Subject To - Red Teaming

[Martin LaBelle]

Just finished the excellent Creative Financing podcast On the Market Ep 29 with Pace Morby. I have a tendency to think in adversarial terms (I'm working on it) but in this case I was thinking about the bank, and how I would react in their place to "subject to" sales.

Most everyone says that the "due on sale" clause means the bank "has the right, but not the obligation" to call the loan in full. They then explain that most banks are simply happy to have a performing loan, and ask no questions. 

I got to thinking, what would I do to maximize my position if I were a bank.

1.) I would have a process that automatically reviews insurance docs and other data subject to automated review to flag mortgages on properties that have been sold "Subject To".

2.) I would do nothing and go about my business, as long as the interest rate of the flagged loan was not way below the current rates that are available.

3) At some point, when/if the interest rates got high enough, I would direct a small amount of resources to identify the flagged loans where the juice would be worth the squeeze. These would be properties bought using "Subject To" by investors that I'd be able to force into either taking a loan at the current rate or paying in cash.

This step 3 seems likely to me if interest rates continue to rise because either route is likely a huge win for the banks. If the loan is closer to maturity, the investor will be more likely able to pay it off. However that is actually a major win, because the bulk of interest has already been paid, and I could lend out that cash at a higher interest rate with younger loans (more interest vs principal). On the other hand, if the investor is not able to pay in full, I can force them to take a loan on the (proven to be productive) property on terms more favorable to me.

I'm interested in counter opinions. Including factors that suggest that interest rate alone would not trigger such behavior by the banks. I don't use this strategy myself, but I'm interested in how those who do hedge against these dangers.  

[Andrew Postell]

@Martin LaBelle there is a lot more to a lender calling a note due just because of an interest rate difference.  While it's not specifically written to answer your question here I wrote an entire post on this topic that I think you might find helpful HERE.  Let me know if you have any questions on it.