31 Steps To Success For Promissory Note Owners
Introduction
Who do I mean by note owners? Individuals and entities who own a secured promissory note, for which they are receiving payments in some installment form.
In the typical legal document called a “Note”, the owner or whoever takes the note by transfer is called the “Note Holder.” The person or entity making payments under the note is called the “Borrower.” Capitalizing these terms simply illustrates the format used in the actual legal document. The “Borrower” is also known as the payor of the note.
Perhaps you sold real estate, personal property or a business, received a down payment, and now are paid monthly installments. While the terms will vary, many practices are desirable or even essential for a successful journey as a note owner.
As a reference for this article I am using two documents. A Note and a corresponding Mortgage with examples at these links. The “Mortgage” is the document securing the Note. By signing the Mortgage the Note Holder receives the rights contained in the Mortgage, and also the rights provided by the law to Note Holders who hold mortgages on real property.
The takeaway is the steps to success for promissory note owners include the provisions provided by the document securing the note.
Here are thirty-one steps you should consider implementing. The first ten are reminders of pertinent steps when a note is created. These are valid to enact whether the note was constructed properly or not.
The next thirteen steps discuss proper maintenance while holding a note. The final eight concepts consider moving forward from note ownership. This includes the sale of part or all of the note, or payment in full.
Table Of Contents
- Know Your Documents
- Secure The Original Note
- Get The Amortization Schedule
- Keep Other Docs Handy
- Verify That Hazard Insurance Meets Requirements
- Keep A Record Of Note Payments
- Establish A Method To Verify Tax Payments
- Consider A Loan Servicing Company
- Keep A Record Of Communications With The Borrower
- Contact Primary Lender
- Make Sure Payments Are Made On Time
- Contact Payor If A Payment Is Late
- Understand Your Default Provision
- Make A Plan For A Posssible Foreclosure
- Consider This Approach To Late Payments
- Verify That Taxes Are Paid Annually
- Verify That Hazard Insurance Is Properly Renewed
- Confirm Proper Maintenance Of The Property
- Do You Need To Inspect The Interior Of The Property?
- Give Advance Notice If A Balloon Payment Is Due
- How Are You Handling Your Relevant Tax Issues?
- Should Your Promissory Note Be Modified?
- Did You Lose The Original Note?
- Continue The Steps Above Until You Release The Note
- Release The Note After The Last Payment
- Your Note Can Be Sold Until You Release It
- Learn About Selling A Note
- Learn More About Real Estate Notes
- Learn More About Business Notes
- Learn More About Structured Settlement Notes
- Complete A Worksheet To Sell A Note
The Steps
Know Your Documents
Do you know your rights under your Note and security agreement? By security agreement I am referring to a Mortgage, Deed of Trust or whatever applies in your situation. You should read these documents at least once, and be mindful of the rights provided you throughout the term of the Note. You need to be familiar with your own documents to properly utilize these suggested steps.
What you hear and read elsewhere can be misleading, because the examples given are based on documents written differently than yours. The documents used also need to comply with the laws in each state. So if there is any doubt how your documents were constructed, make sure that they are in compliance with pertinent regulations.
Secure The Original Note
Storage of the original note is important so keep it in a safe place. Some options include a safe deposit box, a waterproof and fireproof safe, your attorney’s office or a third party servicing company.
Unlike a mortgage or deed of trust, promissory notes are not recorded documents. This gives you added responsibility for your promissory notes as you won’t find a copy at your county recorder’s office. Besides the original, make a copy and keep it in a separate place with related documents.
Promissory notes are also negotiable instruments. If you sell the note you will need to endorse the original making it payable to the purchaser. But if someone else gets their hands on the original note, payment in full can be forged. While the law provides some protection for the rightful note owner, you don’t want to be in that position.
Get The Amortization Schedule
Make sure that your attorney or title company has provided you with an amortization schedule. This table shows you how each payment is allocated between principal and interest until paid in full.
Keep Other Docs Handy
While the original note has added significance, the related paperwork is best kept in an easily accessible way that works for you. This includes the security agreement, amortization schedule, closing statement, title insurance policy, fire insurance policy, deed, payment record, and copies of any superior notes and security agreements.
