Distressed REO and Note Purchases (part 1)

As more borrowers default on commercial RE loans, more lenders are starting to sell either the defaulted notes or, after foreclosing on the property securing the loan, the REO (real estate owned) properties.  These deals are typically “as is” deals, subject only to certain negotiated representations and warranties from the lender/seller to the buyer. 

I thought it might be useful to outline some of the typical representations and warranties we’re seeing in these deals; and also to set forth a reminder about the due diligence that should be done by buyers so they know what they are getting, and don’t just become knife catchers.  In today’s post, I’ve outlined typical reps and warranties.   I’ll outline typical due diligence issues in the next post.

First, at the risk of stating the obvious, there’s a big difference between buying foreclosed REO and buying a distressed note.   If you’re buying REO property, the borrower has already been foreclosed upon, and therefore you as buyer will not have to either foreclose the loan or take the risk that the borrower will file for bankruptcy.  If you are buying a note, however, you as buyer are taking those risks.  This means that a buyer of a note must take additional precautions and do additional diligence in order to make sure that the distressed note is actually worth what the buyer is willing to pay for it.

One way to determine the value of a distressed note, is to evaluate the market value of the underlying real estate collateral, then to take a discount from that in the amount estimated to reflect the likely cost to enforce the loan (possibly all the way through a borrower bankruptcy), adjusted by the likelihood that the borrower (and guarantors, if any) will fight the foreclosure.  This requires both a business and a legal analysis — the latter to determine if there are any defects in the loan documents that would make the loan harder or easier to enforce.

In purchases and sales of distressed REO, the terms of the deal are basically like other purchases and sales of real estate, with a few exceptions.  The seller of REO, typically a lender which has foreclosed upon the property, will not usually make a lot of representations about the property because it is not as knowledgeable as the typical seller — the lender’s position is usually that it made a loan, and will make representations about its ownership of the loan, but not about the underlying real property.  So most sellers of REO will generally represent and warrant as follows:

1.  that the lender/seller has the authority to enter into the sale of the REO, and that the agreement to sell the REO is enforceable against it;

2.  that no interests in the REO have been previously conveyed to others by the lender/seller;

3.  that there is no litigation concerning the REO  other than as disclosed in writing in an exhibit to the purchase and sale agreement;

4.   that the information provided by the lender/seller is true, complete and correct to the extent it has been created by the lender/seller (note that a lender/seller will usually provide copies of third party reports, such as environmental reports, but expressly will not accept liability for their accuracy — buyers need to either engage the provider of such original reports for downdates of them so that they can rely on such reports, or to have new reports done for them); and

5.  other representations typical in CRE purchase and sales agreements may be included.

If a distressed note is being sold, rather than REO, additional representations of lender/seller may include:

6.  that the lender/seller has provided to the buyer copies of all of the contents of its loan file, including all loan documents, modifications and copies of all correspondence relating to the loan;

7.  that the lender/seller is selling the whole loan (or, if the sale is of part of a loan, what part);

8. that the lender/seller owns the distressed loan, and has not conveyed any interests in it to any third party (except as disclosed in writing in the agreement).

In both REO and distressed note sales, there may be more representations and warranties running from the buyer to the lender/seller than in a typical CRE purchase agreement.  In a sale of REO property, in addition to the standard representations that the purchase contract is enforceable against the buyer and the buyer’s signatory has the authority to execute the contract,  the following representations may be included:

1. that buyer has investigated and completed its due diligence on the property, and will rely only on that diligence in electing to purchase the property;

2.  that the buyer expressly agrees its purchase of the REO is “as is, where is”;

3.  that the buyer complies with the Patriot Act;

4.  that the buyer is not an insider or affiliate of the lender/seller.

Sometimes in distressed note sales, a buyer will also represent that it is a sophisticated investor, and can bear the risks of purchasing a distressed note.  These lists of representations are not exhaustive, but should give you an idea of the sorts of reps you’ll typically see in these deals.

Next post:  Due diligence needed for purchases of REO and distressed CRE notes.


34 Responses to “Distressed REO and Note Purchases (part 1)”

  1. 1 Al Heler February 15, 2010 at 5:02 am

    Maura O’connor:

    I appreciate the information, and I am wondering how I can get a daily list of new commercial reo properties.
    Keep up the good work.


