which are lightly taxed, and stock price appreciation which is taxed at capital gains tax rates, from companies that have been in business for 100 years, and have never missed a dividend payment in 50 years.
Further, I only own about 20 different stocks, and these never change – so I do not need to spend hours reviewing each transaction.
Further, all my money stays invested – there is never any sitting on the sidelines waiting for the next mortgage deal.
Further, I invest in stocks with a click of my mouse – so I do not need to have all manner of communications with lawyers and mortgage brokers.
Perhaps the biggest disadvantage of investing in private mortgages is that they are not liquid. If you need money quickly, the mortgage cannot be converted to cash quickly, easily, cheaply. This is because nearly all private mortgages are for a 1-year term, and cannot be ended prior by the lender unless the mortgage is sold to another investor. In many cases, you would take a capital loss – perhaps a major capital loss – converting the mortgage to cash before it matures. This contrasts to a dividend stock portfolio, where I can generate as much cash as necessary by clicking my mouse and selling a few shares.
So seeing all the advantages of dividend stocks as compared to mortgages, why do people engage in private lending?
In many cases, mortgage investors lost money in stocks previously, so they wish a secured investment. If this fear is your reason, then that certainly seems reasonable.
In other cases, mortgage investors believe the returns they receive via private mortgages are higher than they would receive in the stock market. On this, I would have to disagree, once income taxes are taken into consideration.
Personally, I think the main reason to have some private mortgages is diversification. Once you own a significant amount of stocks, private mortgages can act as another asset class to better round out your investments. In bad economic times, a private lender may find his mortgage investments do not lose value like the stock market. Yet unlike “bonds”, which are often used as a similar store of value, private mortgages should continue to pay a high yield, regardless of what the stock market is doing.
So unless your stock portfolio is significant enough that you need more diversification – I think you should stick to stocks. But that is just my opinion. A great way to get started in dividend stocks is to use the BTSX Portfolio of Dr Stanley, of the Canadian Moneysaver Magazine. This is how I got started, and I have never regretted it.