Depending on your situation the details may vary. For example, if a mobile home is involved keep a copy of the title. Also, it helps to have readily available information about the purchaser(s) of your property, such as phone numbers, social security numbers and place of employment.
Verify That Hazard Insurance Meets Requirements
Have you verified that the hazard insurance is written as required in the note? The basic language of a note makes such a requirement in general. Specific terms are then agreed upon. Insurance requirements are made part of the escrow instructions. There’s more than one opportunity for error. Make sure you got what you asked for, and make sure that you are listed on the policy as the mortgagee, trustee or first contract holder.
Keep A Record Of Note Payments
Complete record keeping of promissory note payments is essential. Either a computer spreadsheet or a handwritten log is fine. Also keep a copy of checks or money orders and receipts from other payment methods.
A complete and legible record should show the date received, amount paid broken down between principal and interest, late charges and remaining balance.
If you ever attempt to sell your note a prospective buyer will require to see your payment record.
Establish A Method To Verify Tax Payments
A typical note places an obligation on the borrower to pay all taxes, assessments and any other charges and fines that may be imposed on the property. You should establish a method to verify annually that the taxes are paid. Upon written request a note also requires the borrower to present to the note holder paid current tax bills.
Consider A Loan Servicing Company
Consider a private loan servicing company to handle certain tasks for you. Possible services include collecting payments, depositing funds wherever you direct, providing monthly statements and year-end financial accounting required for the IRS, online access to your account and managing escrow accounts. Here are two companies that provide such services:
Keep A Record Of Communications With The Borrower
Keep a written record of all your communications with your borrower. When you have a conversation make notes including the date, time, who was present and what was discussed. Whatever other format you may use, keep a copy.
Contact Primary Lender
Are you the owner of a junior note, ie. another lender holds a note recorded ahead of yours? A second mortgage is an example of the associated security agreement. If so, write a letter to that lender advising them of your note, along with your name, address and phone number. Request that they advise you immediately of any late payments on the first loan. You want to make sure that the first lien holder does not file foreclosure before you do.
Part of what’s necessary here is a willingness to bring the first lien current by making those payments. If you are not, and the first lender forecloses, you may lose all that is owed under your note. So in your letter, you want to express your willingness to step in, but if the need arises, you still get to decide your action at that time. Your letter should also ask that you be notified if a Notice of Default is filed. A Notice of Default is covered below.
If you are reading this before creating a note, make sure that the escrow instructions include a “request for notice of default.” The escrow office will have an appropriate form which may vary by state. When you write your letter as suggested above, use this form as a reference.
Make Sure Payments Are Made On Time
Now that the preliminary steps have been taken, you have ongoing steps to put into action. For starters, make sure that the payments are made on time. It’s easy to allow the borrower to make late payments. First, this is a bad habit you want the borrower to avoid. Second, you would rather receive your money on time and avoid the stress of not knowing what to expect. Third, if you attempt to sell your note, a consistent on time payment history will contribute to a higher price for your note.
Contact Payor If A Payment Is Late
The previous step is really about your mindset. When payments are late you do need to take action. You could call the payor and ask why the payment is late and when it will be made. You may not want to make this call and the payor probably doesn’t want to receive it. But this is part of reality and it’s best to deal with it promptly.
How long do you wait before you call? Should you send something in writing first? You will find differing opinions. You may solidify your view as you read on. Take note that unless a payment is made on or before the due date, it is in default. Even though your note may have a clause that provides for a late charge after a grace period, the note has been in default since the start of the grace period.
You may also find the term delinquent used to refer to late payments. While opinions will vary on the usage of this word, expert opinions agree that a mortgage payment is delinquent unless payment is made on or before the due date, the same as the definition of default. Once again observe the language in your documents. You may not find the word delinquent therein but you should find an explanation of default.
Understand Your Default Provision
A note typically includes several provisions regarding default, so become clear on those in your note. Here are two key points to keep in mind.
Default pertains to late payments as well as failure by the borrower to keep any promise or agreement made in the security agreement, if any, securing the note.
Second, if the default is not cured by the date required in a notice of default, the full amount of unpaid principal, interest and all other charges due under the note, may at the option of the note holder, become immediately due and payable without further notice.
