Foreclosure Facts: Foreclosure from the 2nd Position
One of the biggest misconceptions about 2nd mortgages is foreclosure. Foreclosing from the position of a 2nd mortgage or foreclosing from ANY secured lien position for that matter is totally possible. After attending this year's "Noteworthy" event in Las Vegas, NV, arguably one of the largest note conferences in the U.S. I was actually shocked at the number of people who didn't realize that you can foreclose from 2nd position (or 3rd, 4th, 5th, and so on and so forth). In fact, many of the note buyers at the conference (especially those who deal specifically in first mortgages) found 2nds to be unappealing and refused to work them because of this misconception. If people in the note business don't realize this small fact, it really helps to explain why borrowers don't believe this is possible as well.
Our company, PPR, specializes in buying delinquent second mortgages nationwide and it's nothing short of amazing sometimes that homeowners are adamant that as long as they're paying their first mortgage that they can't lose their home to foreclosure. Nothing could be further from the truth. Once the legal process gets moving they usually start to realize that yes indeed they can lose their home to a junior-lien holder. *Just a little disclaimer, PPR initiates foreclosure on about half the loans we buy (mostly as a tactic to initiate borrower contact), but we ACTUALLY foreclose on less than 10%. We're in the business of getting workouts with borrowers and keeping them in their home, not foreclosure.*
The second biggest misconception is that the junior-lien holder has to pay off the senior liens. This is not true either. If we foreclose from the second position, we would get a sheriff's deed "subject to" the senior lien. The senior lien doesn't go away, but we would have to deal with them if they started to foreclose against us. In most states we have reinstatement rights and can often just bring the loan current until we can liquidate or lease out the property. If we sold the property we would pay them at that time. We also have the ability to try to buyout their position, possibly at a discount or to do a short sale, with or without the homeowner's authorization.
The third misconception is that the junior-lien holder will not foreclose if the property is upside down (This is where the borrower owes more than the property is worth). Many times we foreclose on upside down properties because their could be tax advantages to taking the loss or we could have a senior lien payment that is less than current market rent. In this case we would take title through a sheriff's deed, the Homeowner would relinquish the property and we would rent it out for more than the payment is on the first. Many times we get a workout with the Homeowner post-sale as well. Sometimes we also get more creative and do a rent-to-own or owner financing with a wrap-around mortgage. These techniques are a little advanced, but as you can see there's more here than meets the eye. Now this question is to you potential 2nd mortgage investor, now that you see you can control the short sale or take back the property "subject-to" for a small investment, do 2nd mortgages sound more appealing? And remember these are just some of the techniques that you can use in the less than 10% foreclosure rate, imagine the profitable win-win scenario you could create with a workout with the Homeowner!
Comments (5)
If you buy a non-performing 2nd and shortly thereafter the 1st begins foreclosure, are they obligated to pay off the balance of the 2nd before assuming title of the property when foreclosure is completed?
Aaron Fittery, about 10 years ago
K. Marie Poe You are right, this is about to get technical, they are two parts to your answer and I'll try my best to answer them below. BUT when buying institutional 2nd mortgages, what I discuss below happens on less than 1% on the notes that we buy/sell. 1.) You are absolutely correct on a due-on-sale clause, the senior lien COULD call the loan and you should always have a Plan B prior to completing foreclosure (and in our world we always have a Plan B before doing so). Before we talk about our Plan B, lets talk about the odds of the bank calling the loan and why they would or would not do so: - If we weren't paying the first (and we usually do not...and I'll explain why below) the senior lien COULD eventually foreclose - in fact I know of one note that hasn't foreclosed yet after 3 years and it's been renting out for $2500 a month without paying a cent to the first. If we reinstated the first and started making payments it would be considered a performing asset on the senior lien's books. If they called that loan and it went into default it would become a non-performing asset where they would have to deal with regulators and put capital in reserves that they would not be able to lend out to consumers or use (aka they can't make money on said capital). - In the last 6 years of owning thousands of loans, I've only had one loan called because the senior lien knew the borrower was deceased. So in that case we paid off the senior lien and sold the property. As for our Plan B: - We always have a Plan B but it's extremely rare that we pay the bank in full, as a secured second lien holder we normally have reinstatement rights to protect our interest. If we can't get a workout with the Homeowner pre or post-sale, typically we will bring the loan current, then rent it out or sell the property before the senior lien has a chance to foreclose. Paying the senior lien in full isn't the best use of our capital, we'd prefer to use that money to buy more 2nd mortgages with bigger discounts and higher yields rather than paying off a senior lien. We will on occasion attempt to buy the senior lien at a discount (and I've even bought a deed on a 1st lien post-sale, after they foreclosed) but again it's not the best use of our money. If for some reason you are able to purchase the senior lien, check title or purchase from a subsidiary entity so you could foreclose against yourself to eliminate any junior liens. So here's the hierarchy of our pecking order, so before I would pay a senior lien in full I would try to do the following things: a discounted reinstatement plan with the senior lien, I would try a discounted payoff or purchase of the senior lien, or I would try a short sale after I took the deed. I will try anything to not pay them in full. 2.) In reference to a borrower authorization, it is always easier to complete a short sale with an authorization whether you have the deed or not. Without a borrower authorization, after foreclosure from the 2nd position we've had the best success by listing the property with a licensed Realtor (banks prefer licensed professionals) and having the Realtor submit a short sale offer along with a copy of our deed proving our ownership. If there is any resistance we get our legal counsel involved. This should increase the odds of successfully getting your short sale accepted. **There are two ways to exit a note deal - one is through the borrower and one is through the property. When dealing with 2nd liens in this market, we ALWAYS prefer to exit the deal through the borrower and create a win-win instead of exiting through the property.** Best, Dave
Dave Van Horn, over 11 years ago
Great info. Thanks Dave.
Alberto Artasanchez, over 11 years ago
Wow. I had no idea that investors were so misinformed on junior liens. I expect that from consumers, but not investors. It might be technical, but foreclosing on a junior lien and taking a property subject-to the senior lien is not one of the transfer exemptions in Garn-St. Germaine and does expose you to the due-on-sale clause. A lender is in their right to call their loan due if you get ownership via foreclosure. We're not seeing it often these days because of lack of equity for so many borrowers. Regardless, due-on-sale is real and there should always be a Plan B for paying the loan in full. You mention working a short sale with or without the owner's permission. Have you worked a short pay without borrower authorization with a major lender on a property you bought via foreclosure? In the foreclosure environment since the Bubble? The lender is not required to work with you. I own one such property now and got nowhere with the lender. Faxed them deeds, made demands through escrow. After 4 months, I finally went to the borrower and got an authorization to release and now the lender is working with me. I'm very curious how many of these you have done and in what states. Thanks for such an interesting post.
Account Closed, over 11 years ago
Dave, I'm guilty of all of these misconceptions. Thanks for the info.
Al Williamson, over 11 years ago