A non-performing first lien bought at a discount, cured by the borrower in month 7: the quote line by line, the payoff it is not, and the return it gives the note buyer.
A reinstatement amount is every missed principal and interest payment, plus late charges, escrow advances, legal fees and inspection costs incurred because of the default. On an illustrative 6.50 per cent first lien with 21 missed payments of $948.10, the borrower reinstates for $29,856.55, less than a fifth of the $166,335.24 it would take to pay the loan off. A note buyer who paid $80,000, 57.0 per cent of the balance, and sells the reperforming note a year later earns 40.80 per cent.
Worked in full in The Mortgage Note Investor by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
A first lien originated at $150,000, 6.50 per cent over 360 months. The borrower made 60 payments and stopped. The note is bought 14 months later, with the house worth $175,000. The new owner's servicer advances taxes and insurance, files for foreclosure, and in month 7 after the purchase the borrower comes back with the money to cure. All figures are illustrative; yields are annual rates compounded monthly, the convention of the book.
| Input | Value |
|---|---|
| Contract P&I | 948.10 |
| Unpaid principal balance (after payment 60) | 140,416.47 |
| Missed payments at purchase / at reinstatement | 14 / 21 |
| Late charge per missed payment, 4% of P&I | 37.92 |
| Taxes and insurance advanced a month | 300 |
| Foreclosure legal fees to date / inspections and BPO | 2,500 / 350 |
| Price paid + acquisition and boarding | 80,000 + 1,700 |
| Servicing a month, non-performing / performing | 85 / 30 |
| Resale yield on a seasoned reperforming note | 9% |
Missed instalments: 21 × 948.10 = 19,910.14
Late charges: 21 × 37.92 = 796.41
Escrow advances for taxes and insurance: 21 × 300 = 6,300.00
Foreclosure legal fees and costs to date: 2,500.00
Property inspections and BPO: 350.00
Reinstatement amount = 29,856.55
Excel: =N*PI*(1+Late)+N*Escrow+Legal+Inspections
Of the 19,910.14 of instalments, 15,751.58 is interest and 4,158.56 principal, applied in order as if each payment had been made on time. Once the money is in, the loan sits exactly where its schedule says it should be after 81 payments, a balance of 136,257.90, and the borrower resumes the normal monthly payment.
A payoff closes the loan instead: the whole balance, interest on it for every month unpaid, and the same charges.
Payoff = 140,416.47 + 140,416.47 × 6.50% / 12 × 21 + 9,946.41 = 140,416.47 + 15,972.37 + 9,946.41 = 166,335.24
Borrowers ask for one and servicers send the other often enough that the figures should be checked against each other before any letter goes out. A reinstatement quote that includes the balance will not be paid; a payoff quote that leaves out the advances undercharges by thousands.
The buyer pays 81,700 at closing, then 385 a month for seven months for taxes, insurance and the non-performing servicing fee, and pays the legal fees and inspections as they fall. In month 7 the borrower wires 29,856.55. The buyer's own advances, legal fees and inspections since closing, 4,950, come back inside that figure, as do the 4,200 of escrow the previous servicer advanced, provided the sale agreement passed the right to recover them to the buyer, which is what the price assumed. Then the loan pays 948.10 a month, less 30 of servicing.
| Exit | Sale price | IRR |
|---|---|---|
| Sell after 12 payments at a 9% yield | 105,764.15 | 40.80% |
| Hold for the remaining 279 payments | n/a | 16.36% |
The sale price is 79.1 per cent of the 133,660.98 balance at that date. The buyer puts in 86,860 in total and gets back 146,252.92. Most of the 59,392.92 of profit is not the cure itself but the change in what the note is worth once it pays: bought at 57.0 per cent of the balance, sold at 79.1 per cent.
| Month | Missed payments | Reinstatement amount | IRR, sell after 12 | IRR, hold |
|---|---|---|---|---|
| 4 | 18 | 25,998.47 | 48.63% | 16.65% |
| 7 | 21 | 29,856.55 | 40.80% | 16.36% |
| 12 | 26 | 36,286.68 | 32.60% | 15.86% |
| 18 | 32 | 44,002.84 | 26.64% | 15.26% |
The quote grows by about 1,286 a month, yet the return falls, because the extra cash only repays instalments the buyer was owed anyway, while time runs against the IRR. Price moves it more: at 70,000 the resale return is 51.02 per cent, at 90,000 it is 31.93 and at 100,000, 71.2 per cent of the balance, 24.09.
None of this is a reason to pay for a reinstatement. Most non-performing borrowers do not cure, and the price should be set on the path that needs no cooperation, as modify or foreclose shows. The reinstatement is the upside you do not pay for.
The quick estimate of arrears is balance × rate × months: 15,972.37 here. It misses the principal inside the instalments and understates the quote by 3,937.77 before a single fee is added. The second mistake is to treat all 29,856.55 as income. Part of it reimburses advances: model it gross, with the advances as outflows when they are paid, or the return is overstated. The third is fighting over late charges: they total 796.41 here, and waiving them takes the return from 40.80 to 40.21 per cent.
The book walks the reinstatement, modification and deed-in-lieu paths of its non-performing loan, and the free workbook for this case values each one month by month.
Reinstatement brings the loan current: the borrower pays the missed instalments, late charges, advances and fees, and the loan continues on its schedule. Payoff ends the loan: the full unpaid principal plus accrued interest and the same fees. On the illustrative note at month 7 the reinstatement is $29,856.55 and the payoff $166,335.24.
Only as far as the note and state law allow, and servicers often waive them to get a deal done. On the illustrative loan they are 4% of each $948.10 instalment, $796.41 over 21 months. Waiving them takes the buyer's return from 40.80% to 40.21%: they are rarely worth losing a reinstatement over.
Because the note was priced as a non-performing loan and becomes a performing one. The illustrative buyer pays $80,000 for a $140,416.47 balance, collects $29,856.55 in month 7, then 12 payments, and sells the seasoned note for $105,764.15 at a 9% yield: 40.80% a year. Held to maturity instead it earns 16.36%.
This article is one calculation from The Mortgage Note Investor. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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