Today, Chris Seveney of 7e Investments delves into the dark side of note investing, which investors encounter that is often overlooked. He navigates toward foreclosure, bankruptcy, and legal proceedings with difficult borrowers. He also reveals that some borrowers employ strategic tactics to prolong the foreclosure. Chris emphasizes the protracted nature of foreclosure proceedings and underscores the importance of considering economic conditions. Chris Seveney won’t just leave you with the challenges of note investing; he also offers some insights into potential mitigation strategies. While this episode primarily focuses on the challenges, it’s essential to remember that note investing can still be a profitable venture when approached with caution and a comprehensive understanding of the potential risks. Join Chris Seveney as he delves even deeper into note investing.

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Dealing With Difficult Borrowers: Shining Light Into The Dark Side Of Note Investing With Chris Seveney

The Shift In The Real Estate Market

I want to talk about the dark side of note investing. First, I want to explain a little bit about what we do. We run a mortgage note fund where we fix and flip performing and non-performing mortgage loans. If you have not seen one of our webinars, I highly recommend you check us out at 7EInvestments.com. In today’s environment, we are starting to see a lot more education and training come out on note investing.

A lot of the people who are professional gurus, as I call them, have pretty much milked and dried the well on short-term rentals, BRRRR strategy in real estate, house hacking, and seller financing. What’s the next flavor of the month? With the New York Fed coming out and talking about the economy worsening and people getting more behind on their bills, it’s pretty evident that we are going to start seeing an increase in mortgage note defaults. Now, we’re currently at historical lows. When people start coming out and saying it’s a reckoning like 2008, that is not going to be the case. This is my opinion that that’s not going to be the case, but there are still plenty of products out there for individuals.

A lot of times, people are only taught the good things that can happen in notes. I want to share some stories about some of the challenges that you can have with a loan as well, and talk about three case studies right now that are very interesting stories that I can share with people. The first is the background of a loan where the borrower was seven years behind on payments. When the loan was acquired, the borrower was approximately only 3 to 4 years behind. This was a loan that was held in a prior portfolio for about 3 to 4 years.

A Professional Borrower

A lot of times, people think, “Why would you hold a loan for that length of time?” During that time, we looked at the property value, which continued to go up. We tried to work things out with the borrower. In this instance, we started legal action with the borrower. As part of the legal action, we had to go through mediation. This borrower is what I would call a professional borrower. They know how to game the system.

A professional borrower knows how to game the system. Share on X

What are some of the things they do to game the system? One is during mediation, they kept changing their attorney, saying, “I have a new attorney. I need to reschedule. I have another attorney. I need to reschedule.” The mediator gave them three opportunities, but then the fourth was finally, “That’s enough.” Each mediation is roughly a month apart. It was also during the summer. The borrower bought themselves six months just by that mediation component.

We finally get to mediation, and the borrower doesn’t have an attorney. The borrower came out and spoke with the mediator, and told the mediator that a lot of the data they were providing the mediator was just not true. One of the attorneys who is handling the case for us was not on the call. That was the low-hanging fruit this borrower went after. Fortunately, I have a very good relationship with this attorney and the colleague who was on the call. We both were texting him and said, “We need you on this call.”

The attorney got on the call, and they had the borrower restate everything. Not one thing that the borrower had said was true. My attorney had factual evidence to back up every single component. Right then and there, this was a red flag indicating who we were dealing with. It came to the conclusion that, as part of any mediation, we made an offer to the borrower regarding what they would need to do to potentially get a loan modification.

Some of the interesting things that came out during the mediation were we knew this borrower was not occupying this property. It was a rental. We asked and the mediator asked point blank, “Are you living in the property?” The borrower said, “I do not need to answer that.” The mediator said, “You have a renter in the property, and you’re collecting rent from this.” The borrower said, “I do not need to answer that.” We knew the borrower wasn’t living there because we had sent somebody to the property, and the borrower was not living there. They mentioned they are a tenant.

