Hi everyone - first post here after visiting and reading the forum for several years. Looking for advice on a deal I'm already in on. I'll try to be as concise as possible. Loan is in the State of Texas. 18 months ago I refinanced a home for a neighbor and acquaintance facing foreclosure. I paid off the previous lender, and loaned the borrower approx. $95k on a house that I felt very confident would fetch $225k-$250k in a distressed sale or foreclosure. Interest rate 5%, 30 year amortization, 5 year balloon. Much more favorable than hard money rates in the area, and I realize now the predicament loaning $ to friends or neighbors put you in. That being said, I used real estate attorney in the area, the note is secured by a deed of trust, and I have the first and only lien. Loan to value ratio was a big part of the reason I did this, and the fact that two years ago, getting 5% for 5 years didn't seem too bad, especially with the equity cushion in the home. Surprise, we're 18 months into the loan and things aren't looking that great. Borrower has been late and behind multiple payments for the majority of the mortgage payments. Taxes aren't escrowed, and I had to pay the 2012 tax bill (a little over $5,000) in January 2013. Borrower is currently two months past due, one year of taxes past due, and doesn't have anything socked away for 2013 property taxes due in January 2014. I welcome all advice and suggestions moving forward. Before you criticize me on how bad of a loan this is, consider the following... -House directly across the street just sold for $400k (same sq. ft., though recently remodeled). -Neighborhood has had considerable price increases in the last year and houses are generally pending in under a week. -Current outstanding balance is a little over $100k on a house that I think would fetch $250k-$275k in a fire-sale situation. -Interest rate on overdue unpaid balance is 10%, compounded monthly. -If the previous 18 months are any indication, my guess is borrower does not have the means to make any progress on current overdue balance, and will add $6,000-$7,000 each year to the overdue balance (Tax payment of $5,500 and one or two missed monthly payments). -I'm in my early thirties, borrower is 57. For all practical purposes, this is sort of functioning as a reverse mortgage. For every missed mortgage or tax payment, borrower transfers equity in the home to lender. Questions for the people on the forum: 1. Should I just cut and run now? Borrower has shown no indication that he will be able to make timely payments. This will more than likely involve a foreclosure process. Things could get ugly, and I'm almost certain borrower would file bankruptcy if I foreclosed. What is the cutoff limit, in % terms, those of you who have experience in these types of situations, to start the process? Example, if house would get $275k in foreclosure, do I wait until unpaid balance is $150k?, $200k? This is before legal expenses. How much should I budget for legal expenses associated with the foreclosure process? 2. Or should I take the long-term approach? Any additional money that I pay (annual property taxes) gets added to matured unpaid principal balance at 10% and compounds monthly. Over the course of 5, 10, 20 years, there could be several hundred thousand dollars worth of equity in the home. 3. I speak with the borrower regularly and have talked with him about additional employment ideas, and have suggested he just sell the house. He would pocket anywhere from $150k-$200k on a sale depending on how much work he is willing to put into it. 4. When I first drafted the note, interest rates were historically low. There have been pretty substantial moves in the 10yr in the last several months. I'm glad this note has a 5 yr balloon, but should I push to increase the rate now if he wants to continue? Language of the note gives lender the sole discretion to extend for an additional year, each year after the first 5. I was thinking of amending the terms of the note to 7.5% if he wants to continue and use the threat of foreclosure as leverage. Thoughts on this idea? 5. Should I require borrower to escrow taxes? He likely won't be able to make the payments, but this would increase the matured unpaid balance faster than paying one annual payment. I welcome any other ideas or suggestions. One thing I'm not really willing to do is sell the note. I'm leaning towards moving on it quickly (after about two years of late and delinquent payments) or riding this out for the long haul. Thanks for your time and input.

