Re: What I’ve learned (long) - Posted by Bill Gatten
Posted by Bill Gatten on May 07, 1999 at 23:09:00:
This a tough one to respond to… I wish the thing was shorter, but I’ll do my best.
>>Now a question for you: Are you absolutely sure that transferring 90% of the beneficial interest in a land trust does not violate the DOS clause?
++Yes. But am I sure a lender wouldn’t someday try to prove otherwise? No. The fact is that the transfer of bene. interest in a land trust is of personal property and not the real estate that is the security for the loan. It is as innocuous as me giving you a beneficiary interest in my will, or naming your as the remainder agent in my family trust and renting one of my income properties to you.
>>Have you tested this in court?
++No “I” have not, and pan never to do so, because the entire system is designed to prevent such tests from ever taking place. However, if your question is has it ever been tested? The answer is Yes. Many times (particularly in Illinois)
>>I’ve seen Mr. Piper ask you this question a couple times, and I don’t recall seeing an answer
++I honestly don’t think I’ve ever failed to answer any question of Jim. I respect his knowledge and option (and intelligence) too much for that. I hope this answers it for you.
>>(Yes, your point is taken about how a lease-option is clearly stated in the law, whereas a 90% transfer of beneficial interest in a land-trust is more questionable).
++Really? More question by whom? This simply is not so. An Option is recorded in the public record… an Assignment of Bene. Interest is 100% private, anonymous, unrecorded, secret, no body’s business, silent and wholly unrecorded… EVER.
>>The risk of this [lis pendens] can be minimized by doing two things as the optionee: Record an affidavit and memorandum of option to cloud the title yourself, and have the optionor give you a second performance mortgage so that you will be in front of any subsequent judgements. The first is easy to do; the second may or may not be possible depending on the optionor’s motivation level.
++OK? Hello? Why mess with it if you don’t have to? And why shouldn’t the key word here be “eliminate,” vs. “minimize>”
>>Q: In an L/O could an Optionee’s legal entanglements and personal problems create a major “cloud on title” A: I don’t think so. As the optionee, you don’t yet hold title. Unless I’m missing something, I don’t see how anything the optionee does would affect title until the option is exercised.
++You’re missing something. How 'bout I sue you and file against all your assets… isn’t your lease option an asset? Don’t I have access to it? Wouldn’t I be able to cloud (or at least ‘mess up’) the title on the property real goo until I get it, or the house, or a settlement?
>>QL 4. In an L/O could eviction of an errant tenant fail, forcing one into a judicial foreclosure process? A: Yes, it’s possible (you never know what a judge may do), assuming that the tenant/buyer pursues this all the way to court. Precautions against this include making a small part of your option consideration refundable as a normal security deposit, so you have something to hold over their head (this would also make your separate rental agreement hold up better in court). If they’re getting particularly adamant then you could bribe them with some of their option consideration back to get out. As Bronchick says, do everything you can to stay out of court…I assume the same would hold true if somebody went after you because they didn’t like the way a PACTrust worked out.
++Nope… sorry, but that ain’t they way it happens. The judge declares “equity,” and you’re screwed… end of story; or at least in every case I know anything about.
>>Q: 5. If judicial foreclosure were necessary in an L/O, could an Ejectment Action and Quiet Title Action also be necessary and extremely expensive and protracted for the Optionor, while he makes the payments and pays an attorney, while the defaulting tenant lives rent-free until the Schlitz hits the can (as it were)? A: Yes, if this gets dragged into a judicial foreclosure, then things could get ugly. See above for precautions against this.
++No comment needed.
++re. #6. Ditto
>>7. Is collecting an option fee and higher than FMV rents scrupulous? A: I personally believe there are two facets to this: the option price and the rent. If both of these are jacked up high, i.e. you’re charging a significantly above-market rent in return for an option to buy at a significantly above-market price, then I start to have a problem. In other words, you’re contributing to. This is a matter of opinion, their having trouble buying the property. But if I’m selling the property at a fair price, then a higher rent as part of the option arrangement seems fair (note that this scenario applies to rent credits…a common practice is to apply, say, a $200 rent credit for every $100 the rent is above-market; you’re in effect trading a higher rent for a lower price at time of exercise). Likewise, charging fair market rents along with an option to buy at above market value seems fair as well.//I won’t get into the question of “someone the optionor knows can not, or will not, exercise the option”. Jim Piper has address this issue several times in the past far more eloquently than I could; the bottom line is that as long as the price is fair, then there’s no reason that anybody shouldn’t be able to qualify to buy the house after 1-2 years (at least in our current lending environment). If they make choices with their credit during that time that jeopardize that, then that’s their decision.
>> Q:8. Does a Lease Optionee receive any tax benefits for mortgage interest and property tax? A: No, no more than any other tenant.
++Sorry, but tenants in PACTrust leases get all of that.
>>Does this make holding rentals bad?
++No. Didn’t mean to say so either. I have rentals. It’s just that they’re in land trust arrangements so I can sleep good at night.
>>Q: 9. Does a Lease Optionee while waiting the his ship to come in, get to participate in principal reduction, equity build-up, appreciation, water rights, mineral rights? A: Principal reduction and equity buildup: Depends on what was negotiated. If there are rent credits, these will usually accumulate far faster than principal reduction would occur in the first couple years of a long-term loan.//Appreciation: Again, depends on what was negotiated. If the option price is set at a constant amount, then any appreciation beyond that is realized by the optionee upon exercise of his option.//Water/mineral rights: Until the option is exercised, no, of course not [why “of course not” they get 'em in a PACTrust]. But if the optionee decided that these were important to him, then he would have the option to buy the property to obtain these rights. That’s the whole point.
++Afraid I don’t the “point” then.
>>Q:10. Does a land trust in combination with a triple net lease eliminate ALL of these negatives and provide the added benefits of anonymity and virtually complete protection of the title? A: You would know better than I would, Bill. Please enlighten us on what would happen if your 3rd party tenant/buyer refused to make their payments. Could you guarantee that a court wouldn’t rule that that person has an equitable interest in the property, and force you to go through foreclosure?
++Yes. The eviction is simple they guy who is in default in evicting himself. There is only a simple lease with no option to contend with. Getting him off the trust is another issue: and this is accomplished by his agreement to sell his beneficiary interest if he’s ever in default (following significant penalty and appraisal for full Fair Market Value… less his penalties, late payments, interest, costs of appraisal, default fee, etc.). He agrees that if he goes through all of this and proves he is owed money, that he will accept his [re]payment in the form of an unsecured promissory note to be paid when the property sells upon termination of the trust.
>>It seems to me that both of these methods are using legally sound principles, but that as with anything, these principles may or may not be applied consistently in a court of law. Are you saying that a PACTrust is truly risk-free? Are you willing to guarantee that?
Nope. There is always the risk that the tenant will refuse to pay, or will destroy the property or skip town with the neighbor’s daughter. It’s just that a PACTrust greatly minimizes such risk. Eviction is quick. The penalty for damaging the property involves recapture of tax benefits (the IRS can help you prevent property damage) and the neighbor’s daughters are always better looking.
Dang… this took a long time.