Should Loan Notes Form Part of a Fixed Rate Income?

Loan notes have the potential to be a lucrative high-interest investment vehicle for new and established investors alike. Like all investment options, however, loan notes are not risk-free and should only be entered into after conducting an in-depth risk assessment.

How Does Fixed Rate Income work?

Fixed rate income can be generated by purchasing an interest-bearing promissory note, also known as a loan note. Though similar to a traditional IOU in many ways, loan notes differ in the fact that they constitute legally binding contracts.

Put simply, the investor is the lender who offers an agreed amount of capital to the borrower, i.e. the party that purchases the loan note. For the duration of the agreement, anything from 1 to 5 years, a borrower pays an agreed amount of interest (yield) directly to the investor.

As both the duration of the agreement and the interest rate are fixed, the investor benefits from a continuous and predictable source of fixed rate income. At the end of the agreed period, the full sum of the initial loan (the price of the loan note) is repaid to the investor.

Though there are many different types of loan notes, these basic principles apply in all instances.

How Do Property Loan Notes Generate Income?

Income is generated by a property loan note through regular interest payments at a fixed rate of interest. All interest the investor receives throughout the course of the loan agreement is pure profit, which may be complemented by additional perks and privileges organisations sometimes offer their largest investors.

The rate of interest payable on the loan is referred to as the ‘yield’ and this is the profit generated by the investment. The interest rate is fixed, and interest payments are received on a regular basis, monthly, quarterly, six months, annually or as agreed, for the life of the loan agreement.

Property Loan Notes in Context

In a typical working example, a construction company could be planning an ambitious property development project and needs an affordable funding source. Having been offered some of the total project costs by a major bank or lender, they are left with a gap in their finances to fill.

The developer subsequently issues loan notes to investors, either to the full value of the project or the value of the supplementary funds needed to top-up their existing loan (or development finance deal). The loan note is secured on the property and/or the land itself, or other assets, which means that in the event of non-repayment the investor is entitled to take legal ownership of the asset.

When the terms and conditions of the loan note have been established and agreed upon, the contract is signed and the investor ‘purchases’ the loan note for the agreed amount. For the duration of the loan period, the development company pays a fixed rate of interest to the investor on a regular basis.

At the end of the loan agreement, i.e. when it reaches ‘maturity’, the developer repays the initial balance of the loan (the price of the property loan note) in full.

Learn More About Property Loan Notes

If you are interested in investing in property loan notes but have no prior experience with such investment vehicles, seeking independent expert advice at the earliest possible stage is essential. Along with building a detailed understanding of potential pros and cons of loan notes, professional consultancy will also help you establish your suitability and eligibility for these types of investments.

Contact a member of the team at UK Best Investments anytime to book your obligation-free initial consultation.