My answers don't take into account your personal relationship with the borrower, because I don't know enough about that, and it may be impossible to salvage anyway. First, although you appear to have a significant equity cushion, it is amazing how quickly that can change. Accrued interest and late fees, unpaid taxes, unpaid insurance, (have you checked?), deferred maintenance, possible retaliation damage, legal fees for foreclosure, more legal fees because he declares BK, changing market conditions, yada yada. So I would NOT recommend riding it out. The second consideration is whether your loan is in compliance. While you may have had an attorney draft the documents, if he is not well versed in private lending in your state, you may have violated multiple lending laws. First and foremost would be the SAFE act, implemented in 2009, which requires that residential lenders be licensed. If the TX version of the SAFE act requires that, you may have trouble foreclosing if he pushes back. I find that regular real estate attorneys that don't deal with private lending are unaware of the SAFE act requirements. I don't know TX law at all, so you need a TX attorney very experienced in private lending. So no, I wouldn't wait, I'd act now, and I'd first consult a TX attorney specializing in private lending. There are TX investors here on BP that do private lending and they should be able to help you find an attorney. Of if you know all that and are sure you are in the clear, I'd still not wait. Time is not on your side. Just my opinion.

Peter, Defective means the instrument and note may be deemed unenforceable. It could also mean fines. Some defects can be cured, some can not. It is an industry term. Texas Usury Statute: Sec. 302.001. CONTRACTING FOR, CHARGING, OR RECEIVING INTEREST OR TIME PRICE DIFFERENTIAL; USURIOUS INTEREST. (a) A creditor may contract for, charge, and receive from an obligor interest or time price differential.(b) The maximum rate or amount of interest is 10 percent a year except as otherwise provided by law. A greater rate of interest than 10 percent a year is usurious unless otherwise provided by law. All contracts for usurious interest are contrary to public policy and subject to the appropriate penalty prescribed by Chapter 305. A commercial loan has a different statute which provides for a higher than 10% rate but this is not a commercial loan. The loan is to a natural person, secured by their primary residence, for domestic purposes not business. I certainly can not speak to what the attorney thought or researched prior to helping put this together. I also will not claim to be an attorney who specializes in Texas law. But in the research we did, including speaking with our counsel and local attorneys, a licensed lender and MLO have options which can allow the rate of a residential loan to exceed 10% to 12% but that is with the presence of a license. You, do not have a license. Fundamentally, in the origination process of this loan, it sounds like your attorney, you and the borrower are the only three parties. So there is no licensed MLO taking application and negotiating between you the lender and the borrower for rate, term and other loan features. The idea that you provided a loan which was less interest than the previous loan does not substantiate whether you attempted to ensure the debt could be paid back. The borrower is 18 payments into the loan and is already approaching default and has been seriously delinquent for a large portion of the total term of the loan. This not only applies to loan payments but to other obligations under the loan like paying property taxes. "Can he afford the payment?" is not the same as "He should be able to afford this because it is less.". A borrower making a statement of "Yes, I can afford that" is not prudent research on your part to determine repayment capacity. Typically loans collect income statements like W-2's to prove the borrower's true income. That true income is then calculated into a Debt To Income Ratio (DTI) which has affinity on loan approval. Regarding #3, the idea of being predatory is clear as day when you talk about the borrower not being able to afford the loan and how you look to see the UPB and Fees accumulate to your advantage. You are allowing the borrower to harm themselves for your gain. Lending money that can not be paid back is predatory. Allowing fees to run up on a borrower to benefit you is stripping equity, that is predatory. Sure, you intentions are good, I don't think you are a bad guy, your actions are flawed from an observation point which does present some predatory characteristics. In regards to #4, the idea that the borrower cannot currently afford a 5% loan which has an approaching maturity, and you are aware the borrower could not obtain a conventional loan is the issue. You don't have to use the word "force" for something to be forced. Frankly with what you know now, or at least what is in this post, the borrower should not get any new loan, he can't pay it back. If he can't pay back 5%, then extending credit to him at 7% is setting him up for failure. Texas has statutes on charges on unpaid items and late fees. There are several depending on the computation cycle and type of debt. A standard residential loan usually provides for a grace period around 10 to 15 days, which is a no penalty late charge. And the penalty is charged on the payment, like 5% of the payment is the fee. It does not compound monthly. I believe there is also a specific provision which calls for this to max out at 5%. As a Mortgagee, typical to most notes and security instruments, you have a right to protect your interests. That includes advancing on behalf of the borrower for items such as property taxes and insurance. In the event the Mortgagee makes the advance, the amount is due to be paid back from the borrower. No issues there. However, automatically taking that amount and adding it onto the loan balance is not normal and probably is not defined in your note. In it's simplest form, an amendment to the balance of a loan that does not benefit the borrower, requires the borrower's agreement. I have no idea what your point is with the link provided, that doesn't deal with Mortgages or Deeds of Trust thus it has zero bearing on this matter. At the end of the day, this could be one of those situations where you are believing you have correctly setup and are handling things but due to lack of knowledge in lending you are falling pretty short on some fronts. From the post, you seem like a nice guy who was trying to help out a friend and it sounds like the friend is thankful. When we help friends and things go as planned, everything is perfect. When they start to fall off the track, that is when issues start to get flushed out with documents and practices. More important to the topic is attempting to remedy the situation. And to be clear, the situation is, the borrower can't afford the home and you may have paperwork that if challenged, you may not be able enforce. I suppose the good news is you at least have an idea of some of the defects you could encounter and you don't have a judge in court voiding your loan altogether, so there is a chance to cure the defects. There are many Mortgage Servicers in the state of Texas. A couple of quick searches will produce you several. They are not all the same in terms of service and fees so you will want to shop and compare. I think as well, make sure you fully understand what their obligations are and your obligations are. For your own review here is the Texas statute Texas Finance Code

