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Crowd-Funding is NOT Some New-Fangled Concept

A Short History of Private Mortgage Notes

January 10, 2019

Private notes, secured by real estate, have been around for centuries. Sellers would carry back mortgages on the sale of their farms and homes, especially during times of tight money, when banks were nervous about an ongoing war or some banking crisis. Real estate brokers would buy and sell these mortgage notes, creating an informal market for them. After all, mortgage notes are negotiable instruments. They can be sold or even pledged as collateral for a loan.

Private mortgage notes, however, really became a huge business after President Nixon took the country off the gold standard in 1971. Inflation suddenly took off, and homes that had been purchased for just $20,000 quickly soared to $60,000 or more. Real estate brokers in California and New York began to make $5,000 to $40,000 second mortgages on people’s home using the funds of a single private investor. Therefore one homeowner would take out a second mortgage loan from a single private investor, the loan being arranged and serviced by the real estate broker. The second mortgage business took off like wildfire, and soon billions and billions of dollars worth of private second mortgages were created. 

Years later, the S&L Crisis hit. Real estate across the board fell by 45%. With little equity in their homes to protect, borrowers defaulted in droves. While most borrowers honorably continued to make their payments, a great many second mortgage holders found themselves forced to foreclose and to make the monthly payments on the underlying first mortgage. Ouch.

A piece of real estate with a negative cash flow is called an alligator, and these alligators ate the second mortgage investors alive. A great many of them ended up walking away from the negative cash flow and the underlying home with no equity. Ironically, most of these foreclosed homes returned to their former values and higher within three years; but at the bottom of a real estate crash, it's easy for an unfortunate investor to believe that a negative cash flow will continue forever. When the first mortgage lenders foreclosed, thousands of second mortgage investors were completely wiped out.

After second mortgage investors had lost billions of dollars - real money back in the early 1980’s - the second mortgage industry never returned to its former glory. By late 1983, real estate values were marching to new highs, and private investors were perfectly happy to make loans to sub-prime borrowers; but these battle-hardened private investors no longer wanted second mortgages. They would only invest in first mortgages.

This created a problem. Real estate had skyrocketed in value since 1971, and any first mortgage - especially in California and New York - had to be very large. Few investors were willing to invest $150,000 to $500,000 into a single hard money loan. You will hear dozens of different definitions of a hard money loan, but it's best to think of a hard money loan as a loan to a sub-prime borrower based primarily on the value of the collateral. If the borrower doesn’t pay, you simply take the property.

Hard money lenders - real estate brokers who find private investors to make sub-prime real estate loans - needed to be able able to raise much larger loan amounts, now that they were only making first mortgages. Some hard money lenders solved the problem by creating blind pools, like a mutual fund for hard money loans. In California, the powerful private money lobby convinced the State of California to allow real estate brokers to fractionalize large hard loans into ten smaller pieces. For example, a $500,000 hard money first mortgage might be split into ten participations (shares) of $50,000 each. Some well-heeled hard money brokers even obtained business plan permits from the State to fractionalize their loans among fifty or more investors, as long as the individual private investors were very well-qualified to take the risk (almost accredited).

The cooperation between the industry and the state regulators in California proved to be a boon for sub-prime borrowers, hard money lenders, and the state economy alike. The hard money investment business in California grew be an industry involving tens of billions of dollars. 

The Great Recession, like the S&L Crisis and Dot-Com Meltdown, was not kind to private mortgage investors. Too many of them had found themselves invested in large, residential land development loans, and when real estate fell by 45% and land fell by 85%, a great many of them suffered horrible losses. Unlike during the S&L Crisis, however, the losses were fortunately not 100% because they had invested in first mortgages, instead of second mortgages. My own hard money shop, Blackburne & Sons Realty Capital Corporation (est. 1980) fortunately avoided much but not all of this mayhem. We only made small first mortgages on standing commercial properties, as opposed to large land development loans. Fortunately most of our borrowers continued to pay, even though we were upside down on many of the loans.

But here’s the thing. For 70 years, in order to invest in a fractionalized first mortgage, you had to be a California resident. Whenever a hard money broker fractionalizes a first mortgage; i.e., he breaks it into bite size pieces, he creates a security. The SEC regulates securities sold across state lines, and until recently the SEC insisted that a hard money lender spend $600,000+ in legal and accounting fees to register each security. In other words, in order to sell a $500,000 hard money loan in pieces across state lines - maybe a wealthy Colorado resident wanted to take a $50,000 piece - the SEC wanted the hard money broker to spend $600,000 in legal and accounting fees to register the security! Are you nuts??? Bottom line: For seventy years, an out-of-state resident could not invest in a fractionalized first mortgage, even though California had possibly as many as one-hundred thousand mortgage investors.

When the Great Recession hit, the Federal government was desperate to jumpstart the economy. In 2009, President Obama therefore signed the JOBS Act, which stands for Jumpstart Our Business Start-ups. Suddenly sponsors - guys like me who syndicate investors - were allow to publicly advertise for investors nationwide and to syndicate them - as long as the investors were accredited. Accredited investor means that an investor’s net worth, exclusive of his home, vehicles, and furnishings, exceeded $1 million. Basically sponsors were allowed to assemble small syndicates, almost like tiny hedge funds, to invest in new businesses or to make first mortgage loans.

This means that if you reside in any state - be it Maine, Florida, or even Alaska - you can now invest in fractionalized (split up) first mortgages.

But here is what's throwing you off. It’s this new term called crowd-funding. Crowd-funding is just a fancy term, invented by some dot-com’ers on Wall Street, to describe the process of investing in fractionalized first mortgages. It’s nothing more. It’s the exact same thing that Blackburne & Sons has been doing here in California, under our California Business Plan Permit, for the last 39 years.

And if the idea of earning up to 12% interest in first mortgages - while investing as little as $5,000 - sounds good to you, I strongly urge to invest with Blackburne & Sons Realty Capital Corporation. We may be the only hard money shop to have survived the S&L Crisis, the Dot-Com Meltdown, and the Great Recession. Are you considering investing with a competitor? Just ask them, “Were you even in business in 2007?”

Warm Regards,

George Blackburne III, Esq.

Owner & President

Blackburne & Sons Realty Capital Corp.


4811 Chippendale Drive, Suite 101

Sacramento, CA 95841

P: (916) 338-3232

F: (916) 338-2328

CA DRE #829677

NMLS #103430


George graduated from law school with honors, and he is an attorney licensed in California and Indiana. He graduated from the University of Santa Clara with a BS in Finance and an MBA in Finance. He owns both Blackburne & Sons Realty Capital Corporation and C-Loans, Inc., the large commercial mortgage portal. He is also a California Real Estate Broker (License #00623143). 


Important Disclosures

Investing in first mortgages involves substantial risk. A severe and prolonged decline in real estate values is possible. Foreclosed property almost always needs substantial renovation, so be sure to maintain some liquidity. This is not an offer to sell securities. Such an offer is only made when accompanied by a Private Placement Memorandum.


Earn 12% Interest By Investing in First Trust Deeds


You probably have money set aside for your retirement and for the cost of college for your children and grandchildren. It shouldn't all be invested in the stock market. In California, the first trust deed investment business is huge. A recent law change - the JOBS Act - now allows accredited investors nationwide to also invest in these same first trust deeds and first mortgages.

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