While a partial runs, the response to a default belongs to whoever holds the note, and under an assignment that is the buyer unless your agreement gives you a say. The cash you were paid at closing stays yours unless you agreed to recourse. What is exposed is the back end of the note that was due to return to you.
Who is in charge when the payments stop
Default means the borrower has broken the terms of the note, here by missing payments. The point at which a late payment becomes a default under the note is set by the note’s own wording, so read that before assuming you have reached it.
If your partial purchase agreement assigns the note and the lien on the property to the buyer for its term, the buyer has the legal standing to send notices, agree a catch-up plan with the borrower or start a foreclosure. You keep a financial interest, because the payments after the buyer’s block are yours, but a financial interest does not by itself give you a vote. Whether you are consulted or only informed is written into the agreement.
How agreements deal with a default
Buyers differ on this as much as they differ on price, and one agreement can combine more than one of these approaches.
| Approach | What happens | What it means for you |
|---|---|---|
| Buyer enforces and is repaid first | The buyer pays for collection or foreclosure. Whatever is recovered goes to the buyer’s costs, then to what the buyer is still owed. | You receive what is left after that. |
| Buy-back option | You may pay the buyer what they are still owed, take the note back and deal with the borrower yourself. | A right you can use or leave alone. |
| Recourse | You are obliged to repurchase the partial or replace the missed payments. | The default risk is back with you, so the price should be better to reflect it. |
Read the default clause until you can say which row you are signing, and ask the buyer to put into plain words anything you cannot place. If it is the second row, find out how the price for buying a partial back would be worked out before you count on it.
What a default can cost you
Time is the first cost: a workout or a foreclosure has to run its course, and nothing reaches you until it does. Money can come out ahead of you as well. Depending on the agreement, legal fees, unpaid property taxes and insurance are taken from a recovery before any shares are divided, and where the buyer is repaid first, a shortfall between what the property sells for and the debt plus costs lands on your share.
Equity is what protects you. It is the difference between what the property is worth and what is owed against it, and the more of it there is, the more room there is for your share after the buyer has been repaid.
Weighing the risk before you choose a partial
Default sits among the risks of a partial note sale that cannot be removed, but it can be judged in advance. A long record of on-time payments is the strongest sign you have. A large down payment and plenty of equity give the borrower a reason to keep paying. A shorter partial returns the note to you sooner, which leaves less time for circumstances to change while someone else holds it.
If the borrower is already paying late, give a full sale serious thought, because it passes the whole risk to the buyer in exchange for a larger discount. To see both priced on the same note, send us the details and tell us how the borrower has been paying.
What the default clause should answer
Foreclosure rules vary by state, so have an attorney in the property’s state read the clause with these questions beside it.
- Who decides between a workout and a foreclosure, and must I be told first?
- Who pays the legal costs, and in what order is a recovery divided?
- Can I buy the partial back, and how is that price worked out?
- Is there any situation in which I have to pay money back?
- Who chooses and instructs the attorney?
The answers decide how each stage of what happens if the payer stops paying during a partial would play out on your note, so get them in writing at closing, while there is no missed payment to argue about.
Related questions
Do I have to give back the money from the partial if the borrower defaults?
Only if your agreement includes recourse, which is a duty to repurchase the partial or replace missed payments. Find that clause before you sign and have an attorney check it.
Can I take over the note if the borrower stops paying?
Only if the agreement gives you that right. Some let you buy the partial back by paying the buyer what they are still owed. Others leave the decision entirely with the buyer.
Who pays for a foreclosure during a partial?
It depends on the agreement. One arrangement has the buyer advance the costs and recover them from the proceeds before anything is divided. Ask for the order of payment in writing.