    Al helter

    • 2 mauraboconnor February 23, 2010 at 5:58 am

      Dear Al:

      I don’t know where to find a daily list of new REO properties as I am not a broker. I suggest you check with a good commercial real estate broker or a few of them. Also, you might consider getting on “Linked In”, and joining one or more of the commercial real estate interest groups; many of them apparently post lists of commercial real estate deals. You might want to approach lenders you know to ask them; though many of them seem to deal only through brokers. The website http://www.auction.com provides lists of commercial real estate auctions, and auctions of CRE loans. Finally, I invite other readers to jump in with their suggestions about how to track down such opportunities.

      Hope this helps!

      Best regards,


  2. 3 bob eckland February 17, 2010 at 10:53 pm

    Thank you, Ms. O’Connor.

    It is very informative to me. As our firm performs property assessment, environmental and seismic reports, across the country, I thought to mention that we would appreciate the opportunity to assist you with our reporting or with expert witness extertise (I am involved with the latter mentioned work currently in Sacramento and in San Francisco).

    Thank you again, Bob

  3. 5 Tessie Cuy February 18, 2010 at 4:08 pm

    May I have the permission to post your “Distressed REO and NOte purchases in my website?
    Please advise, thanks
    Tessie Cuy

    • 6 mauraboconnor February 23, 2010 at 5:54 am

      Dear Tessie:

      Feel free to link to my article/website on your website. And thanks! I am always glad to hear that folks are reading this.

      Best regards,


  4. 7 Matthew May February 20, 2010 at 9:30 pm

    Mrs. O’Connor

    I enjoyed reading the article. I look forward
    to reading part 2



  5. 9 Lee Sterling February 23, 2010 at 8:09 pm

    Helpful information for the unsophisticated investor. A good warning to always contact experienced counsel. I’d like to refer to your article in my blog. Will that be OK?

  6. 11 James February 25, 2010 at 8:51 pm

    Maura —

    I thoroughly enjoyed your post, and am really looking forward to Part 2. I noticed some of your readers inquired about where they could find a listing of mortgage notes for sale. Historically, if you were interested in purchasing a note, you’d have to go through a broker or contact the note owner personally, like you suggested. However, these days there are some other options. For instance, one website, BigBidder.com, hosts online auctions for a wide variety of residential and commercial notes. Registration is free and easy, and all available documentation is posted online to allow for complete due diligence regarding the note and the underlying property.

    BigBidder.com also has a blog featuring a series of posts titled Note Investing 101. You can find that blog here: http://www.realestatenoteauctions.com/

    Thanks again for the great post!

    • 12 mauraboconnor March 14, 2010 at 10:14 pm


      Thanks for pointing that out. As you mention, there are a growing number of companies starting to put auctions of notes online. I think it’s a great development and over time should encourage transparency. In addition, the use of technology, which allows notes to be cost-efficiently auctioned off one at a time and in smaller quantities, should benefit the overall market by allowing smaller investors to bid for specific individual notes/properties that previously might have been bundled into large pools — which effectively shut out all but very large investors. I am not familiar with BigBidder.com; but it sounds like it is doing what REDC is doing on its website http://www.auction.com. If you or other readers know of other similar websites, it would be great to share this information with readers of this blog.

      Many thanks for writing.

      Best regards,


  7. 13 Joseph March 1, 2010 at 5:14 pm


    Thank you for the information — very helpful.

    What suggestions do you have for identifying distressed CRE that is in special servicing? I am interested in tracking this info.

    Thanks again.


    • 14 mauraboconnor March 14, 2010 at 10:19 pm


      I don’t do this sort of tracking, and so am by no means an expert. I’d probably talk to CoStar to see if I could get access to some of its data on a property by property basis at a price I could afford, as I know that CoStar tracks sales and leasing, and its database can be mined by using specific searches to find out what buildings are in trouble (e.g., leases coming up, etc.). I’ll ask around and see what other options for finding out this information I can find out. In the meantime, if anyone has a good idea about how to track this information, please post it! Maybe we can get a conversation going and help each other out.