The borrower was collecting rent every month and not paying the mortgage on this property. The mediator knew it, my attorney knew it, and we knew it. How did we move this forward? We ended up terminating the mediation because we couldn’t come to a conclusion and proceeded with the foreclosure. The borrower then filed for bankruptcy. As part of the bankruptcy, the borrower was not married, but the borrower was trying to claim someone else’s income in some aspects, but then in the bankruptcy wanted to take it out. They wanted to say they could afford the property and that they got this money, but then in the bankruptcy, it was different.

They were using information in one step where it would benefit them but did not want to use it where it would hurt them. The borrower filed for bankruptcy, and this was the first bankruptcy they filed. They were not making any payments as part of the bankruptcy. They were trying to get a plan approved and the plan started out with very low payments and then ballooned to significant dollars. We’re talking about starting out with $200 a month net for the first 24 months and then going to $3,000 a month. Meanwhile, the borrower had no employment and did not put the rental information or anything on the property within the bankruptcy.

It took approximately 5 to 6 months. The bankruptcy was dismissed because the borrower wasn’t making payments. We filed another bank. We go to foreclosure and set the sale date. The borrower files for bankruptcy again. We asked the attorney, “Is there anything we can do? The borrower was not paying. They weren’t doing anything.” Our attorney says, “Unfortunately, no. We just have to play it out. If they file for a third time, that’s when we can get a motion to stay because it would be evident at that time.”

We go through another. The same course happens. This one took about eight months of time. When you look at the timelines of first starting the foreclosure and getting the mediation, that whole process was about ten months. The first is sixteen. We’re now on another. It’s 24 months of this within this loan and we’re not getting anywhere. Within the bankruptcy, there’s nothing you can do. You just have to sit and wait, unfortunately.

Our attorney mentioned we could file a motion, which would try and get us out of bankruptcy, but the courts will try and give a borrower the benefit of the doubt pretty much all the time. That is what we’ve seen. We just sit and wait until it gets dismissed again because the borrower does not make any of the payments through bankruptcy. It was dismissed and we went to the attorney, “Let’s reset the foreclosure date.” It’s three months out from the new sale date. What happens the morning of the sale? The borrower filed for bankruptcy again, so we can’t go through with the sale.

Fortunately, in this case, we’re able to petition the court that the borrower has filed three consecutive bankruptcies. We should be relieved from or not put it in the bankruptcy court, and the court agreed with us. The court agreed that this was not part of the bankruptcy. We can continue with the sale, which was another two-month period before this all went through.

The interesting part of this entire process was the borrower wasn’t living there. It was a rental, and they’re just, “We’re not paying taxes. We’re not paying them. We’re collecting the rent. Let’s see how long we can get this thing out.” They were probably collecting $1,200 a month roughly on this property. They’re like, “I’m making $1,200 a month. Now the fees and the interest and everything else that’s getting added to this is not $1,200.” They’re probably thinking there was equity in the property.

I still think the borrower would have been better off selling the property versus letting it go to foreclosure and getting sold at auction. That’s what ended up happening. In this case, it was over a three-year process that this all went down. I say that because we were fortunate enough during this time that property values were rising significantly in this area. We’re in an economy now where you have to be much more careful regarding property valuations, with property values going down because who knows where things are going to be in three years.

Borrowers In Default

This is one of the aspects of note investing where time is so important. I want to share this with people. They need to understand that while you as a lender like to think that you’re in control, you are but you are not. I want to pivot to a similar case study. People think, “This is just a one-off, Chris. This never happens.” I’ll share another case study we had. This one was the borrower was 7 or 8 years behind. By the time this came to foreclosure, it was about 12 years behind. In this instance, a similar story, a mother and daughter bought a property. This one was a double-wide trailer which we have been shying away from now for several years, but it was fixed to a foundation, and it was a larger property with a lot of acreage on this.

 

The mother passed away and the daughter had moved out because she let the property get completely ripped up, and then holes in the roof. This property, unfortunately, couldn’t be seen from the street and there are gates so we couldn’t get access to the property, but the value of the land is what we had anticipated on this asset. Anyway, this one was thrown probably back in 2018 or 2019 to give you an idea of when this loan was bought in a very early fund, but the borrower filed for foreclosure.

