All Forum Posts by: Dion DePaoli

"REAL" Guru's don't sell books and courses and CD's. (until Bill writes the book he always talks about, anyway)

Yea, I noticed that after I hit post. I had a brain stall as I was noticing that when I type ARM it is always capital...to much loan talk in my head. Thanks for the clean up. (I think I did the same thing last time and you corrected me, thanks)

Bill Gulley, I knew Bill would show up in this thread. You typed faster than me, that and I went a little long winded.

Well, didn't expect this topic to be what it is when I read the title.

Allow me to shed some reality on this topic.

Jumbo loans less likely to be in a securitized trust, is not true and misleading. First understand, there are two fundamental types of residential loans. Conventional and Non-Conventional. Conventional simply means eligible to sell to the GSE (Government Sponsored Entities) or Fannie Mae and Freddie Mac. Further, not to be confused with FHA, VA, USDA, etc loans which are Ginnie Mae loans, those are non-conventional. Non-conventional simply means NOT edible for sale to GSEs. Next concept, just because a loan is eligible, does not mean a loan is sold to GSEs. Fannie/Freddie are considered investors, they are certainly the largest in the secondary market but they are no the only ones at all. The GSEs are not portfolio investors, in other words they do not hole the whole loan on their book, they securitize it. This is why we have conventional guidelines and they are a big deal, those are the minimum set of guidelines a loan must have in order to be sold to FNMA/FMCC and those GSEs pool the loans into securities and sell to the public. They are not the only investor who did this either. If you recall, Ginnie Mae, through FHA, issued a jumbo loan amount increase to $729,750 in 2009 to help with market recovery. Ginnie Mae, does not hold loans in portfolio, they pool and make securities. Anyway, point is, jumbo loans are just as likely to be found in a security than non-jumbo.

So we go off looking for jumbo loans. Because the loan is larger, we then expect the profits to be higher as percent of loan balance or even property value. Well, as a dollar for dollar, the profits will be relative. 20% profit on a $50k home, a $100k home and a $1 MM home are all 20%. The cash itself is different. The unfortunate thing here is the profit dollars can be higher but so can the loss. Losing 20% on a $1 M home, simply is not anyone's idea of fun. Losing 20% on a $50k home is not great either but it is not $200k. So sending newbies, with little to no skill off to work on assets which can swallow them whole, is simply irresponsible. You want to learn? Start small.

So the property needs to have negative equity. Fine, not all that uncommon. The bid equation they list is 80% of FMV less your profit. The 80% is derived from some magic capacity to refinance at 80% LTV. This is a load of horse-pucky!

Jumbo loan LTVs move down as the loan amount goes up and the documentation of the borrower decreases. No where in there did they talk about how to size up the borrower to see what they can afford. Many jumbo loans were written as stated income loans. Well, those programs are not so popular. So this teaching presuppose that all borrowers must be able to prove their income and assets to qualify for a new loan in the first place. A dangerous assumption.

The refinance exit here also assumes, the market is teaming with banks/lenders who will refinance the borrower to begin with. What of the credit history of the borrower? If they were delinquent, their credit is not so good. Jumbo loans require higher credit scores than non-jumbo to move the needle on LTV or interest rate.

Now pricing the acquisition of the note. (80% FMV minus 20% Profit=60% FMV) So essentially, they say you can swoop in and purchase a performing loan or sub/re performing loan for 60% of FMV. Most of the jumbos are in the state of California by nature. California is a non-judicial foreclosure state. The non-performing value of that loan is higher than your 60% bid by 8% to 12%. The funniest thing is, they are teaching you to just wipe out 20% of equity. Guess what, that portion of equity they just told you to wipe out (to get to 80%) your profit is inside of that not on top of it. So their bid sucks and their evaluation method sucks, plainly stated.

Next the falsehood that you somehow can work with the borrower and mortgagee at the same time. That is wacky. A mortgagee is not going to open up to trade with you, exposing the borrower's private information and allow you to be in contact with the borrower. That is a huge violation of privacy policies of all major lenders/banks and is a disclosure in most loan packets. Not to mention the default risk this creates for the mortgagee. As a mortgagee, I have you messing with the borrower's head thinking that all this principal can be forgiven through this refinance. When the refinance fails because the borrower can't qualify for a loan, they borrower usually tries to go delinquent again, thinking if they act like a child the bank will modify their loan, not realistic.

The funnest part of this part is the dislocation of reality these gurus send you on. Look, as a mortgagee, when a loan is being refinanced, a payoff statement is issued. This is tracked and usually alerts any loan sale to remove the loan. Essentially, what they are saying (assuming their crap is true), the mortgagee will get a payoff request has no idea about the FHA program they are trying to use and will unknowingly sell you the loan when the same 80% recovery of FMV is at their finger tips. Sure bud!

I am glad you asked about risk. The way to limit your risk, do not follow this plan. Certainly refinance is a disposition strategy and should be explored. a Short Refinance is at the top of the list of disposition strategies for loans as it represents the highest best recovery execution next to paid in full. Everyone knows this, including those guys that call themselves banks who write loans.