      Best regards,


  8. 15 Patrick Valentino March 1, 2010 at 9:13 pm

    Excellent piece. I know your post wasnt meant to be exhaustive. But I am thinking of a few other seller representations we look for including seller’s claims to the unpaid principal balance with an attachment showing the loan and escrow balances if any. The concern being as you step into the shoes of the lender you step into the obligation to fund certain escrows relating to the origination. We have found this to not always be clear in the due diligence review thus the need for the rep to at least see Sellers response. Also a seller representation that the loan was not cross-collateralized/x-defaulted with another of the borrower’s assets-and if so disclosure of that etc. We also want not just the loan file but a rep that the seller was giving us all documents and materials in its possession relating to the lender-borrower relationship. Obviously that last one gets negotiated. Sometimes pushing for that rep helps us get additional contents to a file the bank has one hand even if we dont get the language we like.

    Looking forward to part ii and all of your posts.
    Pat Valentino

    • 16 mauraboconnor March 14, 2010 at 10:09 pm

      Good points, Patrick. I expect some sellers would give them, some would negotiate about language, and some would not, all depending on relative negotiating leverage. They are relatively reasonable points, and of course explaining why you want them makes it more likely sellers will provide them. Thanks for adding to the conversation on this topic.

      Best regards,


  9. 17 Robert Hernandez March 2, 2010 at 6:28 pm

    A useful source for distressed assets is the FDIC. Go to fdic.gov and click on the asset sales button. There have been some rather aggressive purchases from various firms recently.

    Hope this helps.

    Robert Hernandez
    Royalmark Management, Inc
    Property Acquisitions and Performance

  10. 19 Sam Robnett March 4, 2010 at 2:27 am

    Maura’s comments are very helpful when looking at the fundamental differences between a non/under-performing note & a REO. With REO’S Buyer will usually be able to implement their due diligence period depending on the terms of the purchase agreement.

    With notes it is a bit different. Being a broker based out of the Reno/Sparks Nevada MSA, I have been focusing on distressed assets since the middle of 2006. When I first saw the cracks in the capital markets. I have two large client’s who got their start during the RTC days and doing as much up front diligence is key with all real estate transaction, but with notes it is critical. Depending on the institution that is selling the note, some due diligence materials are available. Analyzing the due diligence materials immediately when they become available is very important. Because the purchasing a non-performing note is riskier, it sounds like investors who have commented should talk to their real estate broker about their risk profile & tolerance. Additionally exploring potential exit strategy should be part of every one’s acquisition criteria. Clearly having the right broker and legal counsel as part of your team is very important. While performing notes is not mentioned in this article, due diligence is quite important with those assets as well.

    Regarding opportunities it appears that most of the people on LinkedIn and other social networking sites are simply “quarterbacking” opportunities and wasting every body’s time. If I see a investor or a broker that claims to have access to notes, but requires a “LOI” or a “POF” without any type of asset summary or basic marketing flyer is probably a waste of time. If I see the words “mandate” in some body’s remarks I normally pass.

    http://www.auction.com is a good site to be aware of but JLL does such a good job of marketing the opportunities in there (We put a bid on some of the commercial assets last go round) that investors are overbidding the properties. They have a residential section, as well and there should be opportunities to create and preserve wealth their as well.

    Warmest wishes,
    Sam Robnett

    • 20 mauraboconnor March 15, 2010 at 5:30 am

      Dear Sam:

      Thanks for your thoughtful comments. I agree completely that having the right team and doing one’s diligence is key to getting a good deal when buying a note. Brokers active on the ground can give very up to date assessments of the current value of real property collateral, and knowing that is absolutely vital when assessing the value of a distressed (or any other CRE-secured) note.

      Best regards,


  11. 21 George March 5, 2010 at 5:01 pm

    Maura, what have you seen in terms of the market range for discounts from the collateral value?


    • 22 mauraboconnor March 15, 2010 at 5:28 am


      I have seen only a limited number of note sales, so this may not be probative, but I’m seeing discounts from the value of the collateral ranging from 30- 40 percent of the collateral value up to overbidding the collateral value. There seems to be a lot of money chasing yield, and I think a fairly large number of buyers overlook the costs of enforcing the notes they buy, and many may get burned by this later if enforcement is difficult (for example, if their borrowers file for bankruptcy or strenuously fight their enforcement actions). It will be interesting to see how many people buying now are “knife-catchers”.

