Introduction: Understanding Present Value
For sellers holding a mortgage note, one of the most pressing questions is, "What is my note actually worth in cash today?" The answer is not simply the remaining principal balance. The value of your note is based on the concept of present value—the current worth of a future stream of income. A note buyer must discount those future payments to account for risk, inflation, and the cost of capital.
This guide will walk you through the fundamental calculation used to determine the present value of your note and then explore the key risk factors that determine the specific discount rate a note buyer will apply. Understanding this process will empower you to evaluate offers and make an informed decision when you decide to sell your note.
The Core Calculation: Time Value of Money
The foundational formula for valuing a note is the present value of an annuity. While it may look complex, the concept is simple: money in the future is worth less than money today. A note buyer is giving you a lump sum of cash now in exchange for your stream of future payments. To make a profit and cover their risk, they must purchase that stream of payments at a discount.
The Three Key Inputs:
- The Payment Amount (PMT): The fixed monthly payment you receive from the borrower.
- The Number of Payments (n): The number of remaining payments on the loan.
- The Discount Rate (i): This is the required rate of return, or "yield," that the note buyer wants to earn on their investment. This is the most critical and variable component of the calculation.
The Formula:
Present Value = PMT * [ (1 - (1 + i)^-n) / i ]
While you can use this formula in a financial calculator or a spreadsheet, what is more important is understanding how the inputs affect the final value. The higher the payment and the more payments there are, the higher the value. Conversely, the higher the discount rate (the note buyer's required return), the lower the present value.
Example Calculation
Let's say you have a note with a remaining balance of $100,000, a monthly payment of $877.57, and 240 payments remaining. A note buyer determines that, based on the risk profile of your note, they require a 10% annual return (the discount rate).
- PMT: $877.57
- n: 240
- i: 10% per year, or 0.833% per month
Plugging these numbers into the formula, the present value, or the cash offer for your note, would be approximately $89,825.
The Critical Factor: Determining the Discount Rate
As you can see, the discount rate is the most important variable in the valuation process. So, how does a note buyer determine the appropriate discount rate for your specific note? They conduct a thorough due diligence process and analyze a series of key risk factors. A low-risk note will command a low discount rate (and thus a higher cash offer), while a high-risk note will require a higher discount rate (and a lower cash offer).
Here are the primary factors that influence the discount rate:
| Factor | Description | Impact on Discount Rate |
|---|---|---|
| Loan-to-Value (LTV) | The ratio of the loan balance to the property's current value. | High Impact. A low LTV (e.g., 60%) means the borrower has significant equity, leading to a lower discount rate. A high LTV (e.g., 95%) is much riskier and requires a higher discount rate. |
| Borrower's Credit Score | The borrower's FICO score and credit history. | High Impact. A high credit score (720+) justifies a lower discount rate. A low credit score (<640) demands a higher discount rate. |
| Payment History | The borrower's track record of making payments on your note. | High Impact. A long history of on-time payments earns a lower discount rate. Any late payments will significantly increase the discount rate. |
| Interest Rate on the Note | The interest rate you are charging the borrower. | Medium Impact. A high interest rate on the note allows a lower discount rate while still achieving the desired yield. |
| Seasoning | How long the borrower has been making payments. | Medium Impact. A note with several years of consistent payments is considered "seasoned" and less risky. |
| Property Type | The type of property securing the note. | Medium Impact. Owner-occupied, single-family homes receive the lowest discount rate. Commercial properties or raw land will have a higher discount rate. |
Putting It All Together: A Tale of Two Notes
To see how these factors work in practice, let's compare two different notes.
Note A: The High-Quality Note
- LTV: 65%
- Borrower Credit: 740
- Payment History: 36 months, no late payments
- Property Type: Single-family, owner-occupied
- Resulting Discount Rate: 9%
Note B: The High-Risk Note
- LTV: 95%
- Borrower Credit: 610
- Payment History: 12 months, two late payments
- Property Type: Raw land
- Resulting Discount Rate: 14%
Even if both notes have the same remaining balance and interest rate, Note A will be worth significantly more in cash today because its low-risk profile commands a much lower discount rate from the note buyer.
Conclusion: It's More Than Just the Balance
The value of your mortgage note is a dynamic figure based on its unique risk characteristics. It is not a simple percentage of the remaining balance. By understanding the principles of present value and the key risk factors that note buyers analyze, you can get a realistic estimate of your note's worth and better evaluate the offers you receive.
The best way to know the true value of your note is to get a free, no-obligation quote from a reputable note buyer. At Note Buyers of America, our AI-powered platform analyzes all of these factors to provide you with a fair, transparent, and data-driven cash offer within 24 hours. This allows you to see exactly how a professional investor values your asset and make the best possible decision for your financial future.