The Official Magazine of AAPL May/June 2019
Michael Schumacher & Aaron Roth Flight Path to Success
BUSINESS STRATEGY The Next Baby Boomer Boom
LEGAL What Your Attorney Didn’t Tell You
ALTERNATIVE ANGLE Residential Real Estate Rallies MAY/JUNE 2019
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06 BUSINESS S TR ATEGY
06 T he N ex t Baby B oomer B oom by J ef f Levin
10 Y ield C ompr e s s ion by Edward B rown
14 LOAN SERVICING
T he For e c los ur e Pr o ce s s by Chr is Ragland
20 IR A APPROACH
Ta x Sea s on: W hen Re t ir emen t Accoun t s C an Reall y Shine
by Clay Malcolm
24 LENDER LIMELIGHT
St r ik ing a Balance a t 15,0 0 0 Fee t
wi th Michael Schumacher and Aaron Roth
30 C A SE S TUDY: FROM BLIGHT TO NEW LIFE 32 LEGAL W ha t Your At tor ney Didn’ t Tell You
by N ema Daghbandan, Melis s a Mar torella and V ic tor ia W yat t
40 LEGISL ATION
Florida Business-Purpose Checklis t by Kat Hunger ford
42 SPECIAL FEATURE
What Will Private Lending Look Like in the Future?
46 ALTERNATIVE ANGLE
Re s iden t ial Real E s t a te Rallie s by Rober t Greenberg
50 L A S T C ALL H ow We B ec ame L ender s by Acc iden t wi th Yoav Gilad
FROM THE CORNER OFFICE
As we move into warmer weather, flowers begin to bloom and showcase their vibrant colors. For me, spring always evokes thoughts of change, EDDIE WILSON
prompting me to reflect on the transitions I’ve
Whether it’s expanding job roles, moving to a new
made over the past few months.
Managing Director, AAPL
KELLY SCANLON Copy Editor
SPRINGBOARD CREATIVE Design
Edward Brown, Nema Daghbandan, Yoav Gilad, Robert Greenberg, Kat Hungerford, Jeff Levin,
Clay Malcolm, Melissa Martorella, Caleb Olsen, Chris Ragland, Victoria Wyatt
COVER PHOTOGRAPHY Elizabeth Trujillo, BlushPix
Private Lender is published bi-monthly by the
American Association of Private Lenders (AAPL).
AAPL is not responsible for opinions or information
city, or embarking on a new exercise regimen, change
is rarely easy. It often means stepping out of our comfort zones and doing something that feels unnatural.
Think back to a time when you experienced a change in your life. You
probably felt nervous about the uncertainty ahead. Would you have made the same decision knowing what you know at this moment? Looking back
from where I am today, while there are things I may have done differently,
I am happy with the choices and changes I’ve made. Building this company alongside my team has boosted my motivation and made me want to do more with my creativity.
Embracing the theme of change, I’ve been reflecting on some of the
transitions we’ve had at AAPL this year. We’ve changed the dynamic of our team and put a number of new processes in place to ensure we’re
presented as fact by authors or advertisers.
bringing you, our readers, the best possible private lender content.
If you’re wanting to make a life change, be it related to your career,
Visit www.facebook.com/aaplonline or email PrivateLender@aaplonline.com.
Visit www.issuu.com/aapl, email
PrivateLender@aaplonline.com, or call 913-888-1250.
relationships, or health and well-being, I’ll leave you with this quote: “Life is a series of natural and spontaneous changes. Don’t resist
them; that only creates sorrow. Let reality be reality. Let things flow naturally forward in whatever way they like.” — Lao Tzu Have a happy and healthful rest of your year!
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Copyright © 2019 American Association
Managing Director, American Association of Private Lenders
of Private Lenders. All rights reserved.
BUSINESS STR ATEGY
The Next Baby Boomer Boom How the postwar generation will shake up the housing market by Jeff Levin
Due to their sheer numbers, the baby boomer generation has had an outsized impact on society. They have been driving cultural change and economic expansion since the 1970s. Lately, they’ve been influencing society in a new way—by holding on to their homes longer than expected. That trend, however, is about to reverse very suddenly, creating exciting opportunities.
During the next six years, according to Fannie Mae, between 10 and 12 million baby boomers will sell their family homes. This massive divestiture will create a huge opportunity for private lenders. The oldest segment of the baby boomer cohort, now in their 70s, is beyond the typical retirement age. In the past, people at this age broadly sold their family homes and purchased smaller condos and apartments, often in warmer climates. So far, baby boomers have bucked this trend, with fewer of them downsizing in the aftermath of the Great Recession. This has contributed to lower inventory levels
of single-family housing since the beginning of the decade. Boomers own about 40% of the single-family homes in the U.S. As the oldest portion of the baby boomers progress through their 70s, factors including unavoidable health issues and their unprecedented lack of retirement savings are expected to finally push them to start selling. The buyers for these homes naturally will be the emerging cohort of millennials, plus a good chunk of the Gen X group, ranging from their 20s to 40s. It’s been widely reported that millennials, in particular, have been living with their parents, marrying later (if at all) and are less interested in pursuing some gauzy vision of the American Dream.
While millennials and the younger portion of Gen Xers do share many of those characteristics, it’s inaccurate to assume they’re less interested in home ownership. They’ve simply put off buying a home until later in life due to a combination of the aftermath of the Great Recession, the housing inventory crunch, the fact that they do pair off at a later age than prior generations did and their unprecedented debt from student loans.
OPPORTUNITIES FOR PRIVATE LENDERS The conflux of these two conditions—boomers selling later in life and millennials buying later in life—will open up significant opportunities for private lenders because there will be regional disruptions in the market. There are three characteristics to watch for, depending on the density of your market:
01 In some regions there
will be a glut of boomer
“The conflux of these two conditions—boomers selling later in life and millennials buying later in life—will open up significant opportunities for private lenders because there will be regional disruptions in the market.”
inventory, driving housing prices down because there won’t be enough young buyers able to step up to the prices boomers expect to earn.
02 O ther markets will see a torrid pace of transactions between the generations where sellers and buyers are more evenly matched.
Think of this as a jump ball of activity that lenders should be ready to participate in.
03 A nother group of more
urban markets will experience surging demand for multifamily housing that features more amenities than usually
BUSINESS STR ATEGY
offered, despite an oversupply of boomerowned houses likely to be on the market. Let’s examine the opportunities for private lenders in each of the buckets mentioned above.
INVENTORY GLUT For the boomers caught in the trap where the glut of inventory will not keep pace with demand, lenders have an opportunity
to provide services. As mentioned, the boomer generation is starting retirement with very little savings. Research by the Insured Retirement Institute (IRI) indicates that 24 percent of boomers have literally nothing saved for retirement, the lowest level since the study started in 2011. In fact, 42% have less than $100,000 saved. The majority of boomers will be living off their Social Security income. For boomers past retirement, this situation makes refinancing their homes almost impossible.
Put our Lender Services team to work for your business
Private lenders, of course, offer financing based on the value of the property, generally not the income of the borrower. In markets with overstocked boomer housing for sale, sellers are going to need to make cosmetic upgrades to stand out from the pack. This means the opportunities to finance for fix and flip operators will surge. In addition to financing flippers, some private lenders can also find new ways to directly finance the homeowners who need to upgrade their properties in order to sell them. This would include creating finance products that would enable a boomer homeowner to relocate, make necessary repairs and upgrades, and attract younger buyers. Of course, in structuring this product, lenders must keep in mind that lending directly to owner-occupied homes has inherent risks associated with it.
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In markets where there’s a torrid pace of transactions to be expected—where there’s a good match between the expected surge in boomer sellers and
millennial or Gen X buyers— speed will be of the essence. Private lenders can generate earnings by offering bridge financing to would-be buyers. Many fintech products offer rapid mortgages and are widely adopted by millennials. The largest of these is Quicken’s Rocket Mortgage, which promises a four-week turnaround from approval to closing. In most cases, these products support buyers with higher credit scores. Subprime borrowers are an underserved market when it comes to speed, and this is where private lenders can really make a difference. In the hot markets, they can provide bridge financing to push a buyer’s offer to the front of the line, allowing them time to refinance after the sale with more affordable FHA, VA or other mortgage products that may be available to them.
URBAN MULTIFAMILY HOUSING In many urban markets, multifamily housing is likely to increase in appeal, provided the new units offer a rich layer of amenities and are situated in walking-friendly neighborhoods near good transportation options. These are neighbor-
hoods like Trinity Heights in Durham, North Carolina; downtown St. Paul, Minnesota; Inman Park in Atlanta, Georgia; or Sugar House in Salt Lake City, Utah. Some of these markets have already seen burgeoning demand. The trick is to find other similar areas where high demand for millennial workers in good paying jobs is likely to transform neighborhoods. Traditional lenders have cooled to multifamily housing over the past few years, so there are going to be a multitude of opportunities for private lenders to support such projects and take advantage of this dynamic.
