Hey, we have a possible private lender but he has some questions and I’m not sure how to answer them. Does anyone have some insight? What we were suggesting was that we secure his investment with a property that we have equity in. We have around 30% equity beyond what he is offering to invest. Here’s what he has to say:
I will need some sort of way to confirm that there are not and will not be other promissory notes written on the same property. Also, since the title of the collateral property is currently held by a bank, I am not sure how everything would work out legally if the loan went into default. Since the house is currently held as collateral by a bank, how can the equity be used as collateral for a loan from me unless there is some interaction with the bank in setting up this second loan? It seems that they would want the equity for themselves if the home went into default and foreclosure and would maybe not care much about a promissory note made to someone else without their permission. Just some questions that I have about it.
You need to have an attorney help you. You don’t seem to have a sound understanding of mortgages and the lien process.
From what I can tell, you have a mortgage on the property already and so this Private Lender will be receiving a junior lien on the property. Based on his desire to “not have any other promissory notes on the property”, my guess is this will be a deal breaker.
Your PL sounds like he wants first lien on the property (almost all PL’s do want this). The way he assures himself of this is to buy Lender’s Title Insurance and close the loan at a title company. You would normally pay for the TI. That shows the whole chain of title and you see exactly what other liens are on the property.
No interaction with the bank who has the 1st lien is needed. They don’t care since the new lien is below them in the pecking order.
You really need to educate yourself on the mortgage process alot more to understand this. For example, “homes” don’t go into default, loans go into default. Homes can have more than one loan on them. How the FC process might proceed would depend on which loan is in default.
Also, you can’t pick and choose which “equity” goes toward which loan. All of it goes to the first lien until it is paid back, then whatever is left goes to junior liens.
I can try to help more if you give some specific numbers.
Thanks. I am aware that loans go into default and that properties can have more than one loan on them and was pretty sure there did not have to be interaction with the bank because of the first lien. I just stated the question as the PL had. So I did have understanding. What we were thinking was that there is enough equity that both 1st and junior liens could be paid off easily with a sale of the house, so I would think that would be enough security. It could work a couple of ways. If we have an un-filed promissory note then if the bank’s loan went into default then the PL could take over, sell the house, pay off the bank and get payment himself. Or we could have a filed one and the bank would auction it and probably get enough to pay off both liens. Is this sensible?
Again, you are giving painfully few details. But in my opinion, this is not sensible. I don’t know any private lender who would do it, unless maybe a relative.
I would never hold an unrecorded note or unrecorded mortgage nor would I ever sit back and depend on there being enough left over from an auction sale to pay me back.
You may think there is enough equity but as soon as the FC process starts it becomes a distressed property and the value drops. Auction buyers don’t pay retail value for properties. They pay less than the wholesale value of an already distressed property.
So let’s say your property is “worth” $200K and you have a first lien for $125K. You get an additional $50K from a private lender. And you think you still have $25K in free equity.
But after the FC process it would be very normal for that $200K property to sell for under $150K at auction. Plus you don’t just owe $125K to the first lien holder because they have added all kinds of attorney’s fees and late penalties on to your balance so now you owe them $140K. Your 2nd lienholder is left with very little from your $200K property.
That is the typically result of auctions.
Yes, you could just turn it over to the 2nd lien holder and let him pay the first off and avoid the FC process. It is hard to predict whether that is feasible with no numbers given. You are depending on the private lender having the cash to pay off the first lender.
Okay, let’s back up. In your opinion, what would be the right way to secure a private money loan for general purposes? Is adding a lien on a property that has a bank loan on it a good idea in any circumstances?
Here’s some details if it helps:
Value of home is estimated to be $140,000. We owe $77,588 to the bank which would give us more than $62,000 in equity. PL is wanting to lend $20,000 at 12% interest (making monthly payments).
I as a private lender would not loan money on a second lien without a huge amount of cushion. So to me it is generally never a good idea. I have lent one time where I was in 2nd position to the IRS but if I had to take the property I knew I could negotiate with them to pay them off.
From your standpoint, it is a fine idea.
It just all depends on your lender and what he is comfortable with. His questions did not give me the impression that he was very knowledgeable about lending or tolerant of risk. Maybe he is.
As a lender, I look at worst case scenario. I’ll take your word on the $140K, though investors always overstate value of their property.
Let’s say you don’t make another payment to the 1st lender. You will easily owe 90K+ in a FC proceeding and it would be very typical for a $140K property to sell for less than 100K at an auction. So I don’t see that lending 20K is a “safe” investment.
But if the private lender is willing to own the property for $110K, then he is ok. The private lender can bid at the auction too, to prevent someone else buying it for less than $110K.
Thanks for the input. We’ll probably end up securing it with another property where we would borrow from him only so that he wouldn’t be taking a second position. We are not experienced in getting private money and he is not experienced in private lending, we are in the process of working something out that would be beneficial to both parties. He wants a good investment and we want money to invest with. Thanks for your time giving input and confirming that our original idea wasn’t really a good one.