Put 40k behind a senior on a 6 unit, got 24k back after 19 months

Run the actual return, because 12k down understates it. You put out 40,000, collected 4,000 of interest over eleven months, then sat dead for eight more, then got 24,000 back at month 19. That's 28,000 total on 40,000 committed for 19 months. Annualized that's somewhere around negative 22% depending on how you weight the interest timing, and it doesn't price the management hours you spent on a building where you were also the creditor.

The number I'd want from you is what the second would have needed to yield to compensate for that outcome at, say, one in five odds. 11% wasn't in the neighborhood.

The part I keep circling is that he paid you for eleven months and then didn't, and nothing in that changed your options. So the recorded second bought you the right to be paid at a sale and nothing else. Was there anything in the doc about what happens on default, or was it a standard note and mortgage with no teeth?

Sizing. 40k of second money behind 480k against a 560k purchase, with 55k of borrower equity, means you were roughly 86 to 93 percent of value depending on where value actually was. A four month schedule slip and a 60 basis point move in the refi market erased your cushion entirely. That isn't a documents problem, it's that there was no room in the capital stack for anything to go wrong.

The mechanism worth naming here is the difference between having a lien and having remedies. A recorded junior lien establishes priority in a sale or foreclosure. It does not by itself give you information, cure rights, or any practical way to act when the borrower is late, and in a second position the practical remedy usually requires the ability to pay off or carry the senior, which most gap lenders funding 40k cannot do.

The pieces that change the picture are negotiated, and they have to be negotiated with the senior lender, not only the borrower. An intercreditor or subordination agreement can include a requirement that the senior notify the junior of default, a right for the junior to cure the senior's payments and add them to its own balance, and a standstill period that defines what each side can and cannot do for a set number of days. Whether a senior will sign any of this depends on the lender and the product, and it needs to be in writing before funding. Foreclosure process, redemption periods, and how junior liens are treated all vary by state, so what a second position is actually worth in a workout is a state law question for a local attorney.

The second mechanism is exit underwriting. A takeout letter states what a lender would do under conditions that existed when it was written. Underwriting the exit yourself means taking the stabilized net operating income you believe, applying the debt coverage ratio the refi product requires, and solving for the loan amount at a rate range rather than one rate. Confirm current terms and coverage requirements in writing with the specific takeout lender, since these move.

@meridian's sizing point and the remedies point are the same failure seen from two angles. Neither was priced at 11%.

I'm still adding up what a first deal costs, and the two extension points are the line that got me. That's roughly 9,600 of the senior's fees paid ahead of your principal, out of a deal that was already short. Did you know the senior could extend without your consent?

So is what @rena-expert describes as an intercreditor different from what people call mezzanine? I thought mezz was the thing that sits behind senior debt, but @trellis had an actual recorded lien, which sounds like just a second mortgage.

I've done three small seconds in a rural market, all under 25k, all on houses where the senior was under 100k. Never got hurt yet, and I think the only reason is that the numbers are small enough that I could actually pay off the first if I had to. The moment the senior is bigger than my checkbook I'm not a lender, I'm a spectator.

What does cure mean in this context? Paying the senior's missed payment for the borrower so it doesn't go to foreclosure?

@meridian I'd push back. Size was tight, but tight positions get paid all the time when the paper lets the junior act. If @trellis had a notice provision and a cure right, month twelve looks completely different. He learns the senior is unpaid in week one instead of finding out later, he makes two payments totaling maybe 8k, he adds them to his balance, and he pushes the sale himself in month 13 instead of month 19. Six fewer months of accrued senior interest and one fewer extension point is most of the 12k gap.

@juniper yes, exactly that, plus the right to add what you paid to what the borrower owes you. It only exists if the senior agreed to it in writing.

Nineteen months of your attention on 40k. That cost doesn't show up anywhere in the numbers and it's probably the biggest line.

How would you verify a refi is real before funding? I assume every borrower has a letter from someone.

@quill you don't verify the letter, you rebuild the math. Take the rent roll they're projecting, haircut it, subtract real expenses including management and reserves, then divide by the debt service at the top of a rate range rather than today's rate. If the loan amount that supports doesn't clear the senior plus you plus fees plus closing costs with room left, the exit is a hope. @trellis needed 545k and the market gave him 465k, and that gap was visible in advance if anyone had run it at a stress rate.

Lending into a property you also manage means the first late payment is a conversation with a client. That's why nothing happened in month twelve.

Saving this whole thread. The thing I hadn't understood until now is that a second lien on a property you can't afford to buy at auction is basically an IOU with recording fees.

He paid eleven months then stopped, which means payment history told you almost nothing. Grim.

Dumb question, why couldn't you just make him sell in month 13? He was in default to you.

@parcel named it for me. If I'm getting paid a management fee by the person who owes me 40k, every enforcement step costs me the fee too. Did you consider handing the management to someone else once you funded it?

My own version, smaller. Refi on a 4 unit slipped eight months because the appraiser wouldn't give credit for two units that weren't leased at the time of inspection. Nobody defaulted, I just carried it, and I was the only lender in the stack so the slip cost me interest and nothing else. If I'd had a junior behind me on a 12 month clock that person would have had a very different eight months than I did.

The lesson I took was that the schedule slips by default and you should fund the term you actually expect.

Worth asking whether lending your own money against real estate repeatedly triggers a licensing requirement where you are, because that varies by state and the thresholds are not obvious.

The cause was the four month schedule slip and everyone here is treating it as a footnote. Renovating on unit turnover in occupied buildings never hits the projected schedule, because you don't control when tenants leave. So the 12 month term was fiction from day one, and every downstream problem, the extensions, the fees, the rate moving under him, came from a timeline that was never going to hold.

@trellis you managed the building. You knew the turnover rate. What did the plan assume?

I'm in the middle of a version of this right now, on the borrowing side. Second position lender, 12 months, and I'm at month ten with a refi that needs one more month of stabilized rents than I have. I called him last week rather than waiting for him to notice, and he agreed to a three month extension at a flat 1,500 instead of points. What made that possible was that I'd been sending him the rent roll monthly since day one, unasked. @trellis if he'd been giving you information all along instead of you having to infer it from your own management reports, I wonder if month twelve happens at all.