ABOUT THE AUTHOR
In the months and years ahead, you are likely to see many conflicting articles about the housing market as boomers start selling homes in droves. Some prognosticators are predicting doom and gloom from an expected glut of housing stock. It’s true that, in some regions, boomers will be in for a nasty shock as sale prices will fall far short of their expectations. Other pundits will report nothing but sunny skies ahead. The key for private lenders is to recognize that all housing markets are local, and that rapidly changing conditions, whether for better or worse, always afford growth opportunities for those who can step in and make a difference. ∞
of iWantaLowRate.com and
JEFF LEVIN Jeffrey Levin is a bestselling author and the founder and
president of Specialty Lending Group (SLG), a boutique
private real estate lending company servicing the
Washington, D.C., metro area. Prior to launching SLG, he
was the co-founder and CEO Monument Mortgage. Levin is
a recognized authority on real
estate investing and a frequent lecturer and panelist.
He is a member of the
American Association of
Private Lenders and serves on its Education Advisory
Committee. He is the author of the Amazon best seller,
“The Insider’s Guide to Private Lending,” which details his
experiences in private lending and advice for individuals
looking to get into the business. Levin earned a B.A. degree
from the American University
in Washington, D.C., and lives on Capitol Hill with his wife, Dunniela, a Canadian trade
lawyer, and his two sons, Jack and Charlie.
BUSINESS STR ATEGYÂ
YIELD COMPRESSION Why rates for alternative real estate financing are declining in this rising interest rate market
by Edward Brown
he prime rate has been
slowly over the
past six months, but real
estate financing in the alternative sector in California has decreased. Why?
Competition among private lending companies in real estate has increased over the past five years. This has led to brokers shopping around on behalf of their borrowers to get the lowest rates and points. Too many lenders have seen a tremendous influx of capital from the private sector [investors] for two reasons: the low rates that banks pay on deposits and the volatility of the stock market.
SUPPLY AND DEMAND Before 2013, the difference in rates charged by private lenders and the prime rate was about 5%. Although the prime rate stayed stagnant up until 2018, the rate differential shrunk to about 3.5%. This yield compression was due primarily to the typical economics of supply and demand. There was too much money pouring into California by investors. These investors saw
that real estate in California had not only stabilized [since The Great Recession], but had increased substantially, lowering the perceived risks of making private loans. The default risk of making fairly conservative loans (less than 70% LTV of purchase) was minimized even further by an increasing real estate market. By the time the loan was eventually paid off due to refinance or sale of the underlying property, the LTV had gone down to as much as 40-50%. This was especially true in the fix and flip market for seasoned borrowers with good track records. Although real estate prices seem to have cooled off from the frenzy of buyers (especially those who continually paid over asking price), many of the larger lenders in the fix and flip market have gone as far as lending over 80% of purchase and up to 100% of the anticipated rehab. The amazing part is that these lenders are willing to lend their money to these fix and flippers at rates as low as 7% and 1 point; this is unprecedented. Not only are these lenders taking more risk than in previous markets, but they are doing so at extremely favorable rates. One can only conclude that these lenders have a tremendous supply of capital
â€œToo many lenders have seen a tremendous influx of capital from the private sector [investors] for two reasons: the low rates that banks pay on deposits and the volatility of the stock market.â€? that needs a home, especially lenders who have investors who are promised a preferred return (usually in a fund vehicle). In these cases, idle money is a yield drag to the fund and jeopardizes not only the payout to the investors but also the profit to the manager, as is typical in a mortgage pool fund. Idle money in a fund is usually held in a low interest-bearing account at a bank awaiting deployment. These deposits need to be liquid, as most private lenders market themselves as speedyâ€”one of the advantages over a typical bank. In addition, their private place-
ment memorandums dictate that idle funds be held in an FDIC-insured account; thus, the low yield on these deposits to the fund.
SOMETHING IS BETTER THAN NOTHING When borrowers shop around for California lenders, they may find two to five lenders willing to make them the loan they need at favorable terms. Most of the time, the borrowers enlist a mortgage broker who
BUSINESS STR ATEGY
does the shopping for them. Although the mortgage brokers may have favorite lenders they work with, the brokers also know that many sophisticated borrowers work with more than one broker. So, the first one who can get the deal done usually wins out. In addition, the broker realizes that some commission is better than none. Many times, these brokers quote lower than normal rates and points to secure the deal. What once might have been quoted as a 9.5% and 3-point deal is now hovering around 8.75% and 1.5 points. (As noted earlier, certain fix and flip lenders are charging even less.) The lender usually charges points, so both the broker and the lender are earning less on each transac-
tion because of the lowering of the points that have to be shared between them. Most of the interest rate is earned by the lender’s fund, but there is overhead that needs to be subtracted as well as the preferred return promised to the investors of the fund. A 7% preferred return is not uncommon. However, the economics appear to dictate that a preferred return of closer to 6% may be on the horizon. If interest rates paid by banks to depositors stay relatively low, then investors may not balk at a lower preferred yield. But, if the prime rate continues to rise, one might believe that interest rates on deposits at banks will follow. At some point, in order to attract investors, private lenders will have to increase the rates paid to their investors. The only way to do that would be for
these lenders to start increasing the rates they charge borrowers, as profit margins to the lenders have been squeezed to its lowest level in many years. The lenders who can run their companies “lean and mean” will have the advantage in this market and the one to come. Outside of California, lenders have enjoyed higher yields, but that comes with the potential instability of the real estate market. Many investors have chosen to take the path of least resistance—location, location, location—and to stay conservative by earning less than what they could in other states, but potentially reducing the risk. Generally, stable California markets have severely reduced the risk of loss of principal and, consequently, produced lower yields to investors/lenders. However, since a loss of 20% of principal in one year means that one has to make 25% the
following year just to break even over the two-year period, the prudent investor/lender might be wiser to accept a lower yield and not balk too much at a lower yield. Ah, the quandary of investing in California! ∞
ABOUT THE AUTHOR
EDWARD BROWN Edward Brown is in the
public relations department of Pacific Private Money, a private lending company
based in Novato, California.
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PART 3 OF A 6-PART SERIES
THE FORECLOSURE PROCESS The process isn’t always sunshine and roses— these tips will help you avoid potential problems.
by Chris Ragland
THIS IS THE THIRD ARTICLE IN A SIX-PART SERIES THAT COVERS ASSET MANAGEMENT AND THE DISPOSITION OF DISTRESSED LOANS.
Everyone wants their investments to be successful. But sometimes, even if you’ve done your due diligence and taken great care in the underwriting process, your investments just don’t turn out how you hoped they would.
So far, this series of articles has been about doing everything in your power not to end up with costly Real Estate Owned (REO) properties in your portfolio. But, there are occasions when you have to roll up your sleeves and get your hands dirty.
BEGINNING THE PROCESS Before we discuss the foreclosure process, let’s take a step back and talk about the events leading up to the process being triggered. State laws and individual company procedures will guide what this entire process looks like. I’ll use my own
experience in the state of Texas as an example.
trust, the borrower is notified and legal counsel is engaged.
Your deed of trust will specify what qualifies as a loan default. This will vary, sometimes broadly, from lender to lender. Failure to make interest payments, failure to keep construction on track and going beyond the maturity of the loan are all potential signals of a loan default. We give borrowers ample opportunity to keep their project and payments on track and to catch up on any missed payments. The borrower’s monthly payments are considered late after the 10th of the month. The loan is in default when payments are late 30 days or more. We send correspondence (“late letters”) to clients via both email and the U.S. Postal Service on the 11th day and the 41st day of delinquency. If the borrower hasn’t caught up by the end of the second month of delinquency, we’re forced to commence the foreclosure process.
There are a couple of different circumstances that influence how we proceed from here. If the borrower has no prior default and reinstatement, a 10-day demand letter is sent to the borrower. If a construction default has occurred and the loan has not matured, a 30-day demand is required before accelerating the loan. The next step is for an appointment of a substitute trustee to be recorded, and counsel will post the loan for foreclosure 21 days before the foreclosure sale date, which is typically the first Tuesday of the month in the state of Texas.
To reiterate, foreclosing on a property is the worst-case scenario (maybe not the worst case, but far from ideal) for any private lender. Foreclosure in the state of Texas is a nonjudicial process, making it a bit easier for lenders to protect their interests. Here’s how it works. Once a foreclosure is triggered by the terms agreed to in the deed of
PROTECTING YOUR ASSET In the background of all these proceedings, something else is happening in preparation for the foreclosure date. Unfortunately, you’re limited on the action you can take before the foreclosure, but you need to have a plan in place for asset security and property preservation before you even think about the disposition of the asset.
