How to Calculate Payoff and Arrears on Non-Performing Note

Question

Hello,

I'm currently doing due diligence on a non-performing junior lien that has gone unpaid for about 5 years. I know the unpaid principal balance, interest rate, and monthly payment but the arrearages and payoff amount have not been provided... So I'm trying to calculate them. Here are the numbers:

Original Balance = $73,200

UPB = $64,000

Payoff Amount = ?

Arrearages = ?

Rate = 13.75%

Monthly PMT = $867.18

Late Fee = 2% of "overdue payment of principal + interest" <== Does this mean 2% of $867.18 is the monthly late fee?

Also, does negative amortization occur when the loan isn't being paid? If so, I'm thinking it would look something like this:

UPB @ last payment = $64,000

Payoff after first missed payment = $64,000 UPB + ($64,000 * 13.75%/12) Interest + $17.34 Late Fee = $64,751?

Or is there no negative amortization and your new payoff is just the UPB + late fees?

Is this the correct way to think about/calculate late fees, arrearages, and payoff amount?

Thanks in advance!

Wayne Brooks · Answer

@Eric Jones BTW, 2 numbers that are likely much more important than the actual total debt on the 2nd.....the current value of the property, and the outstanding balance on the first....if those are upside down, it's likely irrelevant how much is owed on the 2nd.

Bill Gulley · Answer

Who originates a mortgage matters, the borrower is entitled to somewhat of an implied warranty dealing with an institutional lender that their loan will be treated as required under that institution's regulatory requirements, subsequent holders treat the note under the requirements of that type of note, for example; an FHA loan will be subject to FHA requirements, a HELOC from a state bank will fall under FDIC, a private loan from an individual falls under state law.

You need to read the note to see how interest is to accrue, if it doesn't state that interest is to be added to the balance, then accrued interest is a separate part of the debt and does not accrue interest on the mortgage.

Dion mentioned the statute of limitations, generally, on mortgages a loan goes to a non-accrual status after one year or at the time demand is made for full payment.

An "APR" is only relevant when a note is made for closing or again when any other loan expenses are charged to the borrower as in rolling over an existing note, otherwise you are using the note rate and interest is calculated on a 360 day basis, not simply 12 months. The note rate /360 = interest factor X the balance = that period's interest charge. A non-accrual note does not add that interest to the balance to charge interest in the next period unless otherwise is stated, that interest does become part of the balance due over future periods until, by statue or regulation, it goes into a non-accrual status where interest is no longer charged.

When you make a final payment demand, the note holder is responsible for proving the amount demanded, as Dion mentioned local customs, what may be charged can be limited to what that jurisdiction allows, at least in good practice. Generally, interest after one year is not collectible as the note becomes dormant.

In making a demand for full payment, you need to be aware that any demand may be challenged and what you are asking for is prudent with respect to interest and late payments or other lender junk fees. Going to foreclosure you'll need to give an accounting and a copy of the note to the Trustee, this can be simply stated for the balance due, that depends on the Trustee and the jurisdiction.

A mortgage held by a holder or string of holders, who fails to continue collection efforts will allow that note to become dormant or stale and uncollectible, it's not that the amount due isn't still owed but the security given can dissolve and become unenforceable leaving you in an unsecured status.  A borrower can also claim the note holder of a stale note abandoned their collection efforts resulting in the forgiveness of the debt. The right to foreclose becomes questionable and the jurisdiction becomes very relevant. You need to have servicing records when buying a stale note.

Anyone selling a note will give you the UPB in writing, that becomes a warranty, regardless of their disclaimers, since that is what you're buying. I don't think a novice note buyer should attempt to track the accounting of a stale note, you can rely on the UBP as it is presented. When you buy a note you should also get the servicing records, if there was an error in what the seller presented then you can go back to that seller. If and when there is a significant difference, you might be able to shout fraud. Anyone selling a note should also have the ability to repurchase it within a year, always!

You, nor we can restructure this note without much more information, the note and DOT, payments made, accrued interest charged, the jurisdiction and collection attempts or collection history.

My guess is that note is trash after 5 years!

Along with any purchase price for a stale second you better consider the costs of collection and legal fees, and those can be lost along with the price paid for your great opportunity! :)

Dion DePaoli · Answer

No, negative amortization doesn't occur when a loan is in delinquency or default.  A loan balance can only increase if the loan specifically calls for negative amortization or through a modification.  The late payment fee described is 2% of the payment amount or $17.34.  The calculation for the interest arrears is based on the amortization schedule so the date of the Next Payment Due is needed to calculate it since interest is not a fixed amount per period in a amortization schedule.  Your equation is not proper to find the interest arrears.  You can use excel to recreate the amortization schedule and sum the unpaid interest with the proper dates or there are some amortization schedules online if you don't have excel.  The late payment fee is per payment until such time as the loan is accelerated.  Often times only applied 'if' a periodic payment is made (as opposed to an accelerated balance) - as in that payment was made and 'is' late.  Missed payments are not made and often times the late payment doesn't get added in.  One should still look to the note for confirming any terms with regards to the application of a late fee.  The contract will typically prevail.Interest arrears is also governed by the terms within the note and local jurisdiction of the subject property.  Interest due prior to acceleration and then interest due after acceleration will both be addressed in a properly structured note.  Some notes call for default interest different than the stated note rate after acceleration.  Not all clauses in all notes are the same.  Buying a loan that has been in default for 5 years could very well be a losing battle.  You need to check the statute of limitations on debt collection for the state of the subject property.  Many states are 4 years and attempting to collect after the statute has run is against the law.  The same statute may also limit the amount of interest accrued.  If you really must know I would suggest asking the seller to provide the payoff statement for the loan.   That is a reasonable request for due diligence.

