A number of my students have asked me how they can borrow money from private lenders to get into some non-traditional types of investing. These types of investments include buying consumer credit card debt, car loans, distressed loans made by FDIC-insured banks that have gone out of business or gotten into financial difficulties, and various kinds of notes.
Of course, the first question that seems to come up is: how can they do this without securing their private lenders' money on a piece of property? The answer to that is the topic of this note. Traditionally, my students borrow money from private lenders and, in exchange, offer each private lender a promissory note, a mortgage, and follow my system in terms of putting hazard insurance on the properties they are buying with the money. They also have their private lenders send funds directly to a title company or closing agent.
But this new approach to investing is a different kind of investing and requires you to think differently and structure your deals differently. First of all, you're not borrowing money to invest in real estate, something you can secure their money on. When you're buying credit card debt, or car loans, or distressed FDIC loans or other notes, there isn't a street address you can go to or a register of deeds where you can record a mortgage. Often, these investments are pools of grouped-together debt, packaged by their sellers, and many times these pools include forms of debt from issuers that are based in different states. Sometimes, you're buying debt not from the original issuer but from an intermediary company that has repackaged the debt.
I've learned from my SEC attorney that these types of investments are structured as blind pools. According to a definition by Landmark Partners, a large private equity and real estate investment firm based in Connecticut and Massachusetts, a blind pool is:
When a limited partnership has been formed by several investors pooling their capital and then subsequently looks for investments; virtually all private equity funds, and the majority of private real estate funds, are blind pools.
Now, not all blind pools are limited partnerships; some are housed in LLCs or similar entities. And you can include all kinds of distressed debt into what they invest in. Essentially, a blind pool is simply a company that starts out targeting types of investments, but not necessarily knowing what particular investments they'll make. For example, you may not know what pools of debt will be available, at what price, who issued the debt, its potential risks and benefits, and yet you know you can analyze all this and come up with a business model that makes this a worthwhile investment business.