Since foreclosure can happen at various stages of a project, the condition of the property will determine which course of action you will need to take to secure it. In many cases, a foreclosed property may be in the middle of construction. So, it could be that your biggest enemy is the elements. Quickly make sure the home is weathered, which typically means progressing construction to some extent, so you avoid damage that could cost you more money down the line. For lenders who have
“... you need to have a plan in place for asset security and property preservation before you even think about the disposition of the asset.”
assets in cold climates, winterize the home to protect plumbing and other systems that are vulnerable to a freeze. If the home is still in the construction phase, it might also be a smart
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move to board up windows and other entryways to secure any construction materials that are on-site. Additionally, cure any existing code violations on the property.
Many code violations require only simple fixes, while others might be more involved. Curing them immediately can save you a lot of headaches down the road. Do your best to maintain an amicable relationship with the borrower throughout and following the foreclosure process. You might have to rely on them to access plans, permits and other important information. Lenders should always give their clients ample notification and plenty of opportunity to fix the situation. But it’s not always sunshine and roses. Remember,
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you are dealing with folks who have just found themselves in an unfavorable position. The most common problem you need to protect against is theft. As soon as the foreclosure occurs, all points of entry to the property need to be secured. This includes changing all the locks and/or codes to doors and gates to the home, as well as any other entrances like garage doors. But if a borrower is facing foreclosure, they have a head start on the lender because they are aware
of the foreclosure date well before it happens. Keep in mind that when a borrower gets foreclosed on, they’ve potentially just lost a lot of money, so they might be inclined to do whatever they can to recover some of that cost. In some cases, they might even try to take appliances, fixtures and anything else of significant value that can be removed from the property. It can be difficult to prove what, if anything, the borrower has removed. But, if the servicer of the loan has a
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thorough draw process in place, you may be able to refer to photos the borrower has submitted for construction draws to show that items previously in the home were missing once you took control of the property. In rare circumstances, you may encounter an unreasonable borrower. They might even try to intimidate the people working to secure the property (e.g., locksmith, construction crew, etc.) or even the lenders themselves. If this happens, it’s wise to engage local law enforcement and file a criminal trespass against the individual. If the situation escalates to that point, you also should consider installing motion sensor lights and cameras around the home to discourage the borrower from entering the property. Alert the neighbors to the situation, so they can inform you of any suspicious activity. Having to foreclose on a property can be dirty business. Lenders need to be prepared to ensure the security of their assets. Nothing in the investment world is perfect, and rarely do things ever go according to plan. But if you’re aware of the potential problems, and you have resources and processes in place to protect your
interests, you’ll be one step closer to mitigating losses you might incur when good loans go bad. ∞
ABOUT THE AUTHOR
CHRIS RAGLAND Chris Ragland is the chief
operating officer of Noble Capital, a private invest-
ment firm specializing in real estate. He is responsible for
the day-to-day operations of Noble Capital, as well as for
spearheading the expansion of
existing and new business lines for the company. He hosts The
Noble Capital Radio Hour, a talk radio show produced by Noble Capital. Chris spent 15 years
building firms that specialize in loan servicing, loss mitigation, full service brokerage,
maintenance, rehabilitation and REO disposition.
IR A APPROACH
Tax Season: When Retirement Accounts Can Really Shine A self-directed IRA allows you to invest in private, hard and “alternative” assets without sacrificing the plan’s tax advantages. by Clay Malcolm
he 2018 tax
and health savings accounts
limiting investors to a narrow
has come and
save for retirement. They have
providers expose their clients—
have always helped individuals
gone. Last year
also been commonly associated
suite of asset options, some IRA and their prospects of a timely
was hopefully a prosperous one for you and yours, but a lucrative year for you can also mean a lucrative April for the Internal Revenue Service. A higher tax bill often coincides with a strong period of company earnings, so it’s prudent to consider ways to diminish your tax responsibilities.
with stocks, mutual funds and
retirement—to the dramatic ups
In many cases, a person’s
Tax-advantaged savings accounts such as IRAs, 401(k)s
their stock positions, but that is
Many people are unaware that the assets allowed in a retirement plan are decided by the trustee or custodian that holds the plan. The IRS and the Department of Labor have not applied blanket limitations regarding permissible assets (with exceptions, such as restrictions placed on life insur-
other publicly traded equities.
retirement account is employersponsored and managed by a third-party firm in a manner
that prevents the account holder from dictating how their con-
tributions are invested. Others may have the ability to choose where the flexibility ends. By
and downs of Wall Street.
ance, collectibles, etc.), but IRA custodians may determine, as individual businesses with the freedom to do so, which assets their investors may purchase with their accounts. This is where self-directed retirement sets itself apart. Instead of hoping everything goes well on the stock ticker, a self-directed IRA empowers you to invest in private, hard and “alternative” assets as you see fit without sacrificing the tax advantages of your retirement plan. This includes the ability to originate private loans with
your retirement dollars through a process similar to that which you may already utilize. As a self-directed IRA holder, you can qualify your potential borrowers and make final decisions on loan durations and interest rates. All payments would be subsequently deposited into your account. Account earnings would be tax-deferred, so you can build a key facet of your financial future without having to oblige the tax man every year. Whether you choose to issue loans with a self-directed IRA, stick with the stock market
or diversify your portfolio to include both strategies, the tax benefits retirement accounts offer are certainly worth thinking about.
2019 if you are below the age of
In exchange for the near term
you’re age 50 and above. Keep
IRA holders enjoy when
Let’s explore some of the more common retirement account types and highlight the nuances that may appeal to you.
or different types. You can
50 and an additional $1,000 if in mind that you can have
multiple accounts of the same also consolidate your retire-
ment accounts via transfer (a movement of funds between
similar account types, such as
Traditional IRA to Traditional IRA) or rollover (a movement
Traditional IRAs allow you to defer contributions from your income for tax purposes. You may contribute up to $6,000 in
of funds between dissimilar
account types with the same
tax statuses, such as 401(k) to Traditional IRA).
tax benefit that Traditional making contributions and
the long-term advantage of
tax-deferred earnings, the IRS will eventually collect taxes
on distributions (withdrawals).
However, these are designed to occur at retirement age, when the account holder is presum-
ably in a lower income tax
bracket. For instance, let’s say
you open a self-directed Traditional IRA and make a $6,000
contribution. Let’s also assume MAY/JUNE 2019
IR A APPROACH
you earn $75,000 a year. Your
only pay taxes down the road
contribution provides an imme-
when you begin taking distri-
diate tax advantage by enabling you to deduct the $6,000 from your income, so you would pay income taxes on only $69,000 instead of the full $75,000. Now let’s say you issue a shortterm loan of the $6,000 at 10% interest on behalf of your Traditional IRA. Your account would
butions. Again, remember that Traditional IRA distributions are meant to be taken when you are older, possibly earning less per year, and theoretically paying taxes at a lower percentage rate.
have $6,600 at the end of the loan, and you would not have to pay any taxes on the $600 because you used a self-directed retirement account. You would
Unlike Traditional IRAs, Roth IRA holders may not deduct their contributions from their income. They must pay taxes
on that money as if it were still cash in their pockets. Their rewards come later in life when they begin taking distributions. Withdrawals of Roth IRA earnings can be 100% tax-free if the account holder is at least 59 ½ years old and it has been at least five years since his or her first Roth contribution. No such stipulations exist for distributing Roth contributions, as you would have already paid taxes on that money in the year you made the deposit. Annual contribution limits
for Roth IRAs are the same as those of Traditional IRAs ($6,000 for those below the age of 50 with an added $1,000 for those age 50 and above). You may also consolidate Roth IRAs via transfer, roll funds from a Roth 401(k), or convert a Traditional IRA to a Roth status via Roth conversion. Let’s say you make your $6,000 contribution and originate a loan at 10% interest with a Roth IRA. You would have to pay income taxes on the $6,000 even though it has been deposited into your IRA, but
you will have an opportunity for significant tax savings once your account grows to $6,600 at the loan’s maturity. If you wait five years from when you made your contribution and turn 59 ½ in the meantime, the full $6,600 balance ($6,000 contribution plus $600 in earnings) can be distributed without paying another penny to the IRS.
