When a Buyers Missed Payments on a Mortgage You Hold, What Should You Do?
Any decision to offer seller financing involves risk. Buyers do not seek seller financing when their financial situation enables them to secure traditional bank loans.
That’s why sellers should:
- Secure a large down payment on a loan.
- Set an interest rate that’s higher than what banks can offer.
Why? Because buyers who make higher down payments have more skin in the game. That makes a default less likely. Higher interest rates reflect the price a buyer pays for less-than-stellar credit.
Even when sellers make every effort to mitigate risk, buyers may default on a loan.
If this happens, what’s your recourse? How should you proceed?
How Late is Late?
A mortgage spells out the payment due date. Borrowers commonly get a 15-day grace period before late-payment penalties kick in.
A traditional lender must wait until a payment is more than 30 days late before they can report a delinquency on the borrower’s credit report. That’s why a seller-financed mortgage isn’t officially delinquent until 30 days pass without payment.
Delinquency is worrisome since your income is delayed. Should you give your borrower the benefit of the doubt?
It’s up to you. If a single payment is a few days late, and the borrower has a proven history of paying on time, there may be a good reason for the delay, such as a payment processing issue.
Keep an eye out for any payment that’s still missing after the 15th day. Watch out for a cancellation of automatic bank payments. Either may indicate more serious problems.
What to Do When a Borrower Defaults
If you don’t receive a payment within the stated grace period, it’s time for you to act.
When it’s hard for a borrower to meet this obligation, your note status changes from performing to sub-performing to non-performing. If you wanted to sell your note for cash in hand, the note is now worth less.
Send the borrower a late notice that states late fees due, in accord with provisions of the original mortgage note. Late fees cannot exceed amounts allowed by the laws of the state where the deed is recorded.
If the borrower eventually makes the monthly payment but refuses to pay late fees, they remain legally liable for the fees. However, you have limited recourse to collect them.
Late fees cannot be used to justify foreclosure proceedings or to reject a regular principal and interest payment. Your best option is to include late fees in your regular accounting of the loan, and attempt to collect late fee payments at final payoff.
When Your Borrower is More than 30 Days Late
Once a borrower is more than 30 days late with a payment, it’s time to decide how to proceed. If you have a personal relationship with the borrower, you may choose to work with them directly to resolve the late payment.
In most cases, though, it’s time to move on. You can take legal action, sell your note or walk away all together.
Selling Your Note
If you believe a borrower is likely to remain in default, you have options besides legal proceedings. You may consider selling your note for a lump sum of cash.
While the value of the note is lower due to its delinquency status, you will be able to walk away with cash, free and clear.
You also avoid the hassles of a foreclosure, which are worse if you don’t live near the property. You may have to travel a lot to deal with foreclosure proceedings.
Deed in Lieu
You may consider obtaining a deed in lieu of foreclosure from your borrower.
With a deed in lieu, your borrower transfers the title of the loan back to you. And you release them from all loan obligations on the remaining balance.
Then you’re free to resell the home.
Foreclosure
A third option is to pursue foreclosure. It’s critical to proceed very carefully to ensure you fully and accurately comply with federal and state laws.
If you don’t, you may find yourself having to start the foreclosure process over. That wastes valuable time and money.
Since laws vary from state-to-state, you need to understand the process for the state where the property is located.
The foreclosure process includes multiple steps to notify the borrower:
- Filing a notice of delinquency
- Filing a notice of default with the court in the county where the property is.
Once foreclosure is complete, you may have to repair the property to get it in sellable condition. If you did not arrange for loan payments to include escrows for taxes and insurance, you may need to pay those bills.
If you face a borrower default on a seller-financed mortgage, consult an attorney. Ensure you follow all relevant laws.