Ray Slack · Answer

I agree consult a foreclosure attorney and have him review it.  In Florida we have many 1st and 2nd mortgage that the borrower didn't make payment on for years and since the bank didn't take action to foreclosure after 5 years the debt became un-forecloseable. It was still a lien on the property but the bank can't foreclosure and the owner can basically stay there without paying forever or until they try to sell it.

Wayne Brooks · Answer

A local foreclosure attorney would be able to give you a better answer, and can guide you on what exactly needs to be known to determine that.

Dion DePaoli · Answer

Adding interest to a loan would be compounding.  Not typical among mortgage/dot notes.  Again, default terms may, as Bill mentioned as well, provide different terms.  The moral of the story here is with the variety of jurisdiction and the variety of note language among the differences between funding in cash and equity the notes will be less homogenous than what most tend to think.  It is not one size fits all.  Running the SOL doesn't specifically unsecure the note.  It does however disallow collection attempts on the debt.  In that sense, it is similar to a BK discharge.  A debt that is discharged does not automatically mean the lien is removed or unsecured.  The lien may still be enforceable as a cloud on title providing for some potential collection.  This of course is barring counter-claims to quiet title.  There are two different ideas at work, the collection or pursuit of collection of a debt and the validity of a lien.  We can leave some of that for a latter discussion.  You should be relying on legal counsel and a licensed debt collector and/or servicer to engage on these matters to ensure you are compliant.  Just to add the additional idea of lien stripping.  Stripping is the legal act, usually order by court, to remove a lien from title.  That is the removal of that lien, that is all.  Lien stripping and collectability are not the same thing.  A lien can be stripped and the debt still collectable.  A debt can be discharged by court or statute and a lien may still be valid.  (Until successfully challenged)  A discharged debt being uncollectable has more to do with the pursuit of collection and less to do with equitable recovery of a lien.  We will quickly voyage down the rabbit hole here so that is probably all the commentary needed.  As we have pointed out, these long term defaulted notes pose risks to investors that they do not fully understand.  The condition of the file greatly adds to that risk as most are skinned down to bare bones and the buying investor doesn't know any better.  The success rate of second lien default collections can be somewhat understood by virtue of authentic secondary market pricing.  Unsecured defaulted debt trades for around 2% of unpaid balance (not total due) and secured between 3% to 5%.  In that sense, worrying about defaulted interest accumulation is somewhat a moot point.  If you can collect $3,200 on this loan you would have hit a home run.  Like baseball, most players do not hit home runs at every at bat.  Some don't hit any at all.

Dion DePaoli · Answer

There's my buddy @Bill Gulley!!As I typed others posted.  Good stuff.As to the idea that all or most of the loans reviewed are in excessive default terms - that is indeed the problem with the second lien street level investor arena.  They are, for now better description, - junk.  As what is being pointed out here is common practice among the various state jurisdictions is going to vary.  Interest arrears can be limited especially when we start talking about these excessive defaulted loans.

Ray Slack · Answer

Well they really can't sell without paying off the loan. Unless the buyer doesn't have title work done and doesn't get title insurance. Which rarely happens these days.

Eric Jones · Answer

@Wayne Brooks

Agreed. The FMV is $145-165K. Senior is at $64K and junior is at $63K UPB, so there's plenty of equity. It also happens to be in my hometown and the property can easily rent for $1500-1600. It;s a nice neighborhood and one of the top school districts in the nation, so it would sell or rent very quickly. Did a drive-by yesterday and it's a house that I'd be happy to own if I had to foreclose. My preference would be to work with the borrower to help them stay, if that's what they want.

I'll be calling the New York Attorney's office to make sure that the UPB and arrearages are collectible considering the statute of limitations that we discussed.

Thanks for your help guys!

Bill Gulley · Answer

Wyane, you make it sound like there are the 3 Noteateers on here, LOL

Another issue, along the same lines of thinking of abandoned notes is where some holder 2 year ago gave notice and began the borrower's clock ticking on a foreclosure and never followed through, that can also lead to the loss of your security interest.

Okay, there is another chance, I only had one small second note I held on to, about 7K+, it was in default, I did my collection thing, no payment, I knew the borrower was in poor health but not old, he had tried to sell the place, I just waited. I sent quarterly reminders, just to keep it current, never really pushed it. Then he had to go to a nursing home about 6 years later, the state forced sale and I showed up at closing to release the lien, got all my money.

Nothing says you must foreclose, if the LTV is good, collateral is in good shape, your security interest is properly perfected and you keep the collection effort up, some day the property will probably sell and the title company will ask for a payoff. Non-accrual is in the foreclosure or book value of the note holder, a voluntary payoff can be the full bore amount due, so lucky you!

If you don't really need the money, let it sit under those circumstances, my note can last longer than the borrower will!  :)

How to Calculate Payoff and Arrears on Non-Performing Note

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