SEP IRAs AND SOLO 401(k)s SEP IRAs and Solo 401(k)s offer the same tax-deferred contribution benefit as Traditional IRAs, but they cater to the needs and earning potential of business owners. Solo 401(k)s can even incorporate a Roth component, allowing you to live in the best of both worlds with a single retirement account. These accounts have higher annual contribution limits. The ability to contribute more means increased growth possibilities. SEP IRA holders may contribute the lessor of $56,000 or 25% of compensation in 2019, a near-tenfold increase over Traditional and Roth IRA contribution limits. In most cases, retirement plan holders have until the tax filing deadline
(usually April 15 or thereabouts) of a given year to make a contribution for that year, but SEP IRA holders may contribute up until their business’s tax filing deadline. This deadline generally lies well beyond the mid-April cutoff for individuals. Solo 401(k) holders, as the sole employees of their own businesses, can simultaneously make employee and employer contributions to their individual plans. As employees, those under the age of 50 may contribute 100% of their compensation up to $19,000 in 2019; those age 50 and above may contribute 100% of their compensation up to $25,000. Employer contributions may equal the lesser of 25% of compensation or $37,000 in 2019, bringing the total contribution potential for 2019 Solo 401(k) investors to $56,000 ($62,000 for those age 50 and above). As with Traditional and Roth IRAs, account holders may transfer or roll funds from other retirement accounts into their SEP IRAs or Solo 401(k)s. Due to their like tax statuses, you may directly transfer cash or assets between SEP IRAs and Traditional IRAs without limitation. In the same manner as a 401(k)-to-Traditional IRA rollover, you may roll funds from a Traditional IRA or
another such pretax account into a Solo 401(k). Further, Solo 401(k) holders can act as trustees of their accounts. While investor participation characterizes self-directed retirement, 401(k) trustees can exercise an even greater degree of control. Instead of coordinating investment initiations through an IRA custodian, 401(k) trustees can exert “checkbook control” over their tax-advantaged retirement funds and execute investments themselves. A retirement plan custodian would still have to hold the account, and the holder may not commingle retirement money with personal money. SEP IRA holders can create “checkbook control” by opening and funding a limited liability company or a similar business entity within the account. Tax day may have passed, but it is never too late to start thinking about new strategies for saving for the future while potentially cutting next year’s tax bill. By entrusting your retirement to a method you know and trust, you can hedge your bets in the long run and garner tax benefits. ∞
ABOUT THE AUTHOR
CLAY MALCOLM Clay Malcolm is the chief
development officer at New Direction IRA Inc., a self-
directed IRA provider that
assists nearly 17,000 clients
across the U.S. He oversees
most avenues of marketing, teaches continuing profes-
sional education and informal classes and webinars, and facilitates the training of
business development and
client relations teams. Malcolm has more than 20 years’
management experience in
various roles and draws upon his teaching background to impart knowledge about
self-directed IRAs to current and prospective clients.
Malcolm received his bachelor of science degree in
LENDER LIMELIGHTÂ WITH MICHAEL SCHUMACHER & A ARON ROTH
A G N I K I R T ST A E C N A L A B T E E F 0 0 0 , 15 Michael Schumacher and
Aaron Roth follow a big picture
formula to keep their portfolios in an upright position. by Caleb Olsen
LENDER LIMELIGHT WITH MICHAEL SCHUMACHER & A ARON ROTH
NOW BOARDING Like many small company leaders, Michael Schumacher and Aaron Roth, the president
The closeknit team at the Enact
Enact Partners is a hard-money
office hasn’t had many messes
lending company based in
to clean up. Zero, in fact. “One of the things we’re most proud of is that we’ve never lost
and vice president of Enact
any investor capital,” Roth said.
Partners, respectively, fill
Maybe it’s because they’re so
more positions than their titles
personal that they’ve found the
most effective way to operate
“We wear a lot of hats,”
“Quite literally, I think all
“Right,” Schumacher agreed.
of our direct investors have
“I’m the president, but I’m also the janitor.”
our mobile numbers,” said Schumacher. “And regarding the future of Enact Partners— we don’t want to lose that.”
Carlsbad, California. It made its mark in the southwest corner of the U.S. by lending five- and six-figure amounts. Over the last half-decade, it has settled into a position to supply investors with seven-figure loans. “We’re unique within our space in the industry,” said Schumacher, “because we’re comfortable doing larger loans. Our average loan size is now “We continue to grow our company and perfect our Roth. “I think we’re making
doing things the right way, being transparent and honest. Our objective is to help our borrowers, help investors earn a consistent yield and, in turn, help communities by creating jobs through construction financing and aiding developers in their projects. These are the things that have a lasting impact in our community.”
slightly under $3 million.”
systems and processes,” said
an impact in our industry by
You’d be hard pressed to find two people who are more
concerned with enriching their communities. When they aren’t working or spending time with their families, the pair’s hobbies are almost entirely community-centric.
community. Prior to that, I was on the Carlsbad Planning Commission, and I currently serve on the San Diego County Regional Airport Authority.”
“I’m a firm believer in taking care of your own backyard,” said Roth. “When I’m not working or being a dad, my time goes toward youth sports and coaching. I believe coaching has a major impact on a lot of kids, and it’s a pleasure watching them grow. I’ve inherited a lot of sons, if you will.”
Depending on the day, Schumacher’s backyard may be the dirt bike track or hanging 10 somewhere along California’s golden coast. Like Roth, Schumacher never misses a moment to spend quality time with his family. “My son and I have been surfing together for quite a few years now, mostly in the summer when the water is warmer. We’ve also been dirt biking since my son was five,” he said. Schumacher gives back to the community by lending his services in a public capacity. “I recently served five years as a Carlsbad city council member,” he said. “I really enjoy being involved and helping lead the
Schumacher and Roth have personalities that in combination propel them toward success. Each one is a wing on the plane, traveling harmoniously to their destination. Their strengths complement each other as well, in and out of the office. Their brains are so in sync that it’s not uncommon for one of them to begin a thought only to have the other finish it. They partnered up thanks to a networking event, where they met nearly 10 years ago. “We started as friends,” Roth said. “We met at a networking group here in San Diego, and I always liked Michael and thought he was funny. We hit it off, and I think we have a lot of commonalities and see eye to eye on a lot of things. Naturally, we became friends.” “Aaron was heavily involved in the fix and flip industry,” Schumacher said. “In all aspects of residential real
THIS OR THAT ? Michael Schumacher and Aaron Roth share a common vision, views on family and giving back to the community. But what about the hard stuff? Find out below. MOUNTAINS OR BEACH?
Schumacher: Beach Roth: Depends on the day, because I love them both!
COFFEE OR TEA?
Schumacher: Coffee Roth: Yeah, coffee.
COMEDY OR MYSTERY?
Schumacher and Roth (in unison): Comedy
SOUP OR SALAD?
Roth: Soup Schumacher: Yeah, I think I’m gonna go soup.
JOGGING OR WEIGHTLIFTING?
Schumacher: I’ll go with weightlifting. Roth: Is surfing a choice?
SNEAKERS OR FLIP-FLOPS? Roth: Flip-flops Schumacher: Flip-flops
POOL OR POKER? Roth: Pool Schumacher: Poker
CROSSWORD OR SUDOKU?
Roth and Schumacher (in unison): Crossword
NIGHT OWLS OR EARLY BIRDS? Schumacher: Early bird Roth: Yep, same here, early bird.
CUBED ICE OR CRUSHED ICE? Roth: I’m gonna go crushed. Schumacher: I’ll go cubed.
LENDER LIMELIGHT WITH MICHAEL SCHUMACHER & A ARON ROTH
estate, really—sales, apprais-
“I didn’t want to deal with the
als, evaluations—he’s got
volatility of the stock market,”
a strong background in the residential space. My background doesn’t include the residential space per se. Mine is more on the commercial side—real estate development, constructing office and retail buildings, historic rehab, land planning, things like that. Between us, we cover quite a bit of space in terms of what we feel comfortable taking on.” “When Michael told me what he was doing and that he was
Schumacher said. “So, I did a first trust deed with my friend. We did one loan and that went well, so we did another one, and my friend said, ‘I know a friend who’d love to participate if there’s room.’ So he joined and we did another one, then I had friends who were interested, and before you know it we’re
Things have worked out well for the pair, due in part to
it’s positive feedback or constructive criticism.”
“Doing the right thing when
The two have strong natural instincts for finding stability between work and play. By seeking creative ways to maintain a healthy work-life balance, becoming burnt out is far less likely a possibility.
their consensus on how be conducted.
no one’s watching is such a big deal to me,” Roth said.
“My kids probably hear it more than they want to, but I truly believe it’s one of the most important ways to live life
at nearly $40 million in assets.
and do business.”
And that’s really how Aaron and
”That’s an ethic we live by,”
I have grown the business. We invest in the deals ourselves,
founding the company, I was
and that gives our investors the
intrigued,” Roth said.
comfort that we’re in it too.”
Schumacher said. “And our
business has also been shaped
by the feedback we’ve received by our investors. Whether
FAVORITES TV SHOW?
Roth: The Sopranos Schumacher: Game of Thrones
Roth: Bob Marley Schumacher: Cody Jinks
Roth: Thanksgiving Schumacher: Fourth of July
Roth: Football Schumacher: Football
Roth: Spring Schumacher: Fall in San Diego is tough to beat.
PLACE YOU’VE TRAVELED?
