Banks and Commercial Lending Bust

Seven more banks were closed by the Feds on Friday, bringing the year-to-date total of bank failures to 106. Meanwhile, Capmark (formerly GMAC Commercial Holding Corp.) is heading into bankruptcy.

Hat tip to Karen De Coster for the original post.

Weekend Edition, Oct. 24-25, 2009

The Commercial Real Estate Bust Begins
UK commercial mortgage backers face $1.6 billion loss

Unsustainable Earnings
Analyst Bove cuts Wells Fargo from "neutral" to "sell"

Fannie and Freddie Are Worthless
KBW downgrades target price of FNMA and FHLMC common stock from $1.00/share to $0/share.

The Truth About Foreclosure

Against my better judgment, I listened to another snake-oil presentation from EWI today. The email sent promised to show me how to get financing for my deals. After over 90 minutes of software salesmanship (Google "Power Stream software" to read all the complaints from people who actually shelled out $2K for this) the way to get financing is to be one of the first 20 people to buy the software at the "special 50% off for Robert Allen's students price" of--wait for it--$2K.

The software is supposed to do all kinds of wonderful things for you, but the emphasis in the webinar was on the software's ability to locate properties in pre-foreclosure and allow you to find the "killer deals"--ones with a large spread between the amount in default and the current market value. This allows you to profit even in a competitive market by acquiring the property and either flipping it to another investor or retailing it. In other words, you acquire the property with a lot of equity built in. Keep that in mind as you read on.

Anyway, one of the statements made by the shill instructor ("one of the nation's foremost experts on Real Estate in this market") struck me because, as a former RE licensee, I do happen to know the law of foreclosure in California. I don't have the exact quote, but the following is pretty close:

If you see a second mortgage while researching pre-foreclosure properties, don't worry about it. It just means they're second. If the first forecloses, the second gets wiped out, so it's in their interest to negotiate with you for pennies on the dollar.

Uh, not so fast there, Mr. Foremost-Expert.

In California (please keep in mind that I am only writing about California) we don't use mortgages. We secure real estate with deeds of trust. In a trust deed system, the trustee holds naked legal title to the property as a neutral third-party between the beneficiary (lender) and the trustor (borrower). The trust deed contains a power of sale clause, allowing the trustee to repossess the property (foreclose) if the trustor defaults (mortgages generally can only be foreclosed by court order).

Foreclosure under California law is a six-step process:

1. The beneficiary notifies the trustee of a default.
2. The trustee or beneficiary executes a Notice of Default. This Notice must be recorded in the office of the county recorder where the property is located at least three months before Notice of Sale is given. A copy of the Notice of Default must be sent to all parties with a recorded interest in the property, a category that includes junior lien holders.
3. During the Statutory Reinstatement Period, which runs from the date the Notice of Default is executed up to five days before the date of sale, the debtor or any junior lien holder may reinstate (bring current and restore) the loan. From the end of the Statutory Reinstatement Period until day before the public auction, the debtor may redeem the property by paying off the defaulted loan in full, plus interest, costs and fees.
4. If the loan is not reinstated, the trustee then files a Notice of Sale. The Notice of Sale contains a general description of the property, and states the date, time and place of the public auction where the property will be sold. The Notice of Sale must be published in a local newspaper at least once a week, for at least 20 days prior to the sale date.
5. 21 days after the Notice of Sale is filed, the property is sold at public auction. Until bidding ends at the foreclosure auction, the debtor or any junior lien holder may redeem the property by paying the defaulted loan in full plus any costs and fees allowed by law. Otherwise, highest cash bidder wins (first lien holder, or holder of debt being foreclosed, may bid the amount owed without having to put up cash). Property that does not sell at auction becomes Real Estate Owned (REO).
6. Trustee's Deed is given to buyer. Sale is final; no right of redemption.

Proceeds from a Trustee's Sale are distributed as follows:

1. Trustee--fees, costs and sale expenses;
2. Beneficiary--full amount of unpaid principal and interest, charges, penalties, costs and expenses;
3. Junior lien holders--in order of priority;
4. Debtor--any money remaining.

So, if you are looking at a property with a ton of equity in a seller's market, why on Earth is it in the junior lien holder's interest to negotiate with you "for pennies on the dollar," when he can protect his position by bidding on the property himself, or simply ride out the foreclosure and get paid from the proceeds of the Trustee's Sale?

