Summary:

What is a Lien?

A lien is a legal right or claim against real property, a security interest. A debtor (borrower) agrees to convey the security interest as consideration for the loan. The lien is a charge or claim against the property. It will remain until the loan is satisfied, meaning the property cannot be sold or transferred without first satisfying the debt.

A lien refers to a monetary (money) claim that will be attached to a property by a recorded instrument and becomes an encumbrance on one or more properties. The instrument is usually a deed of trust or mortgage document.

What is an encumbrance?

An encumbrance refers to a legal claim or agreement to enforce rights and obligations relating to a property. The claim is against the property by an independent party, such as a mutual property association, a court-ordered lien, a municipal notification for substandard conditions, or a government agency. The claims restrict the unrestricted use of the property until the deficiencies are satisfied or negotiated into an equitable agreement of future actions. An encumbrance can be eliminated, reconveyed, or modified.

Hundreds of instruments, agreements, or actions are recorded and become a matter of public record. Each creates a lien or encumbrance of a particular property.

The lending industry sometimes uses the terms lien and encumbrance interchangeably. However, a lien is generally a recorded monetary charge against a property. All liens are encumbrances, but not all encumbrances are liens. 

Judgments are decisions from a court of law regarding the rights and liabilities of parties in a legal action or proceeding. The judgment will usually explain the court's reasoning for the court order.

It's important to note that a judgment decree is not self-enforcing. Once a judge issues a verdict, the winner must take action. The legal system requires the winner to collect the money from the opponent, who may choose to pay the judgment voluntarily, object, or appeal the ruling to avoid enforcement actions. The winner must then try to enforce the judgment, which involves placing public notice and attempting to freeze assets. This process can be time-consuming, labor-intensive, and costly.

Article:

The loan request:

My client has a few properties with good equity. However, he found himself in a bit of a jam because of both a divorce and a partnership dissolution. He requests an interim loan to pay off his ex-wife, his ex-business partner, and a corporate tax lien. We may call this a fresh start loan.

The lender comments after reviewing the file:

There are a series of considerations in the proposed transaction.

• Does the borrower have a court order about the ex-wife's payout?
• Paying off an ex-wife is a consumer rather than a business-purpose loan.
• The borrower's proactive steps: It's crucial for the borrower to have an executed agreement with his ex-partner to dissolve the partnership for a certain amount of consideration. This proactive step will ensure a smooth loan process and a clear understanding of the financial obligations.
• Paying off an ex-partner is for business purposes.
• If the borrower has a personal tax lien, that would be for consumer purposes.
• If the borrower has a corporate tax lien, it would be for business purposes to pay off the lien.

Business purpose loans:

Business purpose loans are loans on 1 to 4 units of real property where the loan proceeds are used primarily for business purposes, such as purchasing or improving a property for rental income, and primarily used for business is essential. On the other hand, a consumer-purpose loan is one where loan proceeds are used primarily for personal, family, and household purposes, such as buying a home for personal residence.

Consumer purpose loans:

On the other hand, a consumer-purpose loan is one where loan proceeds are used primarily for personal, family, and household purposes.

Understanding the distinction between business and consumer purpose lending is crucial. Both federal and most state governments have established regulations that necessitate special disclosures and notice/reporting responsibilities for lenders dealing with consumer-purpose borrowers. Any mistakes or deviations from these requirements can lead to severe punitive consequences for the lender(s) and procuring mortgage broker(s), often resulting in many private money lenders exiting consumer lending altogether.

Industry participants commonly refer to the business purpose exemption. There is no stated exemption in the Truth in Lending regulations; instead, it is not covered under the consumer laws. Common practice is that what is not covered and exempt is interchangeable.

The greater the percentage of loan proceeds used for business, the safer for the lender and procuring loan broker in the event of default. What I mean by safer is whether the lender or procuring loan broker could become entangled in the borrower's accusation that the loan was a disguised consumer loan, which could lead to legal disputes and financial losses.

Review of the Loan File:

In reviewing the credit file, the borrower has sufficient equity in four properties to make individual loans or to cross-collateralize all four properties, raising the required $1,400,000. The payoff to the ex-wife is $400,000; the ex-partner is $500,000, and the borrower's portion of the $200,000 of the $400,000 corporate tax lien. Since the partnership dissolution agreement calls for both corporate officers to pay off the lien, the ex-partner's $500,000 will require $200,000 to pay the IRS. Any remaining net loan proceeds will help the borrower reposition his business into future profitability.

The loan fully complies with regulations, with only 28% designated for consumer use and 72% for business purposes. This adherence to regulations provides a solid foundation for the loan's approval and execution.

The loan is feasible, but preparing for potential delays is essential. Obtaining updated demands from the IRS, a third-party appraisal, opening escrow, arranging title coverage, and closing the transaction all contribute to the processing time. Without the IRS lien, the process would take two weeks. However, with the IRS lien and their tendency to work slowly, closing the loan could take four months. It's crucial for all parties to be aware of these potential delays and to reach a consensus. This proactive approach will help prevent future conflicts and frustrations.

I recommend that the borrower hire a tax attorney with experience in dealing with and expediting the IRS updated demand. The expertise of a specialist attorney can significantly speed up the loan process, ensuring a smoother and more efficient transaction.