|$110,000 Profit From A $75,000 Bad Note
A NOTE HOLDER contacted me with what to most people would be an unsolvable dilemma.
"Insecure" note behind a defaulted first loan.
The note holder had a $75K second note behind a first of about $140K including 18 months back payments
and attorney's fees.
The second was created in a do-it-yourself transaction between the parties. The note was created properly
and they think they created a trust deed to secure it, but no one recorded it. They recorded the note.
I could only find one investor interested in the note. A very bright and creative real estate attorney.
We lined up the funding and contacted the owner to help them save the property and reinstate the first
loan, which had an attractive interest rate.
Suits and Slander
The property owner (payor) was suing the first mortgage lender and anyone else that came within eyesight.
My offer to help out and reinstate the first loan was rejected up until the day of the foreclosure.
"Don't you dare give them a penny, I don't owe them anything. They can't foreclose, I'm filing a
Federal law suit."
Well, the attorney for the bank didn't agree and foreclosed.
Three Options - Different Risks
We were left with three options. The first option was to advance the funds to reinstate the first
and then begin foreclosure on the second.
The second option was to buy the property at the sale. The attorney told us his bid price and
we didn't feel many people would be there.
The third option was to negotiate a deal with the bank after the foreclosure and buy it from them.
Risks and Rewards
The risk of the first option is the very high potential of a truckload of legal headaches fighting for
the title via foreclosure of this litigious payor. Didn't sound like fun.
The risk of the second option is the same as with the first.
The risk of the third option was to lose the property to someone else. Given the condition of the
property and the legal problems, that risk seemed remote.
Job Security in the REO Department
We waited to let the bank foreclose and straighten out the problems. About five months later, I wrote
them an offer. It took one month even to get a flat rejection from them. I've never seen such incredibly
poor response from a bank REO department.
Their job is to liquidate the properties, but few would put up with the attitude of this lender. Tenacity
A Dose of Reality
I guess they couldn't understand how a 6500 sq. ft. property in a prime area could be worth so little. I
let them face reality for a couple months and then hit them with a higher offer. I knew their costs from
the foreclosure attorney and structured the deal so they would see little loss - $134,560. They
At about the same time as my second offer, it probably helped that the rats and chest high weeds caused
one of the neighbors to threaten the city, who then threatened the lender. I didn't orchestrate that, but
it sure worked well.
An appraiser had valued the property at $154,000. He was appalled by the condition of the property
and suggested to the lender that they would probably be better off to knock it down and sell two lots.
Lenders Running Scared
The appraisal and the fact that the property was in the process of being "remodeled" scared
conventional lenders away. To get the REO department's attention, we had put down a massive amount of
earnest money, so to be caught without financing wasn't too attractive.
My options ended up being a construction loan or private money. Neither sounded fun, so I called in the
appraiser and had him detail what it would take to upgrade the property to the point where he would not
call it a "remodel."
Raising the Risk
It was even a struggle to get the bank (seller) to agree to let us pour money into their property before
we closed on it. $15,000 later we closed on one of the most difficult and challenging first
mortgage loans I'd ever done. ($114k).
No Rats This Time
The appraiser came back and was stunned. His entirely new appraisal came back at $260,000. It's
amazing that the new lender had such a hard time with that new appraisal. They just couldn't understand
or believe that someone could make such a good deal. A purchase price of just over 50% of
We were able to take the same loan package and within a few weeks we closed on a $75k home equity
line of credit - in a second position.
So, how does it all end up?
|Fix Up Costs:
Much more work has been done since the appraiser came through and a fence line boundary agreement has
been put in place to solve lot line problems. The value may be over $300k at this point.
"Nasty Notes" can be real nice As you can see, there can be incredible profits in buying,
fixing or improving "BAD" paper. One of the most profitable strategies in the note business is
dealing with "Troubled Trust Deeds."
© 2000 Cashflow Specialists. All rights reserved.
John D. Behle, is one of the premier educators and practitioners in the field of "Real Estate Paper".
John has an extensive background in consulting and coaching. In addition to the original "The Paper Game"
book published in 1982, he is the author of 7 other books, several home study courses and over 200
nationally published magazine and newsletter articles on paper investment. You can visit him on the web at
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