      Best regards,


  12. 23 Michele Skupic March 8, 2010 at 5:07 pm

    Maureen -your articles are very informative and I have shared with many clients. I want to repond to any/all readers who are looking for commercial REO property lists. The best site we recommend is http://www.foreclosureradar.com

    I would be happy to assist any investors with their due diligence if they need title report information. Your local title company is always a very good resource. Thank you.

    • 24 mauraboconnor March 14, 2010 at 11:52 pm

      Dear Michele:

      Many thanks for the reference to the Foreclosure Radar site. Thanks for posting!

      Best regards,


  13. 25 Bruce Kusada March 10, 2010 at 6:39 pm

    Please put me on your list for updated articles on commercial real estate.

    Thank you, Capital Real Estate Group

    • 26 mauraboconnor March 14, 2010 at 11:54 pm


      I don’t have an individual list for updated articles on CRE, but our firm has a mailing list and I’ll add you to that. Also, I’m on Linked In, and if you wish, email me there and I’ll add you to my list; when I update this blog I post that on Linked In, and then everyone gets at least a weekly update.

      Best regards,


  14. 27 jesse March 12, 2010 at 5:13 pm

    Maura, thanks when is part II going to be posted? relating to Next post: Due diligence needed for purchases of REO and distressed CRE notes?

    • 28 mauraboconnor March 15, 2010 at 5:24 am


      Sorry to have taken so long to post Part II. I’m almost done with it, but was delayed due to some circumstances outside my control. I hope to be back to a weekly post or better starting this week.

      Best regards,


  15. 29 Sami March 13, 2010 at 2:42 am

    i am buying a 400 unit distressed reo and want to know what types of disclosures i can ask for on the property deferred maintenance and asset impairment?

    • 30 mauraboconnor March 15, 2010 at 12:00 am

      Dear Sami:

      First, you should be sure to have a competent commercial real estate lawyer help you. Generally, however, you can ask for copies of any and all maintenance records provided to the owner of the REO (usually the lender that has foreclosed) and review them; for copies of any physical and environmental inspections of the property in the lender’s possession (usually a lender will only provide these if you agree and understand that the lender is not warranting the contents of those reports, and that you are not in privity with the providers of the reports, so you’ll have no rights if the reports are wrong unless you separately contract with the providers of the reports to provide you with updates of them); and you should also do your own due diligence including having competent inspectors inspect the building, its systems and roof, and have an environmental Phase I done, and have a competent CRE lawyer assist you in your due diligence overall and with respect to legal issues.

      Best regards,


  16. 31 Rudy Munzel March 13, 2010 at 6:39 am

    thanks, looking forward to more

  17. 32 Mario C April 1, 2010 at 4:30 pm

    Very active conversation! and again a great blog post.

    We are working with banks on both the distressed loan sale and performing loan sale side for commercial real estate assets and discounts will all depend on the condition of the bank and quality of the asset. I have seen sales go from $0.30 to $0.95 on the dollar for all property types. The key is finding the seller (“Bank”) that is a real seller and will transact. Sometimes you may find an institution that are looking for pricing guidance from the market but for one reason or another they end up pulling the sale at the last minute. That is the last thing any buyer wants to deal with…

  18. 33 ERic Starr April 2, 2010 at 3:47 pm

    Is there a Part II or more to this informative article?

  1. 1 uberVU - social comments Trackback on February 18, 2010 at 5:12 pm

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Attorney Advertising. This blog is a periodical publication of Maura O'Connor, a partner of Seyfarth Shaw LLP and should not be construed as legal advice or a legal opinion on any specific facts or circumstances. You are urged to consult a lawyer concerning any specific legal questions you may have. The contents are intended for general information purposes only and represent the individual views of Maura O'Connor only. Any tax information or advice contained herein is not intended to be and cannot be used by any taxpayer to avoid tax penalties that may be imposed on the taxpayer.

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