More importantly, no one is going to negotiate with you at all unless you become a lien holder: as an outside investor, you lack standing. That looks like cash up front, time, accountants, lawyers, to me: it doesn't look like the material of easy, same-day flips with one-day transactional funding. Don't worry about the funding, though, because the software peddler's transactional funding source (it's a partnership, not a loan) has your back: if the deal doesn't close in a couple of days, you don't have to pay back the money if there was no misrepresentation on your part (and there probably will be, if you follow the advice of the gurus). The funding partner will shoulder the risk and help market the property, it's just that his percentage of the take goes up over time. If the deal turns into a real mountain of dog poop, the funding partner knows which workshop, boot camp, etc., referred you, and exactly which fraudulent technique he can cite to drop the whole, steaming pile back into your lap.

And for God's sake, don't think you'll get creative with some sort of leaseback to the homeowner in default. It's illegal in several states, about to be illegal in others, and just begging for a lawsuit everywhere. It's as simple as this: you have to get the owner off the deed and out of the house. Period. No exceptions.

Be careful when you play with the kids from Nothingdownland.

The Housing Trap

From Casey's Daily Dispatch (scroll down for article), another sign that U.S. housing has still farther to fall.

Casey also debunks (again!) the myth of your personal home as an investment:

IRS data show that during these years [1997-2007], as Americans pocketed $5,312 billion in capital gains, they simultaneously shelled out $5,252 billion in mortgage interest and real estate taxes – a difference so small as to be a rounding error. Over the same period, homeowner costs rose 122% for mortgage interest and 112% for property tax, while personal income increased by a paltry 63%. The cost of home-sweet-home ownership was eating Mr. & Mrs. Suburbia alive.

Fannie and Freddie are worthless

In spite of taxpayers being soaked to the tune of $98 billion to keep the two government-sponsored lenders afloat, leading bank analysts Keefe, Bruyette & Woods (KBW) have downgraded their target price on each from $1.00/share to $0.00/share. That's right, zero!

Fannie and Freddie account for 68% of all mortgage loans generated to date in 2009. Translation: the Feds are still pushing people to take mortgages they can't afford; the Feds' two sponsored lenders, with preferential access to capital, are sitting on great, steaming heaps of toxic paper; the Feds and their lapdog press will somehow find a way to scapegoat the private sector when the government's own scheme comes tumbling down (again).

Read the full story here.

Education of a Real Estate Investor, Days 17-26

Wow, I haven't posted in over a week! That doesn't mean I haven't been engaged. I'll pick up where I left off:

• I met with Bob from Silicon Valley REO on Monday. Here in Silicon Valley, it is a seller's market with respect to under $300K starter houses. There is less than one month's inventory of these on MLS; most sales now are overbids. The buyer's market is in the over $600K properties.
• I missed the Bay Area Real Estate Investing Community meeting in Milpitas last Thursday, due to a schedule conflict. It seems mostly a venue for playing Robert Kiyosaki's Cashflow 101 board game.
• I am still waiting to hear from Platinum Funding about FHA loans on commercial properties.

I was called by one "lender" last week. I immediately recognized it as a scam. They would loan to me on the condition I made the first six months worth of payments up front. I'm pretty sure this is illegal. I Googled the "company" again this week and, sure enough, the fraud complaints are starting to roll in. The website has been taken down.

I may be on to a legitimate source of joint venture (not loan) funding. They do require that you incorporate, which I have not yet done. I'm a bit skeptical, since I came across it by way of one of the snake-oil peddlers. Stay tuned.

Education of a Real Estate Investor, Days 15 - 16

If you are with me so far, you may have noticed that the previous blog posts appeared all at once. I decided to migrate these posts from my self-hosted blog at Escape The Village as I felt the topic Education of a Real Estate Investor really merited separate consideration. Rather than spend money and time registering another domain name and setting up another blog, I decided to set up here on Blogger.

The Trump University commercial real estate webinar was interesting. Of course, there was a $1,000 course you just had to buy and which was discounted 50%, to a mere $500, for webinar attendees but only for 24 hours after the event: "If you're not able to get in now, you probably never will be able to." I guess I won't ever be able to, since I didn't happen to have five C-notes in my jeans, bank, or anywhere else. I'm doing some fact-checking now though, just in case.

I went to Meetup yesterday and found Bay Area Real Estate Investing Community. I signed up for their meeting in Milpitas next Thursday evening.

I spoke briefly with an agent from Silicon Valley REO today. We set an appointment for Monday in his office to discuss my goals further and formulate a strategy.

I contacted Platinum Funding about FHA loans on commercial properties. The agent was closing a deal at the time, so I left my number and am awaiting a call back.

At the free EWI seminar, the instructor emphasized sounding like a seasoned investor. I don't even try, for three very good reasons:

1. The first time I say something stupid, the cat's out of the bag;
2. I need help, and having the commission check tied directly to the quality of the mentoring creates a win-win situation;
3. The surest way to make an expensive mistake is to have your broker thinking you know more than you do.