Roth: Santorini, Greece Schumacher: Barcelona, Spain
For example, Enact’s offices aren’t across the street from a flight club by chance. The two take every chance they get to hop over and fly to properties, meet potential investors—or to simply clear their heads. “Being up flying—you’re definitely not thinking about anything else,” Schumacher said. “It’s a great distraction and a lot of fun. Recently my wife has started to join me up in the air. It’s been useful for making deals as well. We make a lot of deals around the state, from northern California out to Las Vegas, so Aaron and I will just hop in the plane and fly.” Schumacher believes everyone should go skydiving at least once in their lives, so that taking a leap of faith isn’t a new concept to them. Perhaps that’s why the pair are so excited
“Doing the right thing when no one’s watching is such a big deal to me.” AARON ROTH
to face the unknown in their upcoming company shift. “We’ve been doing private money loans since 2013,” he said. “The way we’ve been operating is that each individual loan is essentially its individual LLC, which gets cumbersome from a paperwork perspective. In 2017, Aaron and I made the strategic decision to streamline the process and put it all under one LLC. So, rather than our investors receiving 10 different deposits every month and getting 10 different tax documents at the end of every year, it’s a lot more simple.”
“It’s being launched now, and we’re calling it EP Guardian Fund,” Roth said. “Enact Partners is the managing member of that fund.” This modification will also better position investors to monitor the performance of their portfolios.
from them is always the best part of my day. They’re my biggest motivator. I couldn’t live without them.”
ABOUT THE AUTHOR
“Aaron pretty much nailed it,” Schumacher said.”When I’m told that I’m a good father, that’s about as good as it gets.” ∞
A SMOOTH LANDING CALEB OLSEN
The two agree that what keeps them motivated to work so hard is their families. “Building a legacy for my family is what I really hope to achieve,” Roth said. “A hug
Caleb Olsen is a writer in Kansas City working for a marketing
firm called Rivet. His work has
been published in newspapers,
You can reach Michael Schumacher and Aaron Roth by visiting EnactPartners.com.
magazines, radio and TV. He is studying for a master’s degree at UMKC and performs improv comedy in his free time. Find Caleb on LinkedIn,
calebolsen.com, or by emailing firstname.lastname@example.org.
CASE STUDYÂ JWB REAL ESTATE CAPITAL
FROM BLIGHT TO NEW LIFE Deal turns a vacant lot into a style of housing
not seen in Jacksonville in more than 100 years
s founder and president of JWB Real Estate
Capital, Alex Sifakis considers turning blighted property into valuable community assets to be the best part of his job. When he saw a vacant,
distressed 1-acre parcel at the edge of Historic Riverside, one of the hottest neighborhoods in Jacksonville,
Florida, he knew there was an opportunity to be had.
Fast forward almost three years, and the Courtyard on College is poised to be the first “courtyard homes”-style project developed in Jacksonville in more than 100 years. JWB purchased the property in 2016. In late 2018, JWB received approval from the Historic Planning Commission and is now in the middle of permitting the courtyard-style single-family home project with the city of Jacksonville. The project consists of 19 36-by-62.5 lots surrounding a “linear park” that serves as the yard for the homes. Another 36-by-62.5 lot is reserved as park space. JWB uses individual private lenders to finance its projects. Sifakis went to one of his long-term lenders, Steve Kowkabany, to finance the project. The land was being purchased for
$315,000, with the entitlement costs expected to be about $150,000. Kowkabany (and a few others) lent $387,000 on the property, on a 3-year note, at 10% interest. The target buyer for the homes are young professionals looking for a great, walkable neighborhood and a sense of community. Homes are expected to be priced in the mid to high $300,000-range.
EXIT STRATEGY After permitting, JWB plans to sell the project to another builder/ developer, who will complete the project. The sale price of the entitled, permitted land is expected to be $900,000-$1,100,000.
SOLUTIONS & OUTCOME JWB has been paying annual interest payments on the loan for the past few years. With land and home values rising, in addition to the value created from the entitlements, Kowkabany and others are sitting in a very favorable LTV position and have been very happy with their returns!
Lender // Steve Kowkabany, et al
Interest Rate // 10%
Client/Borrower // JWB Real Estate Capital
Length of Loan // Three years
Location // 2900 College Street, Jacksonville FL 32205
Borrower Experience // Borrower is the largest homebuyer and infill builder in Northeast Florida, having purchased over 3,100 properties since 2006
LTV // 43% (conservatively) LTC // 83% Loan Amount // $387,000
Anticipated Entitlement and Permitting Costs // $150,000
WHAT YOUR ATTORNEY DIDNâ€™T TELL YOU Beware of consumer laws that apply to business purpose loans. b y Nema Daghbandan, Esq., Melissa Martorella, Esq., and Victoria Wyatt
Private lenders are often surprised to hear that some consumer laws apply to business purpose loans. Worse yet, some private lenders have been told by their counsel that federal consumer laws do not apply, even though their attorneys claim to be experts in private lending.
WHAT IS A BUSINESS PURPOSE LOAN?
TWO MAJOR EXEMPTIONS
Business purpose loans are nontraditional mortgage loans that a borrower uses for a nonconsumer purpose (i.e., any loan whose proceeds are not primarily used for personal, family or household use). There is a common misconception that the primary question in making these loans is whether the property used as collateral is “owner-occupied.” The more important question is whether the loan’s purpose is truly a business purpose rather than consumer in nature. The purpose of the loan is the decisive factor in whether the loan is exempt from most federal consumer protection regulations. Simply put, if a loan is correctly classified as business purpose, it is subject to far less regulation at the federal level.
Most of the federal legislation governing mortgage lending is covered in the TILA and RESPA. These acts set mandatory standards, procedures and disclosures for lenders to follow. Specifically, TILA requires disclosure of certain credit terms, and RESPA requires standards for closings and fee/cost disclosures. Business purpose loans are exempt from the requirements imposed by both TILA and RESPA. This is because TILA covers consumer credit transactions, which are defined as “credit offered or extended to a consumer primarily for personal, family or household purposes.” Additionally, TILA and RESPA exempt “[a]n extension of credit primarily for a business, commercial or agricultural purpose.” Most of the operative provisions of the acts are further limited in their application to “dwellings,” which is defined as “a residential structure that contains one to four units, whether or not that structure is attached to real property.”
Notably, business purpose loans are exempt from requirements mandated in the Truth in Lending Act (TILA) and the Real Estate Settlement Procedures Act (RESPA). However, many mortgage lenders and their counsel fail to understand that other federal consumer protection laws still apply.
Because business purpose loans are exempt from TILA and RESPA, when lenders make these loans they do not need to (1) comply with federal requirements to verify the borrower’s
ability to repay the loan, (2) issue TRID disclosures or (3) comply with RESPA’s loan servicing requirements. However, various federal consumer laws still apply. Several consumers laws apply to business purpose loans. Each is discussed below.
The Equal Credit Opportunity Act (ECOA) (Regulation B) ECOA prohibits discrimination and sets procedures for extending credit and communication with credit applicants. Regulation B implements ECOA and contains additional requirements. ECOA requirements are applicable to business purpose loans because the statute explicitly states “all creditors” are within its scope, and the official interpretation notes its applicability to “commercial as well as personal” credit. The notable requirements set standards concerning appraisals, discrimination and adverse action letters. A ppraisals // Generally,
lenders must provide all written appraisals and valuation
to a credit applicant, where the applicant is applying for a loan secured by a first lien on a dwelling. This is a requirement whether the lender does or does not approve the applicant’s request for credit, or whether the application is incomplete or withdrawn. Lenders must provide applicants with a notice of their right to these copies within three business days of the application’s submission. The actual copies must be provided promptly after the valuations are completed, or at least three days before the loan closes, and be provided at no additional cost to the applicant. However, applicants may waive the timing requirement and agree to receive copies at or before account opening. As a general recommendation, lenders can include a notice of right to appraisal and waiver of the timing requirement in the loan application package and then provide the borrower with their appraisal either at the closing table or when they are notified they will not be moving forward with the loan. The key takeaway here is that a lender is obligated to provide the appraisal or
other valuation without the borrower requesting this information. Discrimination // ECOA
prohibits discrimination with respect to any aspect of a credit transaction, based on race, color, religion, national origin, sex, marital status, age and whether an applicant’s income comes from a public assistance program. Again, because ECOA and Regulation B apply to all creditors and commercial and personal credit, business purpose loans are within the scope. The nature of most business purpose lending companies is to evaluate whether to extend credit based on factors such as type of collateral, borrower’s credit score and borrower’s experience relevant to the use of the proceeds. Lenders should ensure that their underwriting guidelines follow those and other similar nondiscriminatory reasons for deciding to extend credit. In addition, lenders should look at the types of loans they have extended and denied in the past to ensure that due to evaluating the location of the collateral that they are not unintentionally redlining or otherwise avoiding lending in areas that could lead to
a claim that the lender has discriminatory practices. Adverse Action Letters //
An “adverse action” occurs when a lender denies or revokes credit, changes the term of credit or refuses to grant credit. An adverse action does not include a lender’s refusal to extend additional credit under a current arrangement where the applicant is delinquent, or when the requested credit is more than a previous credit limit. ECOA requires lenders to provide applicants/ borrowers with a notice stating the reasons for an adverse action whenever an adverse action is taken. The notification must be in writing and be received by the borrower within 30 days. For borrowers with gross revenue over $1 million the prior year, lenders may notify of adverse actions verbally or in writing within a reasonable timeframe rather than the 30-day written notice requirement for consumer or small business applicants. The best way to easily implement this requirement is to provide the borrower with a notice upon receipt of an
application that if their application is denied they have the right to request the statement of reasons for denial. This
of denial, and the lender will
The Home Mortgage Disclosure Act
only need to provide adverse
HMDA requires certain
will place the onus on the borrower to ask for the reasons
action letters when requested. Alternatively, the lender can make it a policy to send a
financial institutions to collect, report and disclose aspects of their mortgage lending activity.