Account Closed I think a lot of times if the OP had gone to the attorney they still might not have what they need. The problem is they don't know the questions that they need to ask. Case in point Peter was looking at "what ifs" of foreclosure and partnering ect not looking for legal advice necessarily yet. But then he was asked a lot of questions which he didn't know the answers to, so he verified and can now move forward. Also professionals are paid to do what they do, draft notices, file legal stuff, lend money, list properties on MLS ect. They often have no concept of thinking outside the box and providing options, if you provide options they'll weigh in on their thoughts to an individual set of circumstances but don't usually provide much insight into other ways to go about doing something.

"Things could get ugly, and I'm almost certain borrower would file bankruptcy if I foreclosed." Bankruptcy isn't necessarily a bad thing, a chapter 13 BK will force him to start paying if he can ... exactly what you want.

Oh man, this is the thread that just keeps giving. Peter, just to make sure we are all still on the same page. This is a spirited discussion in good taste with some mixed opinions on what to do. Cautionary ideas expressed in their nature have negative tones to them. Being the one who delivers said cautionary idea may give rise to being a bit of a pessimist. That is not my intent nor Bill's I believe. So, all smiles still and hopefully as the thread continues some other unknown concepts come to light meant to give you insight to what might have otherwise been unknowns. Now, let's talk about interfering in the business of the borrower and slowly becoming an adviser to the borrower. Big 'No, No'. It is OK for a Mortgagee to speak to his borrower, even on a regular basis. If that practice starts to take on instructions from a Mortgagee you could be found as an adviser and interfering with the Borrower's affairs. Essentially saying, "Sell your house" too many times could fall into this situation. A borrower can simply respond to you with claims of duress or claims of interference. Imagine you say sell your home 100 times. Even if your intentions were good an attorney could catch your friends ear and turn this all around on you pretty quickly. If the file ever came to proceeding with foreclosure and the borrower decides to try and defend themselves these ideas can be used in his defense. By suggesting too much which fundamentally is interfering they could try and extract some financial harm from the action. So for instance the home get's listed and you suggest to take the first offer that comes in but then 3 more offers come in that are higher but he is already locked in contract. The looser in gain is the borrower, you got paid in full but he missed out on potential from the higher offers, financial harm can be established from your interference in that case. The point is, it is a slippery slope. We all know this is the type of social problems we have where sometimes good intentions result in bad consequences. Loans are no different. I will bang the drum of get a servicer again. All the reasons that have been coming up in the thread. If they cause events like this, you have recourse with them adding a limited layer of protection to you. To address one more time the lack of suggesting a servicer. I am familiar with many, I have used many and I have my experienced and educated opinions about many and the services offered. Not all servicers are made the same. They will not deliver the same service for the same fee. Some may put investors into harm's way by allowing for too much self-servicing under their license. Not good IMO. Others will be more 'full service' type shops. Some investors may knowingly choose one or the other. Lot's of variables. The drum keeps getting beat because aside from actually owning the asset to collect from, the servicing is really the next most important idea to the asset. It is not like referring plumber or painter for a home. The impacts can be far more reaching. As such, it is my personal opinion not to give any recommendations and to tell you spend some time to figure out which one of the many out there will fit your needs. The good news, this thread has brought to lights concepts that hopefully will help you in making that personal decision.

