Banks sell non-performing loans for any number of reasons. Here are some of the reasons I’ve seen. I should point out that banks aren’t the only sellers of non-performing notes (in fact you can find list of the different places where you can buy non-performing notes here) but banks and credit unions are where most non-performing notes originate. Almost anywhere else that you buy them means one or more middlemen and therefore higher pricing.
1. Banks sell notes to avoid unknown liabilitiesSometimes a lender will have a non-performing note on an asset, like a gas station or an old factory where they don’t want to foreclose due to the possibility of the existence of environmental contamination of the land. Once a bank gets into the “chain of title” there’s the possibility that they open themselves up as a target for future liabilities, litigation, etc. A smart (and litigious) person goes after “the money”. Obviously that’s the bank. If you can think of reasons that the bank might not want to get into the chain of title then so can they.
2. Banks want to avoid excessive legal costs and long foreclosure processesDifferent municipalities have different laws regarding foreclosures. If a bank has a pool of non-performing loans in an area where they know that a lot of long, drawn out foreclosures will be required then it can be more advantageous to sell the note.
3. Banks don’t always have the same flexibility and workout options as private investorsBanks don’t always have the same kind of flexibility that you and I would have in terms of how we would approach a loan workout because they’re regulated. Remember, banks are highly regulated, that means that “the box” within which they must work to “rehab” or restructure a loan is not as malleable as that of a private investor or fund.
4. Selling non-performing loans is fastA bank can sell and close on a non-performing loan sale in under a month. That means they’re refilling their coffers and eliminating a ton of man-hours, legal fees, and months of effort. Consider what’s involved in foreclosing on a property, probably “booking it in” (meaning that they buy the note back at auction), then listing it and selling it. Consider all these expenses banks face if they don’t sell the non-performing note:
- Legal fees for notices
- Auction fees
- Property preservation costs
- Municipal compliance costs
- Realtor fees
- Market price risks