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Tips for Creating a Seller Carry-back Real Estate Note

You need specialized knowledge in order to structure a note and deed of trust properly. Use standard forms, or have escrow prepare the docs, and have them reviewed by an attorney.  This should be done within the same escrow that is used to sell the house.  If properly structured, it will result in a note which is a valuable asset that can be sold for cash.

1.      First and foremost, the note must be salable. There are many technicalities that can render such a note unsalable or less valuable.

2.      The note must be made payable to you followed by “or order” or “or bearer”

3.      Negotiable instrument - In preparing the actual language of the note, it should be a “negotiable instrument” whenever possible, otherwise it will have little or no value.  

·        The first rule of negotiability is that the note must include an exact date when the note is due (such as December 31, 2007). Not an event such as "when the house sells," or "upon better financing."

·        The next rule of negotiability is that the note must be written so that it is not governed by or subject to any other agreements, terms, conditions or events. In a divorce situation, it is a common practice to write the note governed by or subject to the dissolution agreement. If the note is written subject to or governed by any other document, it will make the note non-negotiable.

·        It is particularly important to avoid making the note subject to claims, modifications, or offsets of the wife. The most common problems include to give the borrower first right of refusal to buy the note at a discount if the note owner wants to sell it. If the note is written subject to any claims, modifications or offsets, the note will not be a negotiable instrument and will have little or no cash value.

·        If a specific case requires creation of a non-negotiable instrument, the note will most likely be unsalable, but in some circumstances may still be salable, but for a much lower price.

4.      Terms of the Note You should also know how to create a note that can bring the highest cash price. Keep in mind these three principles based on the time value of money: A note is worth more if:

·        1) it has monthly payments instead of just one lump sum;

·        2) it has a short term to the payoff date; and

·        3) It has a high interest rate.

If the note can be created with a term of no more than five years, it will typically bring a higher cash price than one with a longer term.

5.      It is also more valuable if it has a late payment penalty, to discourage late payments and/or if it has a prepayment penalty to discourage early payoff. A prepayment penalty is most useful if the interest rate is higher than normal.

6.      The higher the interest rate on the note, the higher the cash price will be. A note with no interest may bring a quicker sale of the property, but it will result in a deep discount in the event the note must be sold. Seller financed notes are not subject to usury and thus there is no legal maximum interest rate (at least not in CA), however practicality dictates that a reasonable interest rate be used to facilitate the sale of the property.

7.      Due on Sale Clause - should be in the note.

8.      Power of Sale Clause - should be in the note and deed of trust / mortgage, especially if your state allows non-judicial foreclosure (like CA).

9.   Subordination Agreement – this is more common in land sold for development, and reduces the value of a note, avoid it if possible.

10. Title Insurance - The new property owner should get an owner's policy and seller a mortgagee's policy. This is an added expense, but it is a vital protection for each party, and makes selling the note easier.

11. Hazard/Fire Insurance - The note owner should be named as the loss payee on the policy.

12. All parties who will be listed on the new deed to the property must be listed on the note and deed of trust / mortgage.

13. The deed of trust / mortgage must be notarized and recorded promptly (preferable in escrow at closing) along with the deed, in order to properly secure the note.

14. Of course, it is imperative that the creation of a note should be reviewed by an attorney, to ensure the house is deeded properly and the loan is structured properly.

This information can be useful to:

Note Holders, Note Buyers, Home Sellers, Attorneys, Accountants, Financial Advisors, Real Estate Agents, Business Brokers.


I am not an attorney, laws vary from state to state, and any legal advice implied by this paper should be checked with an attorney.

About the Author:

I am a real estate broker licensed in the State of California as well as an investor of real estate and debt instruments. We buy real estate notes and real estate contracts nationwide and make private and hard money loans on real estate in California.

I hope you find this information useful, feel free to contact me with any feedback, or if you are contemplating selling your note.

-James MacArthur

JMAC Funding
PO Box 91472, San Diego, CA  92169
(619) 846-1550 voice
(815) 572-5600 fax
©Copyright 2006 JMAC Funding

Licensed by the California Department of Real Estate, DRE# 01440161