Sub2/Wrap - If the underlying note gets called...

[Bryce Y.]

As I understand it you, the investor, have 2 options:  1) have the end buyer refinance, or 2) pay off the underlying note in full.

For scenario 1, how much time does a bank give to pay off the note?  It will take typically 30-60 days for the end buyer to refinance.  Are banks willing to wait this long?

For scenario 2, if they can't refi here's how I see it.  Let's take an example where the seller is 5 years into a loan with the following terms:

$90,000 original loan amount

5%, 30 year fixed

PI of $483.14

At the end of 5 years (when you purchase it sub2), you will be starting with a balance of $82,645.86.  

Now say it needs no repairs and you do a wrap with the following terms:

$100,000 price with $10,000 down

$90,000 loan

9%, 20 year fixed

PI of $809.75

Five years down the road the bank calls the underlying note due. The balance at that time is $73,207.86. Now assuming you don't have the cash to just pay it off, you find a note buyer to buy the wrap note. The balance at that time is $79,836.34. I have no idea what the going rate is for a SF performing 1st for 5 years, but let's assume 90% of UPB or $71,852.71. So really you would only need to come up with the difference, or $1,355.15.

Even at 80% of UPB you have to come to the table with $9,338.79. This shouldn't be difficult considering you took a $10,000 down payment 5 years ago. Obviously the situation is more grave if the bank calls the note earlier, and consequently less grave if they call it later down the line.

It seems to me as long as you keep adequate reserves this worst-case scenario is not so daunting.  Soooo, what am I missing?

[Bryce Y.]

Meh, I was hoping this wasn't going to turn into a discussion about the likelihood of the banks calling the note due.  I know it's very unlikely, but I feel it's prudent to address ALL the risks involved.