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 on 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, while an encumbrance is a broader term that refers to any claim or restriction on 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.

A judgment decree, a decision from a court of law regarding the rights and liabilities of parties in a legal action or proceeding, is not self-enforcing. Once a judge issues a verdict, the winner must act upon it. The legal system requires the winner to collect the money from the opponent, who may voluntarily pay the judgment, object, or appeal the ruling to avoid enforcement actions. The winner must then use all efforts to enforce the judgment, which may involve legal actions such as asset seizure or wage garnishment.

Article:

The loan request:

My client, a proactive individual, 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.
• Does the borrower have a crucially important executed agreement with his ex-partner to dissolve the partnership for a certain amount of consideration?
• 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:

It's important to understand that business purpose loans are specifically for 1 to 4 units of real property, where the loan proceeds are used primarily for business purposes. This distinction is crucial for a clear understanding.

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 the 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 not covered and exempt are interchangeable.

The greater the percentage of loan proceeds used for business, the safer it is for the lender and the 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.

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 for future profitability.

The loan complies with regulations because only 28% is consumer, and the remainder, 72%, is for business purposes.

The loan is doable but will take some time to process, primarily to obtain updated demands from the IRS. The processing time includes a third-party appraisal, opening escrow, arranging title coverage, and closing the transaction. Without the IRS lien, the process would take two weeks. However, with the IRS lien and their propensity to work slowly, closing the loan could take as much as four months. All parties should be aware of the timing and asked to gain consensus. Future conflicts will only frustrate the participants.

I recommend that the borrower hire a tax attorney with experience in dealing with and expediting the IRS's updated demand. This specialist attorney can significantly speed up the process, ensuring a smoother and faster loan approval.