Notes sell for less than the balance because the buyer is paying today for money that arrives over years, carries the risk that it stops arriving, and needs a higher return than your note’s interest rate provides. The price drops until all of that is covered.
The balance is owed later, and the price is paid now
It feels as if a note with $129,400 owed on it should be worth $129,400, and the payer does owe that amount. They owe it in monthly pieces over many years, though, while the buyer hands you a single check at closing.
Money you have now can be put to work. Money you will receive in ten years cannot, until it arrives, so anyone asked to swap cash today for payments later will want to be paid for the wait. This is the time value of money, and it applies to bank loans and bonds as much as to private notes.
The buyer is waiting
Your note already pays for waiting, since that is what the interest is. A buyer who was happy with the rate your note pays could hand you the full balance and earn that rate, exactly as you do now. A buyer who wants more than that rate has to pay less than the balance to get it, and the next two sections are why they want more.
The buyer takes over your risk
When you sell, every risk you carry today moves to the buyer:
- The payer loses a job and stops paying.
- The property loses value, burns or is neglected.
- Taxes go unpaid and a tax lien moves ahead of the note.
- A flaw in the documents surfaces when the buyer tries to enforce them.
- Recovering the property takes a long time and costs legal fees.
A lender with a large book of loans can absorb one that goes bad. A buyer holding a single private note has nothing to spread the loss across, so the compensation has to come through a higher return, and the more of these risks your note shows, the higher the return they ask for.
The buyer has other places to put the money
The same cash could go into investments that are easier to sell and take less work. A private note cannot be sold in a day, and it needs servicing, record keeping and the occasional phone call to a late payer. To choose your note over the alternatives, the buyer needs to earn more than those alternatives pay.
How all of this becomes a number
The buyer rolls the wait, the risk and the alternatives into one figure, the yield, which is the yearly return they need. Then they find the price at which your payments deliver it.
| If the buyer needs a yield that is | The price will be |
|---|---|
| Equal to your note’s rate | Equal to the balance |
| Higher than your note’s rate | Below the balance |
| Lower than your note’s rate | Above the balance |
A note whose rate sits below the buyer’s yield lands in the middle row. In our illustrative example, a 6% note with about $129,400 owed, paying $1,140 a month for 168 more months, sells for $115,000 to a buyer who needs 8%. The $14,400 shortfall is the note discount. It is what a two-point gap in return adds up to over 14 years, and no part of it is a fee.
Illustrative example. The yield a real buyer asks for depends on the note, the payer and the property.
The step-by-step math is in how note buyers calculate a price.
Does this mean selling is a bad deal?
It means selling has a cost, and you should know it before you decide. Asking for a price on your note puts a dollar figure on that cost and commits you to nothing. You are trading a larger sum spread over years, with risk attached, for a smaller sum that is certain and in your hands. For someone who needs the money, is worried about the payer or is settling an estate, that trade can be the right one. For someone who needs nothing and has a reliable payer, it has much less to offer, and holding the note to the last payment is the plainest way to get full value for it.
The question to put to a buyer
Since the gap comes from the buyer’s yield, ask for that yield, and ask what about your note pushed it above your rate. An answer that names the payment record, the equity or the documents tells you what you could improve. An answer about the buyer’s own cost of money tells you to try a different buyer.
Set whichever answer you get beside the factors in the guide to what your note is worth. Some of them, such as proof of payments, are yours to improve before you sell, and others, such as the rate on the note, were settled the day it was signed.
Related questions
Is the buyer making the difference between the balance and the price as profit?
Not as a lump sum. The buyer earns a return over time as the payments come in, and only if they keep coming. If the payer defaults, a buyer can lose money even on a note bought below its balance.
Would a bank pay the full balance for my note?
Whoever buys a single seller-financed note, a bank included, has to price the wait and the risk of holding one loan, so the answer would be the same. In practice these notes are bought by private investors and specialist note buyers.
Why does my note sell for less when the payer has never missed a payment?
A perfect record lowers the risk part of the price, which helps. It does not remove the wait, and a buyer who needs a return above the rate on the note still has to pay less than the balance to earn it.