E319 | Rising Underwater Mortgages: A Wake-Up Call for Note Investors in 2025

Welcome back to the Paper Trail podcast where we uncover the trends, tactics and real time moves shaping mortgage note investing today.

Now what was the headline?

Seriously underwater mortgages are on the rise.

Now that's just not a market data point.

It should be a wake up call for investors.

While this increase still has more homes than ever having plenty of equity, it's a trend and we're going to talk about this trend and what it means for note investors and strategy as well as inventory.

Talk about why we're likely to see more foreclosures and lenders taking properties back and how smart investors can prepare by building the right team today.

So let's dive in.

First we're going to talk about the data.

What did Adam find?

And for those looking, Adam is a T T O M.

It's a great source for real estate data.

They found that 4% of US mortgages are now seriously underwater.

That is up a half a point because it was just 3 point percent the prior quarter.

So what is an under seriously underwater home?

It's one where the borrower owes at least 25% more than the property is worth.

So they owe a lot more money than they could sell it on the open market.

Some states like Illinois, Louisiana and Mississippi are showing even higher concentrations than that 4.1%.

And just for information, Illinois and Louisiana are judicial states where that foreclosure period can take a lot longer.

Mississippi is non judicial.

But I just want to reiterate, 46% of properties still remain equity rich, meaning homeowners have at least 50% equity.

So what we're seeing is a really growing divide between the haves and have nots in terms of equity.

And we've talked about this in the past about and especially on bigger pockets about what is going to give an entire generation not able to buy a home or home values coming back down based on interest rates to allow the younger generations that ability to buy a home.

But that's a whole nother topic we are not going to dive into today.

But we will dive into why this data matters for note investors.

Because if you're investing in notes, this is providing out a signal.

Now far away there's a little distress signal going out there because more distress leads to more inventory.

We are seeing huge increases in non performing loans and properties underwater, especially investor driven loans in states that were hit hard buy insurance in Texas and Florida, which I'm honestly shocked they're not on the list of locations that were above because as one underwater homeowners or investors face financial pressure.

Many fall behind on payments which leads to a non performing loan.

And banks and funds look at their numbers and will look to divest from having that many non performing loans on their books because of Basil and Cecil and all these other acronyms for GAAP accounting that we're not going to dive into.

But it leads to more opportunities for investors to buy this discounted paper.

But more foreclosures on underwater homes typically leads to more lenders taking the property back, which we are starting to see on the horizon, but also in today's and it makes sense.

When homes are underwater, borrowers are less likely to reinstate or sell.

If people were around 17 years ago now, wow.

Feels like I was just saying five or 10 people were underwater and they were just walking from their homes because they couldn't sell it.

Banks would not work with them to short sell it.

They didn't want the foreclosure.

So like here Dean Lieu.

So this can lead to more assets going full cycle where people like us as investors will go through that foreclosure process and may take that property back.

It's a major shift from what we've seen in these past years where borrower workouts and exits via equity sales were more common.

Now for us, we still look at these equity rich properties, but when you buy pools there's going to be assets that are underwater and if we're taking them back in the past, they would most likely sell at auction.

Today with interest rates, investors a little bit more cautious because a lot of the ones who are just overpaying for assets realize that they can't overpay for assets and are probably gone.

And some of those are even loans we're buying.

And the smart investors know what to pay for an asset and how to make money.

And we have to walk that fine line of okay, do we want to take this thing back and then deal with everything after that or do we want to discount a little bit from what we're owed and what it's worth to try and get it sold.

It's a strategy that you have to decide upon.

Each one can look very different.

But I would tell you, always plan for the worst and of course hope for the best.

And by doing that you need to start building a foreclosure support team.

Not when you're getting ready to foreclose today.

Now start building your team because with more properties headed to foreclosure you will take one back.

You will become that property owner you did not want to be, just not the note holder.

So as we talk about sometimes buying non performing loans, make sure you buy a loan that you're okay with owning the house.

Now what does it mean when I say build your team because you might be a newer investor and not having gone through this.

So what does that consist of?

It consists of Realtors.

You want to get reliable local agents who specialize in these types of assets.

You don't need somebody from Sotheby selling a $5 million house.

Was that their bread and butter Is when you've got an Ariel unless it is a very high end home.

But in most instances it's not.

Preservation companies that can change the locks, board up a window, do things that mow the grass, do things to avoid fines and violations, just recognize you're going to pay for it.

They're going to mark it up probably 100 plus percent.

But it's all about ease, ease of finding somebody.

Now you might be able to find contractors for cleanouts, minor rehabs, full renovations, especially if you plan to flip or rent post foreclosure.

Little tip that I find is I typically will go onto local Facebook groups and see who people recommend for contractors.

It's always referrals is always pretty much the best way to find people.

But be careful because there's scams out there where people will say they cleaned something up and they didn't.

So you also need somebody boots on the ground like a property manager who can either assist you with holding the asset or back to that realtor.

Especially if you're out of state because you're going to need some additional boots on the ground.

Trust me, that's an important one.

Of course you're always going to need the attorney and title vendors that know the state specific foreclosure timelines and laws as well as the servicers and loss mitigation pros who can help maximize getting this done.

But the key if you're taking a property back is especially if you're doing it from afar.

I strongly recommend you have some type of renovation experience or have done some type of rehab.