formal adverse action letter
In 2018, HMDA was amended
every time such action is
to modify the types of lenders,
taken in order to comply with
transactions and data included
as well as the processes for
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reporting and disclosing. Notably, HMDA now applies to closed-end mortgage loans, which are defined as “an extension of credit that is secured by a lien on a dwelling.” The definition of “dwelling” is now expanded beyond a 1-4 family residential structure and includes “a detached home, an individual condominium or cooperative unit, a manufactured home or other factory-built home, or a multifamily residential structure or community.” Because HMDA’s definitions focus on property type rather than loan purpose, HMDA now covers lenders making loans to developers of residential housing. Specifically, HMDA applies to lenders who made at least 25 closed-end mortgage loans in each of the last two years, or 100 open-end credit lines in each of the two last years. HMDA requires lenders making the applicable loans to prepare a Loan Activity Register, including certain data to the Consumer Financial Protection Bureau (CFPB). There are over 100 fields that need to be completed and reported to the CFPB for each applicable transaction. The reporting is problematic for private lenders because it requires data points with certain options that are not applicable to business
purpose loans. For example, the ethnicity/race/sex/age of the applicant or borrower must be reported, which creates confusion when a borrower or applicant is an entity. Additional data points to report include the date of application, the type of loan, the property type and many more. Lenders will need to revise their loan applications to ensure they are capturing the relevant field data in the application process, including ethnicity, gender and age of the borrower (even when it seems inapplicable). A manual revise of the application to cover those fields is possible. In the alternative, many lenders use a modified 1003 as their base loan application, which is supplemented to better suit business purpose loans. After the revisions to HMDA, an addendum to the 1003 was issued that adds an extra page to the application and requests all relevant HMDA data from the applicant. At a minimum, lenders should include this page in their loan applications to collect the data they will need to comply with annual HMDA reporting. When completing the annual reporting, there are many software providers that can easily collate the data and complete the reports for lenders. An example is QuestSoft, which is software made specifically for HMDA reporting.
In 2018, Congress enacted SB 2155 which modified HMDA by easing restrictions on credit unions and other depository institutions. Unfortunately, this legislation does not address private lenders who must still comply with HMDA reporting, even though many of the reporting fields are irrelevant.
the latter including all credit transactions. Therefore, a lender seeking compliance with ECOA requirements will likely comply with Fair Housing Act requirements.
The Fair Credit Reporting Act (FCRA) The Fair Housing Act The Fair Housing Act prohibits discrimination based on sex, familial status, race, color, religion, national origin, or disability for transactions involving “dwellings.” The Act defines “dwelling” as any building occupied or intending to be occupied as a residence by one of more families, or land sold for the construction of such a building. Family includes a single individual. Because the transactions covered are based on property type rather than purpose, business purpose loans are within the scope of the Fair Housing Act. The discriminatory actions prohibited by the Fair Housing Act are also prohibited by the ECOA, with the former focused on housing transactions and
The FCRA regulates the preparation, distribution and use of credit reports. Generally, the FCRA applies to consumer credit transactions, but commercial credit transactions involving consumers are also within its scope. Under the FCRA, lenders must have permissible purposes before obtaining credit reports, make certifications to credit organizations on their intended use of credit reports, notify consumers when adverse actions are taken, follow procedure pertaining to identity theft and resolve discrepancies related to a consumer’s address. A notable point of confusion for lenders making business purpose loans is when and whose credit can be pulled. As mentioned, a lender can pull an
applicantâ€™s credit report under certain permissible purposes, including if an applicant is a natural person. If the borrower or applicant is an entity, the lender has a permissible purpose to pull credit if the principal/officer signing is personally liable for the loan. When the principal is not personally liable, current law does not specify whether it is permissible to pull the principalâ€™s credit. For this reason, it is important a lender always has the proper authorization from the individual whose credit they
are pulling. If there is ever any doubt, lenders should obtain authorization forms from all relevant parties to a loan.
The Servicemembers Civil Relief Act (SCRA) The SCRA provides financial protections to service members and, under certain circumstances, individuals related
to service members. The act was created to provide relief to service members on active duty. It only applies when a service member borrower has a change in military status (i.e., off-duty or reserve to active duty). Because the SCRA does not distinguish between consumer or commercial credit, business purpose loans are within its scope. However, the service member borrower has an affirmative duty to inform a lender of a change in status for the lender to be on the hook for SCRA compliance.
The protections of the SCRA cover various aspects of financial transactions. The notable protections include a 6 percent cap on interest rates, credit rating protection, judicial relief that can postpone foreclosure and protections against evictions. Additional protections include the ability to end property and car leases, relief from foreclosure and forced sales, and termination and reinstatement of insurance. Business purpose lenders will find the SCRA most relevant during enforcement proceedings such
as modification or foreclosure. Although there is an affirmative duty on the service member to advise the lender of the change of status, as a general practice, it is recommended that before any enforcement proceeding, a lender complete an online search to verify their borrower is not an active service member. If they are, the lender can inquire whether that status is new (in which case SCRA protections apply) or the same from the time of loan origination (in which case SCRA protections do not apply).
“In addition to federal laws, each state has its own body of [consumer protection] laws regulating the lending industry. Private lenders must comply with both federal law and the laws of the state they operate in.”
ing business purpose loans is However, it is important to note that the framework may vary state by state. For example, most states exempt lenders originating only business purpose loans from licensing requirements, but 11 states still require licensing of some kind.
expansive and at times difficult
with both state and federal
a borrower defaults on a loan.
Some states have no cap on the amount of interest a lender can charge on a business purpose loan, and others make no distinction between business and consumer purpose loans when
Victoria Wyatt is currently
Melissa Martorella, Esq., is a senior
California, Irvine School of Law
the firm and focuses on represent-
laws regulating the lending industry. Private lenders must comply with both federal law and the laws of the state they State lending laws typically include a framework for who needs to be licensed and how,
In addition to federal laws,
each state has its own body of
which they are lending.
The legal framework govern-
State Consumer Protection Laws
addressing this issue. Similarly, state law varies for default procedures, with some states permitting nonjudicial foreclosure and some states requiring a judicial lawsuit. These key differences may lead private lenders to adopt different procedures based on the state in
what constitutes acceptable charges and interest, the requirements for closing and title, and the procedures after
to navigate. While business
purpose loans are exempt from two major bodies of federal lending law, a multitude of
federal consumer laws still
apply. Private lenders should
adopt procedures that comply requirements. Private lenders with questions about compliance should consult with an
attorney versed in federal and
state lending laws. ∞
ABOUT THE AUTHORS GERACI LLP Geraci LLP is the nation’s
largest law firm that focuses on the representation of
attending the University of
and will be joining the firm as a full-time associate in fall 2019. (V.Wyatt@GeraciLLP.com)
Nema Daghbandan, Esq., is a
banking and finance attorney with
partner and the chair of the Banking
ing nationwide private lenders who
advises nationwide mortgage lend-
transact throughout the country. (M.Martorella@GeraciLLP.com)
and Finance practice group and
ers on compliance and transactional matters. (Nema@GeraciLLP.com)
Private Money Loan Servicing Software Powerful, Flexible and Easy to Use! Multi-Lender Loans
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MAY/JUNE 2019 Applied Business Software, Inc. 2847 Gundry Avenue, Long Beach, CA 90755 firstname.lastname@example.org
FLORIDA BUSINESSPURPOSE CHECKLIST How to determine what qualifies as a business purpose mortgage loan by Kat Hungerford
DETERMINE THE LOAN’S PURPOSE When investigating potential mortgage lender licensing violations, Florida’s Office of Financial Regulation (OFR) follows the federal Consumer Financial Protection Bureau’s interpretation of exempt transactions (12 CFR Part 1026.3). Unlicensed lenders should consider the following:
General Considerations I s the borrower an LLC or
other business structure?
I s the borrower’s primary
occupation closely related to the acquisition?
Will the borrower personally
manage the acquisition?
I s the ratio between the
Florida House Bill 935 goes into effect July 1, 2019. It adds stiff penalties for misrepresenting a consumer mortgage loan as a business purpose mortgage loan. The former requires a mortgage lender license to transact. Violations are punishable at minimum as third-degree felonies. We’ve created a handy checklist to help you determine what qualifies as business purpose and what documentation you should collect to guard against violations.
borrower’s income from the acquisition to his or her total income high?