Make A Plan For A Posssible Foreclosure
Decide in advance how you feel about implementing a foreclosure action. You might feel bad about the borrower, and you may have no desire to spend the time and resources on a foreclosure. But you do need to decide how you will proceed when payments are late, and may never get caught up. It’s important that you are prepared to move quickly if necessary.
The borrower is the one who is late or not paying. They have the option to bring their payments current, refinance or sell the property.
As the owner of the note if you foreclose are you willing to take the property back? This discussion will not get into the details of judicial versus non-judicial foreclosure states, the type of property involved and your form of ownership. You do need to take all this into account though as you decide how to proceed. Also consider the tax implications. For example, if you take the property back in foreclosure, and do not sell it the same year, you won’t have the proceeds of sale, but you will pay taxes on the remainder of the realized gain that has not yet been reported on your return.
Considering all these points about potential late payments, it would be helpful to meet with your attorney for a consultation to develop a plan in advance. Applicable laws vary by state. Private lenders usually don’t face the same requirements as a bank regarding notices that must be sent prior to foreclosure. They may also be more flexible to negotiate restructuring of a note.
One other option you have is to sell the note. If the note is in default it would be better to sell the note before beginning foreclosure. A note buyer willing to buy such a note, will expect that based on their experience they will succeed in restructuring the note, or be better prepared to foreclose and take back the property. This is one effective way for you to move on and avoid the stress and related issues.
Consider This Approach To Late Payments
Here is one comprehensive approach to late payments for your to consider implementing. You get to choose the details:
- When a payment is one day late call the payor. Try to have a positive conversation. Ask why the payment is late and when it will be made. The idea here is to establish a good payment habit before it becomes a problem.
- The same day as your call, send a letter stating what was agreed upon, and send it certified mail, return receipt requested.
- At the end of the grace period specified in your note, send another letter following up on your previous contact and reminding the payor that the late charge is now due along with the payment.
- At 30 days late enact a plan previously agreed upon with your attorney. For example this could start by sending a Notice of Default (NOD) as specified in the note. You might be prepared to work out a payment arrangement with the payor. Or you could sell the note.
Verify That Taxes Are Paid Annually
Verify that the taxes are paid every year. You previously decided how you’re going to handle this. Now you need to do it annually.
Verify That Hazard Insurance Is Properly Renewed
As a follow-up to number 5. review that the hazard insurance is properly renewed. Is there a need to make any changes, such as increasing the insured replacement cost value to keep up with inflation?
Confirm Proper Maintenance Of The Property
Drive by the property to make sure that it is being properly maintained, or have someone do that for you. Keep in mind the clause in your note that obligates the borrower to maintain the property.
Do You Need To Inspect The Interior Of The Property?
You may have reasons to inspect the interior of a property, if applicable to your note. The note should have a provision allowing you or someone you authorize to make such an inspection. Do so according to the terms of that clause and keep a record of your findings.
Give Advance Notice If A Balloon Payment Is Due
Does your note include a balloon payment? A balloon note requires one final payment earlier than the full term of the note. For example, a note based on a thirty year amortization, with the balance due in five years. At the five year mark the full balance is due including all unpaid principal and interest, late charges and any other amounts remaining under the note and mortgage.
Four to six months before the balloon payment is due, send a letter notifying the payor of the due date. The payor will need time to arrange that final payment which often requires new financing.
How Are You Handling Your Relevant Tax Issues?
Stay up to date on the tax implications of a promissory note which apply to your particular circumstances.
For tax purposes, seller financing is referred to as an Installment Sale. In United States income tax law an installment sale is a sale of property (including businesses), where you will receive at least one payment after the tax year in which the sale occurs. So if your promissory note falls in this category, it will help you to refer to IRS Publication 537, Installment Sales.
Each year the IRS requires you to provide a Form 1098-Mortgage Interest Statement to each payor making $600 or more in interest payments to you, on a single mortgage. You must provide a copy to the IRS as well. As an aside, the word payor as used in the note business, is spelled payer by the IRS. .Go to this link for more information on the 1098.
Remember to use the amortization schedule mentioned in step 3., to find the amount of interest paid.
Should Your Promissory Note Be Modified?
A promissory note can be modified. This requires written agreement by both the note holder and the borrower, unless the original note allows the note holder to do so without notification.
