As a bankruptcy trustee, you will occasionally run into an individual debtor’s estate which owns a secured note as an asset.
Such a note may have substantial value, and if it does, you must protect that asset.
The note usually originated when the debtor sold a piece of real estate or a business, or it came from a divorce or dissolution of a partnership.
Such a note will be listed in the debtor’s bankruptcy schedules as an asset.
When a bankruptcy trustee finds a worthwhile note in an estate, how should that asset be protected?
There are a few simple steps that will protect most notes.
THE PAYOR:
The first task is to find the person who is making the payments on the note: that payor should now be making payments to the note owner’s bankrupt estate.
It is essential to notify the payor—and the servicing agent who collects the payments, if there is one—that you have been appointed as the trustee of the estate that owns the note.
Instruct the payor where to send the payments. You may have decided to allow the payments to continue to the bankrupt debtor as part of an exemption. Or you may wish to have payments sent to you. You may do this directly, or via the old servicing agent, or through a new servicing agent.
THE ORIGINAL NOTE:
Next, get possession of the original note. This is of the utmost importance to protect the cash value of the note. If you ever want to liquidate the note for cash, you must deliver the original.
Some servicing agents won’t release the original note. If you can’t get possession, at least gain access to the original note—you must know its location and be able to examine it.
When you first examine the original note, inspect it on both sides, front and back, and any permanent attachments to the note, to see if there is anyone else liable to pay—a co-maker, a guarantor, or an endorser. You may want to notify any such parties that you are the trustee.
PAYOR VERIFICATION:
Get the payor to sign a document verifying the balance due and the other terms and conditions of the note. It should say that the math is correct and state that the payor has no claims, rights, defenses or offsets. Ask the payor to volunteer their solvency and income information.
SECURITY:
Get any information you can on the value of the note’s collateral. Obtain a copy of the mortgage, deed of trust, security agreement, and/or non-expired financing statement. Obtain copies of other backup documents that were prepared during the creation of the note, such as the closing statement, and senior liens on the property.
FILE NOTICE:
File a notice in the recorder’s office where the real estate or business is located that you are the trustee, if needed, required, or prudent.
FIRE/HAZARD INSURANCE:
Unless vacant land, find out who is the fire and hazard insurer and inform them that you wish to be named as a mortgagee on the insurance policy.
Find out if the bankrupt debtor has borrowed against the note. Check the liability schedule.
If there is a loan against the note, there may be reason to refuse payment. The reasons for refusal might be:
● The lender does not have possession of the note.
● The loan may be illegal, for example, it may be usurious.
These steps will protect the cash value of most notes you will encounter in a bankruptcy estate.
LIQUIDATING NOTES:
The circumstances of the bankrupt debtor’s estate may lead you to decide to sell the note for cash.
The following checklist will be helpful:
● Think ahead when you request bids: since note balances change constantly, request a bid for what the price of the note will be at the estimated time of closing, not at the time of your request.
● Request bids from responsible bidders. Although anyone can submit a bid, not everyone can perform.
● The successful bidder will normally require a court order authorizing the sale of the note.
● Some things to include in the court order:
1. The exact legal name of the note buyer.
2. A statement that the note is being sold free and clear of all liens and encumbrances.
3. The exact cash price of the note.
4. A statement specifying who is to pay for which closing costs.
5. Which payment is the last to be received by the trustee and which is the first to be received by the note buyer.
6. A statement that the trustee is selling the note without recourse and without warranties.
● You will be required to deliver and indorse the original note to the note buyer.
Some notes will require your special expertise. Use this information as a guideline when you have a note in the debtor’s estate that requires protection and/or liquidation.