What are Mortgage Bonds?

Definition of Mortgage bonds

Mortgage bonds, if explained in simple terms are very much like IOUs. IOUs, an abbreviation of ‘I Owe You”, are agreements which are legally binding between the borrower and a lender. The loan which transpires between the borrower and lender is stated in the loan contract, and its legal requirements and terms, clearly written in black and white on the contract.

Once the contract is signed, it becomes legally biding. Both, the borrower and lender must abide to the term and requirements stated in the contract. This concept applies for the mortgage bonds as well.

What are mortgage bonds? This still leaves that concept unclear. Mortgage bonds though similar to IOUs, are different in their own way. Bonds which are secured by mortgages on assets, it may either be equipment, vehicles or properties. In default circumstances, the mortgage bondholders acquire the mortgaged property from mortgage contract holders, and if chose to, may sell it to make up for the default.

The investors, in this instance would be the larger financial institutions who provide the funds, would receive a sense of comfort in acquiring mortgage bonds as they is security which is provided with them. If loans cannot be financed, the larger financial institutions may sell off the securitized asset to recover the debt. This explains what mortgage bonds are.

How does a mortgage bond arise

When a purchaser purchases a house, or any other assets, he must first borrow funds from a financial institution to aid him in funding the asset purchased. In order to borrow the funds, the purchaser must acknowledge and participate in a legally binding contract which states that he will pay the value of the loan, including the interest incurred on the loan, which is a percentage of the loan paid by the purchaser every month, by a specific given time frame. Most mortgage payments have a life span of fifteen to thirty years. These mortgage payments are rendered on a monthly basis.

In many cases, smaller financial institutions are not able to fund the loans they promise to give. In these cases, the smaller financial institutions seek aid from larger financial institutions. The smaller financial institutions will offer mortgage contracts signed between them and the borrower, in a package which consist of a few mortgage contracts.

The larger financial institutions will then issue a mortgage bond. In a mortgage bond, the larger financial institutions take over the mortgage contracts from the smaller financial institutions and in turn own the mortgage contracts. The larger financial institutions not only own the contracts but also the right to receive all the monthly payments being made by the borrowers.

A mortgage bond helps both the smaller and larger financial institutions. It aids the smaller financial institutions by providing them with the finds they need and it aids the larger financial institutions by giving them extra money by receiving all the monthly payments rendered by the borrowers. A mortgage bond brings only profit to both the smaller and larger financial institutions. It proves to be a win-win scenario for all the parties involved in the process of the mortgage bond.

http://www.investopedia.com/terms/m/mortgage_bond.asp
http://www.wisegeek.com/what-is-a-mortgage-bond.htm
http://en.wikipedia.org/wiki/Mortgage-backed_security