Disabled Delinquents

by Lorelei Stevens, President
Wall Street Brokers, Inc.
Copyright © 2015 All Rights Reserved

If you buy a delinquent note, the chances are you are not a holder-in-due course. This could mean real trouble.

These days good notes are hard to find. You may have realized that simple fact yourself. Like some other investors, you may have low­ered your sights. When the good notes become scarce, what kind of notes might you be willing to consider?

Delinquent notes have been getting more attention. They’re easier to find, they’re easier to buy and they cost less. But like most things that are easy, delinquent notes come with some problems that are not so easy.

You may already be aware of the most obvious problems. If you buy a delinquent note, you know you have a slow payor and may have to foreclose. You know that a bankruptcy could impair your foreclosure. It’s likely that the property might not be in the best condition. All these things can raise the real cost of a delinquent note.

For example, the delinquent note that you buy could cause you legal expenses. You might also have to pay senior lien holders to protect your position. You might have to pay taxes and insurance. You might have to fix up the property.

Despite these obvious difficulties, investors today are more willing to consider buying delinquent notes. What makes a delinquent note seem attractive?

Some investors hope to foreclose on the property and plan to re-sell it at a profit.

Some investors hope that the reasons for the delinquency will be resolved and the note will be brought current.

Some investors hope to re-negotiate the note to more favorable terms and affordable payments so the payor can stay current.

Dangers of Delinquent Notes

There is a basic legal danger that could make all of these hopes fail and you might be aware of it. If you buy a delinquent note, chances are you are not a “Holder-in-Due-Course”. This could mean real trouble. Being a holder-in-due-course is a special status that protects you if the delinquent note payor tries to get out of paying. That’s a very important protection. But the mere fact that you bought the note knowing it was delinquent usually disqualifies you from being a holder-in-due-course.

Let’s see how this works. Say you buy a delinquent note hoping to make a good profit and yield. Things can go wrong if you are not a holder-in-due-course! A common occurrence, if you try to sue for payment or fore­close on the property, is that the payor will fight you in court. You can expect the payor to try to get out of paying by complaining about grievances with the note seller.

Typical Arguments That The Payor May Bring Up:

Being a holder-in-due-course insulates you from these arguments. If you are a holder-in-due-course, you are likely to win in court. If you are not a holder-in-due-course, you are not likely to defeat these arguments and the payor could get out of paying all or part of the delinquent note!

So think carefully about what might happen if you do buy a delinquent note! Buying a note that you know to be delinquent usually disqualifies you from being a holder-in-due-course which puts you under some severe legal exposure.

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