If you hold a mortgage, either a first or a second mortgage, you have rights against the property owner in case he defaults on his payments to you.
In Michigan if you hold a "land contract" you are the owner of the property, not the one living in the house who owes you the money. Since the property is technically yours, it is legally much easier for you to get the debtor off the property if he defaults. The law gives the debtor 90 days in which to pay off the property if you, the investor, bring the default to court. If the debtor does not pay you, you secure a writ of possession and then sell the property. Only if the debtor has paid off over one-half the purchase price can the procedure of eviction take more time than this. In this event the debtor is given six months to redeem his property instead of 90 days.
Although the nominal rate of interest is 6 percent, land contracts are sold at a discount like second mortgages so that the actual yield can be as high as 20 percent. The holder of the land contract is at least nominally the owner of the property and it is he who is responsible for the first mortgage. Sometimes he gets a mortgage on the property himself, and sometimes the land contract is purchased by him with an already existing mortgage on it. When he takes over the property, however, he is responsible for the mortgage and must pay on it.
Although the nominal rate of interest is 6 percent, the discount is the thing that raises the real yield to high levels.
Only a few states have land contracts, and since investors obviously come from other states, a great service is performed by land contract servicing organizations which screen out the best of all land contracts offered to them, examine them and offer them to investors. They collect on them for the very reasonable fee of one-half of 1 percent per year.
A most important question to be answered in connection with land contracts or mortgages which are sold at discount is, "Since the nominal rate of interest is usually only 6 percent and rarely over 8 percent, and since effective rates of 12 percent, 15 percent, 18 percent or more are achieved through the discount at which the mortgage is sold, what determines the size of this discount?"
The over-all answer to this question is, "The more risky the investment the greater the discount as a general rule" The discount is greater if:
1. The mortgage or land contract has a longer time to run. Since you determine the effective rate by dividing the discount over the life of the mortgage, a 40 percent discount on a four year mortgage amounts to 10 percent yearly (40 divided by four years), but a 40 percent discount on an eight year mortgage amounts to 5 percent per year (40 divided by 8).
2. The contract is just starting so that there is no experience on how well the debtor pays and he has not increased his equity through payments.
3. The equity is a low percentage of the value of the home.
4. The first mortgage is a high percentage of the value of the home.
5. The second mortgage or land contract is a high percentage of the value of the home.
6. The home is in run-down condition.
7. The home is not located in the city or in a suburb, or is in a poor neighborhood or in one, which is declining.
8. The buyer of the home has a poor credit record.
Being a mortgage owner has advantages and disadvantages, but it can be highly lucrative as a source of steady monthly income. If you have the capital to loan and you check your potential mortgage holders' credit history, you could find that owning several mortgages is a good way to increase your income.