When you take a loan, the bank can “sell” your loan to an investor. What does that process look like, and why would an investor want to buy loans?
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You take out a $100,000 loan that will accrue $10,000 in interest over the 10 years you pay it off. Essentially, you owe the bank $110,000 for the $100,000 they loaned you.
**The bank makes $10,000 in profit from the loan.**
The bank doesn’t want to wait 10 years to get their full return. 4 years into the 10 year loan and after collecting $4,000 in interest, they say to an investor ‘hey, we’ll sell you the remainder of this loan for $4,000.’ Which essentially means the investor is now entitled to receive the interest payments on the loan instead of the bank for the remainder of the term.
So instead of a $10,000 return over 10 years, the bank gets $4,000 from interest payments and another $4,000 from the investor. The investor then collects the remaining $6,000 in interest that has to be paid, a 50% return on the $4,000 they bought it for.
In the end, the bank profits $8,000 ($4,000 interest + $4,000 from investor), and the investor profits the other $2,000 (bought the loan for $4,000 and collected $6,000 in interest), totalling the $10,000 in interest the borrower had to pay.
‘Selling a loan’ is just a way to get a return faster (as the lender), but the return will always be less than if you just collected the rest of the interest payments.
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