Many people wonder where the money comes from to originate mortgage loans. How do banks and lenders have a seemingly unlimited supply of money to loan for the next 30 years?
Well, the short story is that the money comes from Wall Street. Banks do not have piles of money sitting in their vault just lying around until borrowers come in to ask for it. For every real estate loan that banks finance, one of two things happen – they retain and service the loan, or they sell the loan on the open market.
Banks originate two types of mortgages. They are known as “saleable” and “portfolio” loans. Saleable loans are those scheduled to be sold off to investors on Wall Street in the form of “mortgage-backed securities.” These saleable loans are typically adjustable rate mortgages or subprime loans, but ideally, a mortgage securitization trust will consist of a balanced mix of both low-risk and high-risk notes. Loans that have fixed rates, well-qualified borrowers, and low loan-to-value ratios are considered low-risk and are deemed a portfolio loan. Banks may choose to hold on to these types of loans, making money off of the servicing and the interest earned.
While the market has dramatically changed since the financial crisis of 2008, the system to replenish money within the mortgage industry has pretty much stayed the same. Lenders and brokers originate loans based on program guidelines and sell those loans to secondary market investors. The investors in these securities are primarily made up of investment trusts or institutional financial companies. Loans that meet certain requirements may also be purchased by government-backed agencies such as Freddie Mac, Fannie Mae, or Ginnie Mae, who hold and service them.
Private Hard Money Lenders in California or Investment trusts operate as aggregators of loans. They create a securitization trust that then “pools” hundreds of loans, sometimes with diverse underwriting criteria, to create an investment rated security. This pooling helps mitigate risk and provides a good rate of return to individual investors. The loan pools, or trusts, are assigned to investment firms who hold and service the account on behalf of the investors. The investors in mortgage-backed securities usually earn a rate of return that is far higher than that of traditional government or money market bonds, making them in high demand.
The secondary market pools loans in securitization trusts and offers them for purchase to Wall Street investment firms. Individual certificates for the trust, similar to stock certificates, are sold to institutions or individual investors. This provides for the capital supply to be replenished for banks and other lending institutions that have established credit lines, and as the cycle continues, that money goes back into the economy in the form of new mortgages.
Hard Money Lenders and Hard Money Brokers depend on the secondary market to purchase the loans they originate so they can continue uninterrupted lending operations. With the new rules and regulations established under Dodd-Frank, individual errors or omissions in loan documentation can cause a closed loan to become “unpurchasable,” leading to the inability to offload the loan to investors. When this happens, it reduces the amount of capital that is available to go back into mortgage lending. Besides the risk of carrying excessive mortgage debt, if a bank or lender gets caught with too many loans on their books, they may not be able to continue operations until those loans are remedied and sold.
The buying and selling of California Hard Money Loans (securities) is known as “mortgage banking” and is the backbone that keeps the mortgage industry humming along. Ensuring this market continues to operate normally, through common sense oversight and regulation, is vital to maintaining a reliable mortgage industry.
Author Learn more about the author, Melissa Martorella by reading her bio.
Dennis Dahlberg Broker/RI/CEO/MLO
Level 4 Funding LLC Private Hard Money Lender
Arizona Tel: (623) 582-4444
Texas Tel: (512) 516-1177
Dennis@level4funding.com NMLS 1057378 | AZMB 0923961 | MLO 1057378
22601 N 19th Ave Suite 112 | Phoenix | AZ | 85027
111 Congress Ave |Austin | Texas | 78701
About the Author: Dennis has been working in the real estate industry in some capacity for the last 40 years. He purchased his first property when he was just 18 years old. He quickly learned about the amazing investment opportunities provided by trust deed investing and hard money loans. His desire to help others make money in real estate investing led him to specialize in alternative funding for real estate investors who may have trouble getting a traditional bank loan. Dennis is passionate about alternative funding sources and sharing his knowledge with others to help make their dreams come true. Dennis has been married to his wonderful wife for 42 years. They have 2 beautiful daughters 5 amazing grandchildren. Dennis has been an Arizona resident for the past 40 years.