How to structure a long term loan in PA with private funding

Question

Hey BP community, I have a situation that I am looking for a solution to or advice on. I live in Philadelphia, PA and have a relationship with an acquaintance whom is willing to fund investment property deals whether they be long term buy and hold, flips or buy, renovate, refinance and holds. He is a going to be a silent investor/funder and though I am a contractor, this will be my first property acquisition. Here is the complications that I am struggling with.

I have found a few properties that need very little work done to them before they can be rented and they are in working class neighborhoods so the price is very affordable. This puts both of us as very little risk. These properties are being sold As-Is so they need to be paid for with cash, which the funder is fine with. The problem is that I was interested in setting up an LLC, for which there would be a bank account. He would deposit the necessary funds. The LLC would purchase the property and the LLC would pay him back under a mortgage. This way he has to do very little except cut the check, sign the paperwork for the mortgage (issued from him to the LLC) and cash a check once a month. The complication is that, if I understand my research correctly, in Pennsylvania, according to the 2008 "Mortgage Licensing Act", no individual is allowed to issue mortgages unless they are licensed as a mortgage originator. I do know that some hard money lenders provide long term lending, i.e. mortgages in PA so I assume that they are licensed to provide mortgages.

I have considered the following solution, but found complications. The funder could purchase the house then sell it to the LLC or myself on land contract. I assume that the land contract would be structured very similarly to a mortgage (duration, interest, payment structure, P&I, etc), but is legal because he is then selling me the property over time rather than his money over time, which is what a mortgage is. The complication here is that now he has to be willing to go through all of the hassle of being the purchaser of a property and he has to hold the title to the property until it is paid off or refinanced. This situation is further compounded by the fact that there are a few properties which are similar to this scenario which I would also like to us him to fund.

If anyone is familiar with PA lending laws or has any advice on a creative situation that is legal, straightforward, keeps both parties protected and requires the least amount of effort to the funder, I would be very grateful.

Thanks!

Patrick O'Neill

Chris K. · Answer

@Steve Babiak: good catch :)

Steve Babiak · Answer

To clarify, I think Chris intended to write "regardless of what the note amortization period is" at the tail end of the above quoted snippet.

Patrick O'Neill · Answer

Thanks @Chris K. and @Steve Babiak! Much appreciated!

Chris K. · Answer

@Patrick O'Neill: shoot me a pm and I'll be happy to send you some references. But I would first ask your attorney since any attorney that does enough real-estate work should have their own title company.

It's hard to say what the best way to structure the loan is. If you haven't discussed it with your investor, it might be a good time to get to the exact details. In my experience, many investors want a balloon around the first five years, regardless of what the note term is.

Patrick O'Neill · Answer

@Chris K. Yes I totally agree about having the agreement work in both of our favor. I also am aware that a 30 year mortgage would not likely be practical given his age, so I was thinking of suggesting adding points that I would pay him in cash upfront as a concession for allowing me to have early payoff.

I am definitely going to get title search/insurance and will always, so thank you for the heads up.

Additionally, I will make sure to contact a title company quickly as I would like to educate myself on this process and move quickly. I see you are in PA as well. Do you have a title company that you can suggest?

Thanks again!

Patrick O'Neill · Answer

@Steve Babiak Thanks for reaching out and I am grateful for the referral of a good real estate attorney. I have connected with a few but with varying results and none were a good fit. We are already colleagues on BP, so I will send you a message with a note as reminder.

Thanks again for the referral and for the help!

Chris K. · Answer

@Patrick O'Neill: I'll have to think about that a bit more. The main concern I have is how you will structure the mortgage loan so that both parties are on the same page when it comes to expectations. With a traditional lender, it's typically not a big deal to pay off a mortgage early. With a private investor, the timing of the payment can influence their ultimate returns. So while I'm not sure what exactly both of you discussed, but you guys will need to be on the exact same page when it comes to the terms of the mortgage/note. If you plan to do similar deals with him and other investors, it probably makes sense to invest sometime thinking about the terms you are comfortable with.

On the closing side, the title company will need to issue two policies---one for you as the owner, and one for the investor as the lender. Assuming you are getting title insurance (which you should 99.9% of the time), they will have specifications about how the closing must occur. So I would first talk to the title company about how exactly they would like to handle the closing before getting into details about how the closing should occur.

Steve Babiak · Answer

@Patrick O'Neill - I can refer you to an attorney who is familiar with private lending. Send me a colleague request with a brief note so I don't forget why you are connecting, and I will pass along the contact for the attorney.

Patrick O'Neill · Answer

@Chris K. Thanks so much. I actually read the policy and saw both of those exemptions/exceptions but wasn't sure if they were applicable and had planned to meet with an attorney this week to discuss this further. Additionally, I didn't want to use the land contract approach, but was trying to find a work around to the complications caused by the ML Act and was still not satisfied with the solution.

That being said, if the funder is able to hold a mortgage, did you also find something hazardous with the approach of setting up an LLC, using funder money to purchase the property and then simply paying the funder back; he being the mortgage holder? I would like to allow for the mortgage to allow for extra principal payments and early payoff. Any thoughts? Concerns? Advice?

Thanks again!

Chris K. · Answer

Hi @Patrick O'Neill:

I haven't looked in the Mortgage Licensing Act ("MLA") in a while and it's a complicated enough law that you and your friend should talk to a lawyer about it. But with that in mind, I recall that the Pennsylvania MLA contained an exception for mortgage loans made for "business or commercial purposes." Also I believe the legislature amended the law later to create a "soft" exemption for people who originates less than four mortgage loans a year. If my recollection is correct, your investor may not need to comply with MLA.

FYI --- assuming your friend doesn't need to comply with MLA, I probably wouldn't handle the closing the way you are describing for various reasons. In fact, a title company may not allow you to do so. If you haven't done these kind of deals before, I would strongly advise that you work with a lawyer and a title company to handle the closing. That's for the benefit of all parties.

I would have to think more about whether you should do this using an installment land contract. But one issue that you may run into is paying two transfer taxes. I don't have the statute in front of me, but I believe you won't have any exemptions that will save you from paying twice.

Long story short, go talk to a lawyer about whether MLA applies. You'll have further clarity once you know the answer.

How to structure a long term loan in PA with private funding

How to structure a long term loan in PA with private funding

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