Mortgage Program

A borrower stops paying on a loan held by a mortgage program. What bounds the program's ultimate recovery on that loan?

1. A.The interest that had accrued on the loan before the borrower stopped payingWrong. Accrued interest measures part of what is owed, not what can actually be collected.
2. B.The total capital the limited partners contributed to the programWrong. Investor contributions size the program and say nothing about recovery on any one loan.
3. C.The value realized on the collateral plus any recourse the program has against the borrowerCorrect. A creditor collects out of the security first and out of a personal claim only if it has one.
4. D.The face amount of the loan, collectible in full from the borrower's other assetsWrong. That assumes both full recourse and a solvent borrower, neither of which follows from a default.

Why: The benefit the outline assigns to a mortgage program is predictable income, and the paired risk is default by the borrower. On default the program stops being an income investor and becomes a creditor, and a creditor's recovery is limited by what the security is worth plus whatever personal claim the loan documents give it. Where the loan is nonrecourse, the collateral is the whole of the remedy. That is why the value of the underlying property matters intensely to a mortgage program even though the program never owned the property.

A mortgage program is described to a customer as a participating mortgage program. What does the participation feature add for investors?

1. A.A right to take title to the collateral without foreclosing if the borrower defaultsWrong. Remedies on default follow from the lien and the applicable process, not from a participation.
2. B.A share in appreciation or in the property's income, on top of the stated interestCorrect. The feature gives the lender a slice of the upside a pure debt claim would forgo.
3. C.A guarantee from the borrower that the stated rate of return will in fact be metWrong. The feature adds upside; it does not convert the loan into a guaranteed instrument.
4. D.A right to convert the loan into a general partnership interest in the borrowerWrong. This invents a conversion right unconnected to participating in appreciation.

Why: The outline attributes two benefits to mortgage programs: predictable income, and participation in appreciation. A plain mortgage stops at the contract rate no matter how well the property performs, so the lender misses any gain in value. A participation feature attaches a further claim, typically to a share of the property's cash flow or of the gain realized on sale, giving the program some of the upside an equity owner would enjoy. The paired risk is unchanged by the feature: default by the borrower remains the thing that can go wrong.

A representative calls a program a development program. Its sponsor is acquiring a fully occupied medical office building under existing multi-year leases and intends to build nothing. How should the program be characterized?

1. A.A development program, because the sponsor plans capital improvements to the buildingWrong. Refurbishing a standing, leased asset is not what defines a development program.
2. B.A land program, because the purchase price necessarily includes the ground beneathWrong. Every building stands on land; a land program is one whose asset is the undeveloped ground itself.
3. C.A mortgage program, because the acquisition will be financed with a mortgageWrong. A mortgage program holds loans as its assets rather than borrowing in order to buy property.
4. D.An operating-property program, because its income comes from leases already in placeCorrect. The asset delivers contracted net operating income from the day it is acquired.

Why: Program types in this part of the outline are separated by what the invested money is exposed to, not by the label a sponsor or representative uses. A development program spends investor capital on construction and earns nothing until the building is finished and leased; an operating-property program buys an income stream that already exists and distributes it. Here the leases are signed and running, so this is an operating-property program and its risks are declining occupancy, rising maintenance and replacement costs, and an inability to cover debt service. It would become a development program only if capital were committed to construction whose rents do not yet exist.

Occupancy at an apartment complex falls sharply. One program owns the complex outright; another program holds the first mortgage on it and has no participation feature. How does the decline reach each program?

1. A.It cuts the owner's income at once and reaches the lender only if the borrower defaultsCorrect. Equity absorbs the shortfall first, and debt is touched only when the payment itself fails.
2. B.It cuts both programs' income at once, in proportion to the drop in occupancyWrong. The mortgage program's revenue is a contract payment that does not float with the rent roll.
3. C.It reaches the lender first, since the rate must be reduced when collateral underperformsWrong. Nothing compels a lender to reprice a loan that is still being paid on time.
4. D.It affects neither program, because occupancy is the property manager's responsibilityWrong. The manager runs the property but does not absorb the economic loss from empty units.

Why: An equity program owns the net operating income, so every vacant unit shows up in the very next distribution. A mortgage program owns a contractual payment stream that is unaffected by occupancy until the borrower can no longer make the payment, which is why the outline names predictable income as the benefit of mortgage programs and default by the borrower as the risk. The lender's exposure is therefore later and lumpier, and when it arrives it is bounded by the value of the collateral rather than by the rent roll. Had the mortgage carried a participation in the property's cash flow, part of the lender's return would have moved with occupancy immediately.