Commercial Real Estate

How Bankruptcies affect your Note Investment

54 Articles Written

Just the word alone sends shivers down my veins, bankruptcy! I have seen many lives changed forever by a bankruptcy, and while I have never had to declare bankruptcy, I have owned some note investments where the homeowner has declared bankruptcy and thankfully because all of my note investments are secured by a tangible asset – real estate, it is treated differently than if my note investments were unsecured.

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Secured debt is unlike unsecured debt in the two bankruptcy filings, especially real estate. Recently I had two note investments that were in the mortgage note forfeiture proceeding. Waiting for the hearing and ruling took time and in exchange my investment sat stale for a few months. No cash flow, and the realization that I would have to be prepared to take over a property, put some rehab into it and resell it on contract. Trust me this is not a bad thing, contrary to what most note investors think, in many cases your note overall return goes up. Yet, while I was calculating how much more I would earn with a newly originated note, I received word from my attorney that the homeowner/note payer had filed for Chapter 13 bankruptcy and it was going to take some time for the case to get in front of a judge to determine what to do. Flash forward a bit and the court grants bankruptcy to the homeowner but because my investment is secured by the residence the court arranges the mortgage monthly payments to be sent to me automatically on time every month going forward for the next 60 months. Furthermore, the court decided to send additional monthly payments above the required monthly mortgage payments to catch-up on the payments that were in arrears.

The second case of bankruptcy I recently ran into with one of my investments was again a mortgage investment that was in forfeiture. This result though was quite different. As it turns out the homeowner used a bankruptcy filing as a stall tactic to drag out the forfeiture process. When they filed for bankruptcy the courts ruled that our forfeiture proceeding would be put on hold until the bankruptcy case was heard. When the court date arrived the judge dismissed the bankruptcy attempt as this was not their first time filing for bankruptcy. The result is that our forfeiture process is still going on. The note investment and the property secured by the investment are not providing any cash flow or returns until the court finalizes their decision.

I wanted to share both examples with you knowing that the result of homeowners filing for bankruptcy can have a positive or negative effect on your note investment.

Photo Courtesy: Fried Dough

    Joel Owens
    Replied over 7 years ago
    Hey Kevin, The actual stats is about 90% of chapter 13 bankruptcies will never finish the plan.Some might last a few months and some might last a few years before pooping out. Very few cases make it to being fully discharged from the bankruptcy.Most are dismissed sometime during the plan.Usually as the lender you have 2 options.The borrower rarely can afford to make the bankruptcy payment and the regular payment.One of the two they will fall behind on and that’s when you file as the lender to release the automatic stay so you can foreclose and take the property back. Unless a borrower had just a temporary setback if they couldn’t pay the monthly mortgage before they sure can’t pay it now in addition to the BK payment with your arrearages included.