Either party may initiate this process. A common reason is a change in the ability of the borrower to make payments. Any of the terms of the note can be changed, and there may be tradeoffs. An extension of the timeframe to pay off the note could be compensated, for example, by a 1% increase in the interest rate.
One free source of forms to help you with this and other business matters is Wonder.Legal. Another resource is FindLaw Legal Forms which has partnered with U.S. Legal Forms. You may also choose to contact an attorney to complete this task.
Did You Lose The Original Note?
If you lose the original note you have work to do. While payment of the note is still enforceable, you should have an Affidavit of Lost Promissory Note prepared, as long as you can prove that the money is owed to you.
Assuming that you have a copy of the lost original note, you may find a provision therein requiring the borrower to execute a new note. The purpose of the Affidavit of Lost Promissory Note is to ensure that the borrower is not made liable under both the original note and the new note. If the borrower is not willing to sign the new promissory note, you will need to take the matter to court to resolve it.
You can preview for free and purchase an Affidavit of Lost Promissory Note at U.S. Legal Forms. If you ever find yourself in the position with a lost note, keep in mind that you may need to use this affidavit in a foreclosure proceeding some day. At that point you may want to return here and read this article from the law firm Freiberger Haber LLP, titled “The Utility of the Lost Note Affidavit.”
Continue The Steps Above Until You Release The Note
As you move forward from note ownership, this next step begins the final group of steps in this article. Beginning with the end in mind, at the time the last payment is made you will need to provide a release of promissory note to the borrower. At the same time a release of the security agreement is also to be provided. To help you with this process I will defer to the website legalzoom.com. Here is their article titled “Release Of Promissory Note - How to Guide.”
Release The Note After The Last Payment
Until you release your promissory note, continue to work with the steps above. Hopefully things go smoothly as long as you are the owner of your note. But they may not always, and your thoughts and feelings about your note may ebb and flow. Meanwhile you have this set of steps to help guide you along.
Your Note Can Be Sold Until You Release It
And until you release your promissory note, you are in possession of an asset that can be sold for cash. Why would you sell your note? As mentioned earlier, you could sell your note to avoid the foreclosure process. Before you get to that point you may no longer want the responsibilities of owning a note. You may have a sudden need for cash, the desire to make a well deserved purchase or an opportunity to make a timely investment. After receiving a number of payments as a result of your note ownership, it will be great to take advantage of selling your note. Plus to meet some of the needs stated above, you can sell part of your note, known as partials, and keep the remainder.
Learn About Selling A Note
While this may be a new concept for some readers, there is an active cash flow industry that buys notes. A full purchase is based on a valuation of the remaining balance of the note. Partial purchases can be structured in a variety of ways to meet your needs. In that case you will receive a lump sum of cash for selling part of the upcoming payments owed to you. You will also receive the remaining payments, depending on the specific structure of the partial. For more information about this process refer to my home page. For a quote please complete the appropriate worksheet.
Learn More About Real Estate Notes
Many of the steps above use as an example a note secured by a mortgage. This is known as a real estate note. Single family homes, duplexes, apartment buildings, condos, commercial buildings. mobile homes, improved land and raw land all fall into this category. For more information refer to my real estate notes page. For a quote please complete a real estate note worksheet.
Learn More About Business Notes
Business notes are created when seller financing is used to sell a business. A true business note does not include real estate. Notes that include both the business and real estate are referred to as hybrids. Note purchasers prefer to buy business notes separate from the real estate. For more information refer to my business notes page. For a quote please complete a business note worksheet.
Learn More About Structured Settlement Notes
Are you receiving monthly payments as the result of a structured settlement agreement? The right to receive those payments can be sold for a lump sum of cash. Plus you have the choice to sell only some of your monthly payments. For more information refer to my structured settlements page. For a quote please complete a structured settlement worksheet.
Complete A Worksheet To Sell A Note
There are many other types of promissory notes. My focus is on secured notes, ie. notes that are secured by some type of collateral. Additional examples are casino and lottery winnings, annuities, cell tower leases, entertainment royalties, intellectual property rights and licensing agreements. To get a quote to sell payments from any of these notes, use the structured settlement worksheet. For any other type of cash flow without a designated worksheet, please start by sending me an email describing your situation. You may also use any of the other worksheets as a guide to the type of information that is needed.
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