I s the transaction large? H as the borrower indi-
cated a business use in their statement of purpose for the loan?
The more “yes” answers above, the more likely the transaction is easily proved business-purpose. Some —like whether
a ratio is “high” or a transaction “large”—unhelpfully lack defined thresholds. Use common sense and err on the side of caution: Don’t transact if your gut says the FL OFR may interpret it as a consumer mortgage loan.
Rental Property Considerations (any “yes” here is automatic business purpose) Unless otherwise noted, the loan’s purpose must be for the acquisition, improvement or maintenance of the real property securing the loan. I s the rental property non-
owner occupied (i.e., the owner will not be in residence more than 14 days in the coming year) with four or fewer housing units?
I s the rental property
non-owner-occupied with five or more housing units, and the borrower is not an individual or the lender is an institutional investor (as defined in FL statute 494.001)?
I s the rental property own-
er-occupied with two to four housing units, and the loan is for its acquisition?
Is the rental property
owner-occupied with five or more housing units, and the loan is for its acquisition,
and the borrower is not an individual or the lender is an institutional investor? I s the rental property
owner-occupied with five or more housing units, and the loan is for its improvement or maintenance, and the borrower is not an individual or the lender is an institutional investor?
Owner-occupied rental property that lacks the required number of housing units but otherwise meets the other factors may still be business-purpose if it conforms to General Considerations standards.
SUPPORT THE LOAN’S BUSINESS PURPOSE STATUS WITH DOCUMENTATION IN THE TRANSACTION FILE B orrower’s primary
B orrower’s total income E xpected borrower
income to be generated from the acquisition
B orrower statement of
loan purpose (handwritten note is best)
B orrower statement of
property occupancy (handwritten note is best)
Parcel information from
the county in which the property is located
If you are not personally originating the loan, double-check that the aforementioned items are in the file. If they are, personally confirm their authenticity.
UH-OH. THE LOAN DIDN’T PASS STEP 1 If the loan does not meet the litmus test outlined in Step 1, the loan will likely need a Florida mortgage lender license to transact. There are a few exemptions to this requirement outlined in Florida statute 494.00115, with HB 935 further defining an exemption sometimes used by private investors: You make or acquire the
mortgage loan using your own funds (not a selfdirected IRA) for your own investment—and, if selling, the loan was made or acquired by this method; and
You do not hold yourself
out to the public as being in the mortgage lending business by:
» A dvertising using business cards, stationary, brochures, signs, rate lists or promotional items. » C ommunicating in a way that leads your prospects to reasonably believe that you are in the mortgage lending business. » H aving a premise from which you regularly perform mortgage lending activities or meet with prospective borrowers. » A dvertising or conducting business under a name, logo, website, etc. that reasonably implies you are a licensed mortgage lender or operate a similar, but unlicensed, type of business. As a reminder, FL HB 935 did not change any of the current mortgage lender licensing requirements. If you were required to have a license for a certain kind of transaction before, you will continue to need to have one. These include: Loans secured by a dwelling
where the borrower is using the funds for personal, family or household use (a consumer mortgage loan).
L oans secured by residen-
tial property with five or
more housing units and the borrower is an individual or the lender is a noninstitutional investor. L oans secured by commer-
cial real property and the borrower is an individual or the lender is a noninstitutional investor.
Servicing any of the
above loans. ∞
ABOUT THE AUTHOR
KAT HUNGERFORD Kat Hungerford is project development manager at
the American Association of Private Lenders. She
specializes in operations,
project management and marketing. Hungerford
acts as secretary for the
association’s Government Relations Committee,
which serves as AAPL’s
advocacy arm in state and federal legislatures.
Forecasting the Future of Private Lending AAPL’s Government Relations Committee makes some long-term projections. AAPL announced its inaugural Government Relations Committee (GRC) earlier this year to serve as the implementation arm for the association’s advocacy goals. The GRC monitors state and federal legislative activity for potential impacts to private lenders, creates and implements advocacy objectives and provides expert testimony to legislatures. Private Lender asked members of the GRC to forecast what the private lending industry will look like in several years. Here are their thoughts on how the industry will shape up 5, 10 and 50 years from now.
flow will be well-positioned to benefit from institutional capital. Sometime in the next five years, I also expect to see a down market.
CORT CHALFANT N exus Private Capital,
G RC Position: Officer
5 years // I think you will see an increase in the number and size of private lenders moving into our space as well as an increase in the “professionalization” of our sector. Existing lenders will look to scale. Emerging lenders will look to carve out niches in local markets they know. The best operators will embrace technology and work to get as efficient as possible. As the industry proliferates and professionalizes, more institutional capital will enter the space, but placed through existing, top-performing platforms (rather than from direct origination). Lenders who stay disciplined with their underwriting, reporting and back-office operations and who demonstrate the ability to manage a large volume of deal
10 years // I suspect we will witness a reduction of lending rates by hard money lenders as more institutional capital enters our sector and as operators increase their efficiency. As rates come down, margins will compress, and many small lenders will be driven out of business. Industry consolidation will likely occur through company acquisitions and cannibalization of market share by the most efficient operators that offer the best value proposition for their clients. Our industry will have solidified a rebranding of the business. While there will continue to be predatory niche lenders, the industry will have largely matured and will be recognized as a mainstream option for capitalizing both high- and low-quality deals. Speed and ease of origination will continue to differentiate hard money lenders from more traditional capital sources. 50 years // I can’t take a stab at changes for the private lending industry over the 50-year horizon. There are just too many moving parts—with changing political winds (and therefore the potential for drastic regulatory changes to public and private banking sectors) and technological innovation being two of the greatest wild cards.
5 years // Much of the same, probably a bigger push for e-closings or e-notary 10 years // Again, not much change, probably much wider availability of e-recording
MIKE FALLOT M M Lending, CEO and
50 years // Several coastal cities now underwater, lending in bitcoin, mortgages on the moon
G RC Position: Officer
5 years // Robust private lending industry, with plenty of capital infusion and high demand to meet housing needs. 10 years // Consolidation of private lenders with traditional lenders and title companies to streamline real estate transfer costs and time frames. 50 year // Private lending used to fund housing innovation to meet massive housing needs.
MATT GUNTER RCN Capital, Assistant
G RC Position: Legal Chair
LLOYD LEVIN S pecialty Lending Group,
G RC Position: Officer
5 years // Another recession (not as severe as the last). I also fear that if too much of the regulatory climate that was put in place five to eight years ago is trashed and if the mortgage industry (including us) is again saddled with a share of the blame for the next recession, private lenders will be in danger of extinction. In a “reasonably regulated” lending atmosphere, the private lending industry will continue to thrive and continue to outperform the banking industry.
10 years // Artificial intelligence may take over as to almost automate lending. If this happens, the kind of decisionmaking and risk-taking that gives private lenders an edge (speed and flexibility) may be substantially eroded by the banking industry. We are successful because we connect with our clients, “know our territory,” and only when our clients are successful are we successful.
opening unexpectedly, more foreign investment in the U.S. real estate market 50 years // AAPL launches IAPL (the International Association of Private Lenders) with its annual conference in Monaco
ers and originators, creative work-out solutions for REO portfolios as private lenders begin to fail during a recession, increased regulation by state authorities in the private lender space leading to massive visibility and maturation. 10 years // The private lending industry is now a distinct, regulated and efficient part of the overall mortgage industry.
50 years // I am going to pass on predicting anything 50 years out—I just hope this country and this planet still exist!
TED PARKER M illennium Trust, Senior
50 years // Lending is so passé… the world is unified under a hegemony for the betterment of mankind, and we all serve our artificial intelligence overlords. Who can predict that far into the future without writing a fiction novel?
G RC Position: Officer
5, 10 and 50 years // I believe private lending will continue to grow beyond the fix and flip lending we are seeing today.
MELISSA MARTORELLA G eraci Law Firm LLP,
G RC Position: Ex Officio
5 years // On the other side of a market correction, higher returns and fewer players in popular markets 10 years // Compression in major markets again, new secondary and tertiary markets
A ppraisal Nation, Senior
G RC Position: Officer
CHRIS RAGLAND N oble Capital, Chief
G RC Position: First Chair
5 years // Significant consolidation between capital provid44
5 years // Private lending has grown to nearly 10% of lending in America. I see increased regulatory pressures and private lenders driving innovations in lending
platforms, products and tools. We will see roll-outs of more mobile application apps and servicer apps and more conventional lenders entering the space. 10 years // A larger number of conventional lenders and investors active in the space, along with a broader number of crowd-sharing investment platforms. There will be a continued rate compression that will drive competition between conventional lenders and private lenders. Most applications will be on mobile apps and most servicers will be in real time with direct interface (think Uber of Appraisals). 50 years // Most conventional lenders will have a private lending arm or division; all mobile-based apps for property analysis, investment and services (title, appraisal inspection); digital fingerprints and eye scans replace document signatures; appraisals/valuations are done by drones with built-in computer algorithms sending real time data; and common use of alternative currency such as bitcoins and others for down payments and lending. ∞
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Residential Real Estate Rallies b y Robert Greenberg
Surprise! After talk of a downturn, a housing and mortgage rally emerges.
fter much recent talk about a
slowdown in the housing
and mortgage markets, the
residential real estate industry appears to have done an about-face.
