BiggerPockets

Private Lending: Sec Issues

One the most frequent questions I get from students or newsletter subscribers relates to how can I raise money to buy real estate investments through private lending without getting in trouble with the SEC. This is not an easy question but certainly an important issue. Before I would answer this question, I always tell people that I am not an attorney and the advice I give is from my personal experiences and education and should not be considered legal advice.

Is borrowing money for real estate investments from a private lender considered to be issuing a "Security" as defined by the federal SEC or possible your state SEC? The federal SEC defines a "security" as a financial instrument such as stocks and bonds including such things as notes or evidences of indebtedness ect….

Private lending involves real estate investor borrowing money from a private individual in exchange for the investor paying interest to the private lender. At the end of the loan term the investor pays back the principal to the private lender. Most private lending transaction involves the real estate investor giving the private lender security in the form of a mortgage on the property they bought with the money.

So given the definition of a security and the nature of the typical private lending transaction, I believe most people would consider a private lending transaction is issuing a "security" under the federal SEC guidelines. Additional, since most states have securities regulations based on the federal SEC statues, I believe that private lending for real estate investing would also be deemed to be issuing a "security" under most state SEC regulations.

So if you take the position that private lending is a "security", as I believe it is, how do you borrow money from private lenders without having to register with the federal SEC or your state SEC departments? Well to be able to do private lending transitions without registering with the federal or state SEC you must fall under one of several possible exemptions.

One such exception is made when the real estate investor does not make any public offering. That is to say that the security is transacted privately. In such a case, the security can be transacted without any registration. Each state has different rules and it is very important that real estate investor learn the rules and exemptions of your particular state.

Comments

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  Justin Pierce — almost 3 years ago

  Good article. I believe the rule of thumb for "private transaction" is did the relationship create the transaction or did the transaction create the relationship. Do you agree? With lending getting so tight this is a very popular subject. I also think private lenders are so much more flexible (usually) that they are worth the extra cost. Keep up the good work.

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  Bryan Hancock — over 1 year ago

  I have always heard that borrowing money from folks is okay and not frowned upon by the state securities folks or the SEC. It is still a security so I have always wondered why this is the case. I know that they will shut you down quick for doing general solicitation for equity funds. Loans seem to be okay and fly under the radar from what I have seen.