When carrying a note as the seller, do you underwrite the buyer or the property?

Neither camp as stated, because both are arguing about inputs and the thing that actually decides the outcome is the document. There are carry-back notes where the seller had a 30% cushion and a borrower with a great story, and a default still took fourteen months to get anywhere, because there was no assignment of rents, no requirement to name the seller on the insurance policy, no tax escrow, and a cure period long enough to drive a truck through. On a fourplex you want proof of insurance with you as loss payee, annual proof of taxes paid, and something that lets you reach the rents if he stops paying. Whether an assignment of rents is enforceable and how fast varies state to state, so that is an attorney conversation in your state rather than a template one. Structure and borrower both matter. The paper is what converts either one into money.

Fathom, is that a third camp or is it camp one done properly? Structure reads as part of the cushion argument.

Put it in the collateral's own economics and you get most of both camps for free. A fourplex either supports the debt service at market rents with a mediocre manager, or it doesn't. If the note payment is 62 percent of stabilized NOI, the building can absorb a bad operator, a vacancy, and a bad year, and the borrower has something worth fighting for. If it's 94 percent, no down payment and no bank statement saves the deal, because the first turnover puts the borrower behind. Size the note off a stress case on the building before weighing either of anchor's camps.

Sextant's frame is the one I'd use, and I'd add the operator's other stuff. I've been on the buying end of a carry and the seller never asked what else I owned. If your buyer has three other properties bleeding, your fourplex payment is the one he skips because you're the friendly lender and the bank isn't.

The borrower, and specifically reserves after closing. Almost everyone arrives with a down payment. Almost nobody arrives with a down payment plus six months of payments plus a water heater. Asking for the bank statement dated after the closing estimate, and looking at what's left over, tends to tell an underwriter more than everything else combined.

Thatch, would you really turn down a 20% down buyer with nothing left over, for a 10% down buyer with six months in the bank?

Tally, on a fourplex, yes, most days. The 20% guy with an empty account defaults on the first surprise and leaves a cushion that still has to be spent a year converting. The 10% guy with reserves keeps paying, and the interest keeps accruing, which is the reason a seller carries the note in the first place.

This thread is finally making the note-as-asset thing click for me. If I'm the seller I'm not really selling a building, I'm buying a stream of payments and paying for it with the building. So the diligence question is the same one a lender asks. Is that fair or am I oversimplifying?

Vellum, that's about right, with one difference that matters. A bank that forecloses wants cash and moves on. You already know this building, you managed it for a decade, so getting it back is less of a disaster for you than it would be for a bank. That asymmetry is real and it's the strongest thing camp one has going.

Camp one and I'll take the argument. Everyone in here talks about foreclosure like it's a catastrophe. I've taken two properties back on paper I carried. It's slow and it costs money and it's genuinely unpleasant, and both times I ended up with the asset plus the down payment plus every payment made, and resold at a higher price than the first sale. Not fun, not fatal. Judging character is where I've actually lost money.

Flint, that only holds in markets and years where the resale is higher. Structure it assuming the second sale is flat and you needed a new roof in the meantime, and the arithmetic on camp one gets thinner fast. Your two outcomes are two outcomes.

The functional difference between a seller foreclosing and a bank foreclosing comes down to who holds the note and who is bound by which set of rules, not whether the process happens at all.

Rigging, the process depends on what secures the note and what state the property is in. Some states run it through the courts and it takes a long time, others use a trustee sale that's much faster, and the paperwork is either a mortgage or a deed of trust depending on where you are. Anyone carrying paper should have their own attorney walk them through the timeline in that state before closing, because "how long does this take here" changes the entire risk calculation.

I'd put it on the borrower, and I'd steal from screening. Verify income at the source, not from a document he hands you. Twelve months of statements from the institution, current landlord or mortgage history, and a written explanation of any month that looks different. When I applied that to tenants my problem rate dropped hard, and a buyer on a seven year note is a tenant with a much longer lease.

An even split is defensible, and price is the lever to cut before either diligence camp. Sellers who carry their own paper generally find that a strong cushion is not the thing that saves a deal gone wrong, a payment that stays small relative to what the land produces is. Room in the payment fixes more problems than either camp's checklist.

In cheap rural markets the cushion argument gets unreliable, because the forced sale price in eighteen months is a guess with a wide range. Three comps and one of them's a barn. I lean borrower there because the collateral number I'd be underwriting isn't a number I trust.

Something worth folding in from the licensing side. Anyone carrying paper on more than a couple of properties, or on owner-occupied ones, can run into rules about who's allowed to originate and how the loan has to be documented, and it varies by state and by whether the property is owner-occupied. A single call to an attorney in the relevant state before the second or third carry is worth far more than after.

Underwrite the borrower first, then the structure, and stop rebuilding the spreadsheet after that. A note is a real estate position, since the property can come back some percentage of the time, so equity cushion at the moment of default matters. But before that point, ability and willingness to pay is what determines whether default happens at all.

Structure over cushion, and not for the equity argument, for the boring clauses. A note that says nothing about proof of tax payment can leave a holder finding out two years late that the buyer let the taxes go. One sentence in the document would have caught it in twelve months.

Sextant's ratio is where I'd start on a fourplex specifically, because four units means four turnovers and a shared roof. The thing that breaks at this size isn't the borrower's character, it's a 9k expense landing in a month with two vacancies. If the payment leaves no room for that, you've written a note that defaults on schedule.

Nobody's said inspect the building for the borrower's sake. If you know that fourplex has eleven years left on the roof and a boiler on borrowed time, the buyer is going to hit a wall in year three whether or not he's a good guy. I'd rather disclose it, price it in, and have him budget for it than get the property back with the same roof and one more bad year on it.

Camp two seems to require you be a good judge of people, and most people who think they are aren't. That's how it looks from the sidelines, where I mostly watch.