Good point, and something I have thought about as a strategic option. In a previous post, I linked the county's late penalties (here it is again). http://www.traviscountytax.org/pdfs/2011PandIChart.pdf I have the right to pay these on his behalf per the deed of trust but certainly am not obligated to. It's in borrower's best interest for me to pay these, as I will charge less than the county. It's in my best interest to not have a superior lien, and there is also the opportunity to earn a reasonable and fair return on the amount paid by lender. I discussed this with the borrower, and he is familiar with the county's late penalties as he has had to pay delinquent taxes multiple times over the past decade, and is OK with me paying them for him and charging him interest. I And as Robb mentioned, he is a little in denial and needs a reality check. Not paying his taxes, and having the county send him delinquency notices might help him wake up, and keep him from getting too comfortable, knowing he can just rely on the lender(me) to pay them. His previous lender paid two years of taxes before starting the foreclosure process. Also, as Robb, mentioned, we have had several of the "sit down and have a beer talks". Talked on Sunday, previous one was probably back in March. The rapport is good, and he is actually easy to approach and talk to considering the nature of the conversation. He is self-employed, and basically is a dinosaur in an industry that just doesn't have great long-term prospects in my opinion. On multiple occasions I have mentioned getting a part-time job. He told me in the past, and this weekend, that the time is better spent just working harder on his business and "busting his ass". I tried to frame the conversation in the sense of, "hey, I'm going out of my way to help you out, I really need to see you make some effort on your own, rather than just the status quo." Told him everyone has a number, your previous lender did, and asked him what he thought a reasonable overdue balance is before he would get a second job, or consider selling the house. That got his attention as I think he was trying to figure out my number, but I tossed it back to him, and said "what do you think is reasonable, before we have to realize what your doing isn't working?" Regarding selling the home, he told me he thinks it would make him feel like a failure. I stressed how strong the market is right now, and that selling on his terms, and pocketing $150k isn't a failure, selling under distress is. It's clearly the best option for all parties, and him financially. The challenge is getting him to realize this. He did mention, that if he did sell, he'd give me the first opportunity to buy it, which I thought was interesting. His house would make a great rehab... Lot is great and structurally sound. No mechanical, plumbing, electrical issues.. Just dated, and basic cosmetic work would increase the value considerably. The house across the street that went for $399k (in 5 days), had just gone through a pretty extensive remodel... At first I thought they were going a little overboard, but it sold for a great price pretty quickly... It might help convince him to sell if he could participate in the upside of a rehab somehow.. Supply and demand is just really out of whack right now in Austin. Inventory is ridiculously low, and even rentals are tough to find, an issue he brought up. He's lived in the neighborhood for 30 years, doesn't really want to move. What's crazy is, when we refinanced his loan in 2012, the balance was more than his previous loan's initial balance from the late 90s... Talking to him, you can see him try to rationalize choices that he's made over the years. I think this last conversation was a good one though, and got his attention. I'm just trying to balance cracking down a little harder and still maintaing the relationship.

Real Estate Note - Borrower constantly late, ideas?

Jeff S.

Lender · Los Angeles, CA · Member since 2009 · 1k+ posts · 2k+ votes

13y

Ah, I see. Not only does he need options, so do you.

Prolonging this loan will not maximize your return. As a lender, you generally want to maintain a high velocity of your money at a high interest rate, and you are not doing either. Late fees and compounding are just not that efficient. Participating in the rehab, as I wrote, buying the property from him and flipping it, as you wrote, and probably 100 other options involving this property are viable alternatives to getting you both out.

I don’t know your financial position, Peter, but since it’s clear you’re comfortable loaning, you might continue that. I also know from experience you could at least triple your return buy loaning short term to rehabbers. This is way off topic, but something written frequently about here.

If I were you, I’d do what I could for your borrower and do some legwork for him. Personally, I think the rehab route makes the most sense for him, but I’m a bit biased. I also put my money where my mouth is.

I’m not sure following through with a foreclosure will help either of you, though I agree with David C. that at least filing, could get him to take some action. In the end, you’ll get paid but he won’t recover all he could. He has better options you could help him pursue. Scared as your borrower is, he’ll appreciate getting out of his mess -- and walking away with a nice chunk of change. So will you.

Jeff

Real Estate Note - Borrower constantly late, ideas?

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