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Article by John D. Behle

From Wraps To Riches

ONE OF THE greatest opportunities you may ever see is presently staring you in the face. With the mortgage rates lowering, this is the perfect time to refinance loans that have high interest rates. I know that may not be shocking news to you, but here's an interesting twist.

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
WRAP LOAN $50,000.00 $476.16 11%  360
FIRST LOAN  $30,000.00  $250.93 8% 240
SECOND LOAN $10,000.00 $161.04 18% 180

---------------------------------------------------------
DIFFERENCE $10,000.00 (wrap equity)

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
WRAP LOAN $50,000.00   $476.16 11%  360
FIRST LOAN  $40,000.00     $336.34 9.5% 360
SECOND LOAN (none)      

---------------------------------------------------------
DIFFERENCE $10,000.00 $139.82/mo.  for 360 mo.

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
WRAP LOAN $50,000.00 $476.16 11%  360
FIRST LOAN  $30,000.00 $250.93 8% 240
SECOND LOAN $10,000.00 $223.41 15% 66

---------------------------------------------------------
DIFFERENCE $10,000.00 (wrap equity)

Loan Amount Payment Rate  Months
WRAP LOAN $50,000.00 $476.16 11%  360
FIRST LOAN  $30,000.00  $250.93 8% 240
NEW SECOND LOAN $10,000.00 $139.66 15% 180

---------------------------------------------------------
DIFFERENCE $10,000.00 (wrap equity)

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. One student made $17,000 in two weeks using this principle.

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.

2000 Cashflow Specialists. All rights reserved.

John D. Behle, is one of the premier educators and practitioners in the field of "Real Estate Paper". John has an extensive background in consulting and coaching. In addition to the original "The Paper Game" book published in 1982, he is the author of 7 other books, several home study courses and over 200 nationally published magazine and newsletter articles on paper investment. You can visit him on the web at www.papergame.com.
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