Much of the change has been attributed to the Federal Reserve’s announcement in mid-March that it won’t raise short-term interest rates for the remainder of 2019. As a result of the Fed’s decision to hold the line, mortgage rates dropped in late March. Some housing experts now predict mortgage interest rates could remain low for the full year, giving a strong boost to the spring and summer home
buying season and stimulating what had been a decelerating housing market. Housing economists are scrambling to reinterpret the latest data and to predict what will follow, with some now believing the country could see a pick-up in home price growth instead of the moderating prices that many anticipated. Lower mortgage rates should help real estate investors who depend on buyers seeking to qualify for a mortgage to purchase their properties, particularly millenials and other first-time homebuyers.
EXAMINING THE DATA Here’s a quick glance at some of the latest housing and mortgage data and what could be in store for the remainder of 2019:
01 M ortgage applications,
led by refinances, skyrocketed to their highest level in 2.5 years for the week ended March 29, according to the Mortgage Bankers Association. Applications were up 28.4% compared to the year-ago period and up 18.4% from the previous week. Refinances were up 58% over a year ago and up nearly 39% from the prior week.
02 A 30-year fixed-rate
mortgage had an interest rate of 4.05% in late March and a 15-year mortgage had a 3.57% rate, according to Freddie Mac.
03 E xisting-home sales
rose nearly 12% in February, rebounding strongly with the largest month-overmonth gain since December 2015, according to the National Association of Realtors.
04 Pending home sales
dropped 1% in February, according to this leading indicator of home sales. It will be interesting to see if this metric rises in the coming months in conjunction with the drop in mortgage rates.
05 N ew home sales
reached an 11-month
high in February. Sales for January have been
revised upward, according to the Commerce
Department, which said new home sales rose 4.9% to a seasonally
adjusted annual rate of 667,000 units in
February, the highest
level since March 2018. Lower mortgage rates in late March or April
could have a positive impact on future data, although affordability, labor shortages and rising building supply costs could cause some headwinds.
06 Home prices will heat up again as mortgage rates fall, according to CoreLogic. They predict that annual gains in home prices could hit 4.7% by February 2020. Price increases decelerated in
February with just a 4%
07 H ousing starts cooled in February, reaching
a seasonally adjusted annual rate of 1.16
million, down 8.7%
from Januaryâ€™s revised rate of 1.27 million.
Single-family housing starts hit 805,000,
down 17% from the
revised January figure of 970,000.
08 M ortgage delinquencies could rise this year, Moodyâ€™s said, as underwriting standards loosen.
MORTGAGES AND THE ECONOMY The phones are ringing and the texts and emails are coming in fast and furious for real estate agents, mortgage brokers and private lenders since mortgage rates declined in late March.
Some housing industry leaders blamed the Federal Reserve’s multiple rate increases last year for housing’s cool down. Now that rates have declined—and could stay down for a while — the market is adjusting to what might be a new normal. Private lenders are busy and likely will continue to be through the spring and summer home-buying season. Inventory for moderatelypriced housing that is the “sweet spot” of many real estate investors has been hard to find. The possibility that lower mortgage rates could entice move-up buyers to sell could provide some inventory relief and opportunities for investors to pick up additional properties to fix and flip using leverage. Real estate investors like moderately priced homes, as there are a greater number of potential buyers at that price point than for the more expensive properties. Lenders also like them because they offer greater liquidity and are often seen as less risky than more expensive homes with a smaller buyer pool.
Providing financing to investors is still a huge opportunity for private lenders. In 2018, 39.1% of all homes flipped in 2018 were purchased with financing, according to ATTOM Data Solutions. That figure was down slightly from 39.4 % in 2017. But it still suggests the market is available for further penetration, especially as private lenders continue to offer better leverage and rates continue to compress. While rising prices make financing attractive, there are other reasons for real estate investors to pursue financing, including the opportunity leverage affords real estate investors to more easily grow their real estate portfolios faster than the buy-for-cash model provides. Financing available from private lenders helps investors use leverage to experience faster growth and greater profits.
FORECASTING THE FUTURE Housing experts and economists will be watching what impact the mortgage rate drop had, and is having, on the overall econ-
omy. Housing construction and related spending account for about 15% of the nation’s gross domestic product, according to the National Association of Home Builders, so the impact could be significant. The concern, which is still present, is that the U.S. economy grew more slowly than most realized in the fourth quarter. This slower growth led the Federal Reserve to hold the line on additional rate hikes this year. Real gross domestic product (GDP) increased at an annual rate of 2.2% in the fourth quarter of 2018, according to a third estimate released by the Bureau of Economic Analysis on March 28. That’s down from 3.4% GDP growth in the third quarter of 2018. So, while the housing market may be feeling good about lower mortgage rates, the Federal Reserve is concerned about slowing U.S. economic growth. Global economic headwinds, especially in the areas of trade and tariffs, could further impact business confidence. Exactly where housing is headed over the next few months is anyone’s guess, but the latest data indicate there may be a silver lining for the housing industry this year. ∞
ABOUT THE AUTHOR
ROBERT GREENBERG Robert Greenberg is chief mar-
keting officer for Patch of Land. His professional experience
includes over 25 years in marketing, working with familiar consumer brands such as
Pepsi-Cola, Anheuser-Busch and Sara Lee as well as B2B
experience in retail, technology, finance and real estate.
Recently, he led the marketing efforts for B2R Finance, where
he helped originate more than
$1 billion of real estate investor loans that led to the industry’s
first-ever multi-borrower singlefamily rental securitization. At B2R, he was responsible for
branding, corporate commu-
nications, lead generation and integrated marketing efforts.
He was responsible for leading the development and implementation of the marketing
automation and CRM platform that helped to deliver sales
management and operational efficiencies to enhance the
customer experience for real estate investors nationwide.
L AST CALL WITH YOAV GIL AD
HOW WE BECAME LENDERS BY ACCIDENT by Yoav Gilad
In 2016, our business crashed. But we weren’t lenders. I was flipping houses in Michigan with my wife and partner, Marcia. We had never dreamed of lending. Following the Great Recession, Marcia quit her job to flip houses. She spent a year, like a young lioness perfecting her stalking, learning everything she could. And then she jumped into the market. Back then, I still had a day job and was helping on a part-time basis—finding and vetting contractors, agents, lawyers and such. Our business grew steadily, with only minor hiccups. We began noticing, as a few years passed, that properties available via tax deed or county foreclosure sales were creeping toward retail prices. HGTV-watching “flippers” were entering the market, and value quickly fled. We knew folks who simply wanted to “do a deal” but never considered their margin or holding costs. They were
desperate and they were our competition. That’s why our business suffered: Opportunities providing solid value became scarce. That’s when our first borrower, an LLC owned by a woman named Lydia (not her real name), asked us for funding. We met Lydia through our local real estate investment club (REIC), and she knew we had cash ready to deploy for the right deals. But she wasn’t looking to flip. Lydia was an Airbnb investor looking for a modest loan to fund another Airbnb project. She needed just enough cash to cover the monthly payment, furnishings and first month of expenses—and a Keurig. Lydia’s terms were generous. So generous, in fact, that we discovered she was offering us usurious rates. But since we didn’t have any flips pending, we tackled learning more about private lending. The more we researched, the more excited we became. Here was a way to match our flip profits without ever dealing with capricious contractors or city inspectors. In hindsight, it seemed that we’d been wasting our time. But our experience rehabbing gave us an advantage in our underwriting. And so Green Block inked a two-year deal with Lydia’s LLC. We eventually wrote three
more loans to her LLC. Given our entrepreneurial background, we quickly developed three standard products—flip, rental and line-of-credit loans—and began word-of mouth marketing at a few local REICs. By year’s end, we had written 16 loans. Although private lending is all about maximizing returns while mitigating risk, we’ve found great success by consistently evaluating our position in the marketplace and pivoting when appropriate, an inherently risky move. There have certainly been oversights in the process. Not predicting the flight in value in southeast Michigan three years ago was very disruptive to our company. It was like searching for a parachute once the engines had died. Overall, however, we’ve managed the risk of pivoting via two avenues: (1) consistent learning, which is Green Block’s foundational principal and (2) strategic partnerships with successful local and national companies such as PeerStreet. Ongoing learning has also helped us add transactional funding to our quiver when the opportunity presents itself. We love the risk and returns of a new opportunity educationally and financially. ∞
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