If you haven't, oh man.

Make sure you have a lot of Advil and if you drink lots of alcohol or something to calm the anxiety because you will have anxiety dealing with contractors.

I was working for one for 20 years.

Trust me, we are not easy people to work with.

I just want to again reiterate when you're doing this, people always push the mailbox Money in the dream about passive investing in notes.

This isn't passive income anymore.

This is extremely active and it's about being prepared for owning an asset.

So I talked about what you do if you do take something back.

Let's talk about a little bit more deeper dive into what some smarter investors I see doing today and some of them are connecting with the brokers funds trading platforms because more inventory is likely coming.

So start talking to them, see what they're hearing, what they're seeing.

I actually have a meeting tomorrow, getting on a train at basically 5am to head up to New York to meet with a seller who We've bought about $5 million of loans in the last two months and they're on the west coast and said, hey, I'm going to be out in New York.

How far are you from New York?

And I said doesn't matter, you're going to be there.

Let's get together, have breakfast and then I'm meeting somebody else for lunch that a new strategic partner we have as well.

I'm going to spend a day at New York, get up at 5, get there by 8, 9 o' clock, breakfast 12 o' clock, lunch, back on a train at 3 o' clock, be home by 6:30.

So quick day trip.

But it's going to be extremely powerful to sit down and connect with these people and really pick their brain on what's coming and how we can strategically work together.

Second I recommend is people really sharpen and hone your skills in strategies.

Is there ways you can streamline your foreclosure timelines?

Are you maximizing options before an auction?

How are you pricing an asset?

Are you ordering an appraisal?

Are you getting a bpo?

Are you talking to some investors, letting them know, hey, I've got this coming, what would you give me for it?

We were looking at taking down a pool of assets that ended up not going through a lot of them in a call it a northeast state.

And we knew that they were nearing the end of foreclosure and I think one of them was already an Rio.

And we reached out to some investors in there and said, hey, what would you give us for this pool?

And they gave us the numbers, which the numbers actually worked for us.

The issue was we just couldn't come to an agreement with the seller at the end of the day on some of the contract terms.

So we end up walking from the deal.

But also understand and this is where a lot of investors sometimes get, I'll use the term, caught with their pants down, they forget.

After you foreclose, there potentially still could be an eviction process.

So know what that consists of.

For example, we don't really buy in Philadelphia, but if you invest in Philadelphia, you foreclose.

It can take months before you get that sheriff's deed.

I've heard people take a year.

We've had an issue in Maryland where we foreclosed one November and I think it was 14 months later before they finally settled the sale.

That is painful, but it can happen.

So understand when you can control and take over that property.

I already mentioned some states, look at the data.

States like Illinois, Louisiana, Mississippi are showing higher underwater rates.

Now if you're in Illinois, I don't invest in Cook County.

Other areas of Illinois we might consider Louisiana.

We've got a few assets there, but not our primary bread and butter.

Mississippi, we like Mississippi.

So some of these states you're seeing more underwater rates, probably more non performers.

Focus your energy where the numbers suggest distress and potential value.

You know, start looking at some tapes and looking at where are you seeing more?

I can tell you right now, southwest Florida, the Port Charlotte, Ocala, no Ocala Center State, Cape Coral, Tampa area, just south of Tampa.

That era.

You want a loan?

I could basically share with you hundreds of loans in that area from builders who just were building and just stop from other people who were buying property and walking away from it.

That's an area where it would be pretty wise to hook up with some realtors and some contractors ahead of time.

Just an example.

And maybe you don't have buying there, but at least you have people in your back pocket for down the road.

Also tell people don't sleep on performing notes.

Despite the stress, only half the market is still equity rich.

So I want to reiterate that still 40, more than half the market is still more than 50% equity.

We talk about our portfolio all the time, how we like to have that equity rich portfolio and having borrowers that pay consistently even in some tough markets.

Now somebody's performing and performing notes backed by that collateral is a great solid option and gives you a higher, much higher likelihood for a workout.

So those are my recommendations.

Based off of this report is not only just start networking with people in the space network with people who can assist and help you because this rise in underwater homes I believe is going to continue to increase.

And with it increasing it's going to be more opportunity but also potentially more risk as lenders are going to take more foreclosures back.

I look at it as both a challenge and an opportunity.

So be prepared and build your team.

Now be a little more strategic.

Also, stay flexible with your exits.

Remember, at 70 we like to adjust our playbook consistently.

We're always shifting and moving.

The reason why is we look at these articles, engage what we're seeing in the market to look at what's coming and we're able to pivot very quickly and being able to pivot very quickly sometimes get you out ahead of the opportunities.

Lastly, if you're ready to get in on the next phase of note investing, whether you're an active buyer or passive investor, just remember we at 7e, we've got the tools, the resources and relationships to help you get there.

You can check us out at 7e investments.com if you're also interested in being more passive in this space.

Remember, we do run a mortgage note fund open to accredited and non accredited investors.

And for those in the active space, we will be hosting the paper trail conference September 18th to 20th in Chandler, Arizona.

So check out papertrail conference.com to learn more about that.

Lastly, as I look to finish this episode, make sure to subscribe, leave a review and share this episode with anyone looking to navigate the shifting mortgage note landscape.

Until next time, keep your eyes on that paper trail.

Thank you all.

Take care of.