The borrower filed a counter-lawsuit, noting that it was unlawful for us to foreclose. They tried to get the FBI involved. It was a crazy lawsuit that they were attempting, but with any lawsuit, you have to defend it. It took time. This one was pretty quickly resolved within several months. We filed a motion to dismiss because there was no actual evidence within the lawsuit, and we won.

We tried to mediate with this borrower. We tried to get them on a payment plan, which they said they would do, but they would never make a payment. After about six months of mediation, we continued with the foreclosure. Similar to the last opportunity, the borrower filed for bankruptcy. I’ll be the first to tell you that I love bankruptcy loans. In most instances, borrowers will get on a restructured plan and they’ll start paying. They can be extremely valuable to have in your portfolio. There are borrowers who will do what I’m talking about right now.

In this instance, the borrower filed for bankruptcy, and they filed it in the northern section of the state, which is where the property was located. That ended up after about ten months. It took a lot longer, got dismissed because it took a while to get. Let me step back. That was the second bankruptcy. The first one took about a year and a half. The reason why is the borrower was trying to say the house was unsecured. What they’re saying is because it’s a double-wide trailer, which trailers are technically considered like an automobile, we cannot collect the full loan amount. We’re not due. We only have to get the property appraised based on the land value, and only that would be able to collect.

There’s case law out there that typically, if a double-wide is not on a foundation, depending on how the mortgage is written and how everything was provided, the borrower had a legitimate argument. If the property wasn’t on a foundation, didn’t have a basement, and was always written as real property in the mortgage and all the documents versus property that isn’t real property, which is real estate essentially. We had to defend it and go back and forth with the courts. That took over a year. After winning that, the case was dismissed. The borrower turned around and we filed again.

This one was quicker. It was less than a year and got dismissed again. The borrower didn’t have any lawsuit or anything. We proceeded with foreclosure. Again, the third time’s a charm. This time the borrower filed bankruptcy, but they filed it in a different part of the state. Each state has different regions for bankruptcy. They filed it in a different district, already knowing that the other district had already thrown it out twice because the plan was not viable. The numbers didn’t work, and it would have had to have been a Chapter 7. In Chapter 7, everything gets liquidated, and they would have had to sell the property. The borrower did not agree with that. They thought, “If I asked Daddy twice and he says no, let me go ask Mommy.” That’s what they tried to do by filing in a different district.

We had our attorney immediately file something that says, “They live in this other district. They’re trying to say they have an attorney who’s based out of this district. That’s where it should be filed.” The court reviewed it and ruled in our favor. They ruled in our favor. Again, the third time’s a charm. They kicked it out of bankruptcy, would not let the borrower file again, and we finally foreclosed on this property.

The Importance Of Time In Note Investing

The interesting thing as we wrap up this episode, I’ll mention in both these instances, we’ve given the borrower ample opportunity to work with us. We also offered them what’s called cash for keys, meaning, “We’ll give you $5,000 to walk away from this property.” In the second case study I just talked about, we offered them $10,000. We were giving them a check for $10,000 to sign a deed over to us. They didn’t. They ended up getting nothing. It’s the same in that first case study, we offered them money. In that instance, they were using it as a rental. They probably ended up making out better in the situation, but either way, we tried to work with the borrowers in those instances. Unfortunately, we could not.

We give the borrower ample opportunity to work with us and offer them cash for keys. Share on X

Why do I share these stories? I want to go back to talking about time is very important in the note investing space. It’s important as part of your due diligence to understand you might not be able to read every borrower like this or anticipate that they will stretch things out like this. If they do, you have to make sure you model things properly and ensure that you can still make money on these assets.

 

Fortunately, in both these cases, we still did very well because we had anticipated that these were going to be long drawn-out processes. I know a lot of people will just hear an attorney say it takes six months and they base everything off of six months, which can be very problematic. I hope you enjoyed this episode of the Creating Wealth Simplified podcast. I wanted to share a great case study regarding the good, the bad, and the ugly of what can happen in this business. For more information about us, please check us out at 7EInvestments.com. Look forward to hearing from you and can’t wait to catch you on the next episode. Thanks and have a great day.

 

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