All of the major components of whole loans are missing in this plan and education. Evaluation and analysis, due diligence, the full spectrum of disposition strategies, mortgage servicing, fair debt collection activities and how a transaction really flows. Loans do not trade like real property.

Hard money is not easy to find to use to purchase notes. If I was a seller, I would not transact with you if you were buying one loan using hard money from me. It is a potential waste of time, you do not have discretion over the money, you can not decide to purchase or not, the lender does. Therefore, you are not the real buyer, they are.

If you want to learn the note business, which is more complicated than real property in its nature, then spend some time as suggested in this thread on BP. There are plenty of discussion around various fine points to the space. I tend to find myself commenting in many of the threads so look at my posts. Also a good guy to read on is Bill Gulley, tons of experience with loan regulation and examination, etc. There is no fancy names in the discussions, like "Back-flipping" that is sales crap. This would be a short refinance, short meaning the mortgagee took less than what was owed on the note. Refinance meaning...refinance.

As my post is getting long, let me knock down some chatter that went back and forth in the thread quickly.

A bank has not duty to sell loans at a discount for the most part. Loans sell at a premium or par or discount. Discounted loans are a function of equity, performance or defective collateral for the most part.

If a loan sold for 20% less each time a new investor (likely not a bank) purchased the loan, the loan would hit ZERO in 5 trades. That is not how it works. Does a house value fall to zero the more it trades? (no)

The bank regulation for specialty reserves, cash reserves for non-accrual loans, has been addressed for the most part by many of the still open banks. Selling loans was not a requirement of this concept, it was a strategy. Simply raising additional capital to match the reserve obligation was also a strategy.

Jon was right, they are not selling these at a high enough discount to easily make this work. You as a newbie have a better chance of doing business with a Private Equity firm that holds notes not a bank. That said, the purchase price of a performing current loan is going to be based on default risk and prepayment risk. They did not teach you how to analyze that which are loan fundamentals.

As far as the size of the discount, it is relative to the recovery of the principal of the asset. This is affected by geography, performance, borrower credit and time. A non-performing loan in New York trades for less than the same loan in California because it takes 3 times longer to foreclose. The secondary market was created to trade loans at par and premium, there is no mandate for a discount. The less default risk the less of a discount on a performing loan.

Is what they propose possible? To cause a short refinance as a mortgagee, absolutely 100%. Are all of the details missing and many aggressive assumptions being made, yes. This is as I said above the ideal strategy for return, do it quickly and recover the portion of discounted principal in a short amount of time. Great, easy stuff. They just take a bunch of liberties with the way a refinance and loan sale cycle will happen.

As a loan buyer and seller, I can tell you nobody hands my firm easy profits. It is hard work. I don't take too many self proclaimed liberties, but I am not new to this industry and pretty darn good at what I do. If I was your seller, you are not getting any silver platter profit from me. That doesn't mean you are getting a bad deal, but I am not handing you a layup when I can do it myself, that loan would not make the sales floor. We would short refinance it. That said, some larger firms miss stuff, so there are diamonds in the rough, thus the "have to work for it".

Max Thrush what are the "12+/- exit strategies for NPNs"?

I find it humorous when investors get irritated when a lender does not agree with their evaluation. There is no banking conservative conspiracy in the world. As a buyer/investor you are conservative as a seller you are liberal. If this was your capital at risk, you too would practice conservative investment protocol.

A bank asking for documentation such as the HUD or improvement costs is not wacky, it is prudent. It also is not uncommon and has been happening for years, it is not some recent invention. Check your contract, you may forfeit any claim to earnest money by not cooperating with the banks requests.

When the property sold the first time around, the market was made on the home. It is more likely the repairs do not warrant a large value increase or as larger as being asked for. This is clearly illustrated by the initial $20k reduction.

The OP describes the home as priced below most of the homes on a PSF but has more SQF than most homes. So it would seem from a far, the home is a bit of a market anomaly. It does not sound easily homogenous with the local market. The appraiser clearly had issues with it as well, as the OP states the appraisal had homes with a higher SQF. So the appraiser had to make adjustments for the PSF and SQF to create a more congruent set of comps. The OP had a sale price which was higher than the appraised value by $20k.

As to jumping through hoops for a buyer's bank/lender. Well, as implied but let me say it more clearly, if you want to sell at the same price you purchased it for, you will have little to no hoops to jump through. When you seek to gain and perhaps gain excessively you have to prove it.

If I was underwriting this deal, i would be following the same steps. Artificial market inflation is not anyone's friend. I think the common knee jerk reaction to the attitude toward banks/lenders and appraisers is a little less than fair. I also tend to think most investors are over confident in their evaluations and just make more noise than the other two.

Asking a bank to issue some document to prove its capacity to lend is a little silly. BTW, you can look up the liquidity of banks on the web. So it is not the same as asking a private party for proof of capacity.

