Sacramento, CA - Non-Performing 2nd Mortgage Note (Chapter 13 BK - Unsecured Creditor Case Study)

I purchased this non-performing second mortgage back in 2014 on a property in Sacramento, CA. At the time the property was valued at $270,000. Shortly after I purchased the mortgage, I hired a law firm (Trustee) that manages foreclosure cases. The Trustee sent out a legal demand letter. Since I didn't hear from the borrowers when the legal demand letter expired, I moved forward with the foreclosure process. We eventually set a sheriff sale on the property in early 2015. About a month prior to the foreclosure sale, the borrowers filed for Chapter 13 Bankruptcy (BK) protection.

The borrowers had a 1st mortgage balance of $270,000, but there was no equity in the property covering my 2nd mortgage loan balance of $97,414. The 2nd mortgage unpaid principal balance was $97,414, plus they owed another $16,000 in past due interest, late fees & lender recoverable legal expenses (owed arrears). With a total payoff on the 2nd mortgage of $113,414.

I filed my Bankruptcy Proof of Claim with the BK Court in the amount of $113,414. A proof of claim is a form submitted by a creditor in order to receive money from a debtor who has filed for Bankruptcy. The Proof of Claim document provides notice of the claim to all of the other relevant parties involved in the bankruptcy, including the court, the debtor, and any other creditors. Shortly after that, the borrowers filed to have a hearing on the Motion to Strip the Junior Lien (my 2nd Mortgage). I knew there was no equity in the property covering my 2nd mortgage, so I didn't contest it.

I was going to be at the mercy of them completing their Chapter 13 BK Payment Plan, and if they did complete their Chapter 13 BK Payment Plan, the Motion to Strip the Junior Lien would be granted by the BK Courts wiping out my 2nd mortgage. Meaning the 2nd mortgage would be no longer valid, no good and uncollectable. If the borrowers didn't complete their Chapter 13 BK Payment Plan, and got dismissed from the Chapter 13 BK, my 2nd Mortgage would be valid again. So, since I didn't contest the Motion to Strip the Junior Lien, the BK Court allowed them to file their Motion to Strip the Junior Lien. The borrower's Chapter 13 BK Payment Plan was a 60 month payment plan. My Junior Lien became an unsecured debt in the Chapter 13 BK Payment Plan. As an unsecured creditor, my Junior Lien was the highest balance debt owed.

In early 2016, I received an unsecured payment check in the amount of $13,346. At the time, I had no idea that I would be receiving unsecured BK payments. Over the course of the next 48-months, I received a monthly unsecured BK payment between $1,004 to $1,033. The reason being is that the borrowers were in a good financial situation, and the BK Court made them address some of their unsecured creditors in their Chapter 13 BK Payment Plan. Eventually the borrowers completed their Chapter 13 BK Payment Plan, and the BK Court granted the Motion to Strip the Junior Lien. Meaning the 2nd mortgage was no longer valid, no good and uncollectable. I had to file a reconveyance (technically my junior lien was a deed of trust) in the county records. A deed of reconveyance is a document that indicates a borrower has fully paid off the mortgage on their home.

I could have waited for the equity to come back in the market, before I attempted the foreclosure, putting myself in a better position to collect on the debt. It wasn't the best case scenario, but the reality is I learn so much in this business, by just learning from real deal experience. I wouldn't change my approach at all, I'm an aggressive note investor and at the time it worked out well for my portfolio. Plus in a high equity market, I would have paid a lot more for this loan, so it worked out well for me based on my cost basis.

As I always say, this is why I love note investing, both parties of the transaction come out ahead, creating a win-win for both parties.

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