This situation is as clear as day, the issue here is the price of the home. Is not the first and will not be the last. A bank will not fund a loan until it is ready to fund a loan, you can stomp your feet and pound your chest all you want, it tends to just be a waste of energy.

The OP actually pointed out the underwriting issue. And missed the point. The home was purchased and repairs may have been done without proper permitting. The 90 day rule is title seasoning, there is no rule or guideline for rapid property appreciation except banks do not like it.

It is unclear what the purchase price of the home was and what amount went to repairs, but yes it matters. If you purchased a home that needed a large amount of repairs to bring it back to market and you didn't properly pull and file permits you failed to document why the property value should be more than it was 90 days ago (or whenever you purchased it). Home prices do not have wide swings of appreciation so any value over 3.5% from the prior sale in the short term will be analyzed.

I would say they are looking for you HUD to see what size of a profit you are trying to make. You may not like that but more likely, that is what they are trying to size up. If you are being greedy they will continue to drive the price down. What's greedy? Who knows, but other guidelines mention 20% gain. You sort of illustrated you were positioned for a large margin, you waived 10% with minimal hassle.

IF this is the story, then this bank and most other banks will likely produce similar results. Loans are not simply a borrower and an appraisal with a number. What supports the increase in value on the property? If the answer doesn't include physical improvements, you likely will have a hard time. If the answer includes physical improvements, you need to be practical about your value increase, YOU set the market when you bought it. If you didn't take the steps to protect your additional capital into the property, well this might be where the lesson comes in.

To play devils advocate to the debate, who is doing the wrong thing here? The bank protecting its loan (investment) or the investor who didn't do things properly to support a market value increase?

BTW, banks do not "order" appraisals any longer, lenders and banks have to work through Appraisal Management Companies.

What are your questions?

I have operated two blind pool funds, with a decent number of accredited investors in them and our investments have always been whole loans (and assets related to real estate).

As Brian pointed out the real risk is redemption and your documents. This is usually why alternative asset funds, such as whole loans, have a lockout period and liquidation provisions and all investment funds have mountains of paperwork. You have to get an experienced SEC attorney and draw up all the documents and help develop all of your workflows. There is a lot to learn when opening a investment structure with pooled funds. Too much to cover all here.

The investors will be pro-rata in either an open or closed structure. For most real estate related, you will be a closed structure. This essentially means you limit the redemption capacity of the investor. You can do this with lockout periods and other similar concepts. An open fund allows investors to come and go more regularly.

The NPN question Bill poised was a good one to think of. NPN's clearly represent a liquidity issue. A pool of NPN's does not have any recovery of capital until the assets are liquidated. So you would not want a fund structure with a preferred return and nothing but NPN's. Additionally, collecting the manager fee to run the fund with NPN's has issues from the lack of liquidity of those assets.

The structure of the fund is very important. If you open a fund with a limited scope of assets, then you may box yourself in from being able to provide a return. An example in line with our discussion here would be if you opened a pooled fund in 2008/2009 purchased NPN's as that was the only asset you made available in your subscription documents you would have choked and lost all sorts of money as property values decline past your discounted purchase price. This by the way, is a true story for many funds that did just that in 2008 and 2009. They choked and went out of business.

In a pooled investment, the collateral is not bifurcated to each individual investor, it is allocated to the fund itself or the investment vehicle. Typically funds will be structured as Limited Partnerships where the investors are Limited Partners and the Manager is the General Partner. The fund takes ownership usually through a LLC subsidiary. An investor, in a properly formed fund, does not have any right to the assets and can not direct the management of the assets.

Generically, the waterfall of the fund is Manager Fee then Investor Distribution then Equitable Splits. Some managers let the investors take a superior role and that can be problematic if the market turns bad. If the manager can't keep the lights on, the assets and investments will suffer.

Some fund structures allow for debt and some do not. Simply stated, no debt member is going to take a subordinate role to the equity investors. So usually, the debt member is first out, then the equity investors in the fund. If you over leverage (because that never happens), you can wipe all of your investors out.

Generically speaking, all of the other concerns and what ifs are handled in your subscription documents.

Moral of the story, what you need to do, if you are truly looking at these structures is find yourself a great (not good) attorney and start sitting with him. That is why it is so expensive to setup funds, the documents are expensive to create. This is not a DIY project to say the least. I would even go further and say, you will need a good outside accounting firm (regardless of your own staff), you will want to find a qualified fund auditor and I am a huge fan of hiring an administrator. That might sound like there is no work left for you to do, but trust me, there is a mountain of work. All of those features help make sure things are done properly, create innate checks and balances, protect investor capital and will act as a sale pitch in a sense when marketing the fund.

I don't think there is any more or less risk in a pooled fund investment. There is more work, which is as Brian pointed out a sort of economy of scale. If you are pooling to get to $1 Million, you made a ton of work for yourself. If you are pooling to get to $100 Million there is sufficient fees and opportunity to have all of the needed backroom administration and costs to operate. As the investor, bigger investment scales can mean larger percentages of loss (or gain). Either way, you still have to believe and trust the manager you invest with, anyone can loose money, nobody wins all the time.