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A TYPICAL CALIFORNIA REAL ESTATE LOAN TRANSACTION
| | Monday, August 27, 2007 @ 09:50 AM EDT
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Contributed by: Darryl-CA
Darryl-CA Properties
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In a typical California real estate loan transaction, in consideration of a lender loaning a borrower monies to acquire or improve property etc., the borrower (a) promises to repay those monies and (b) subsequently irrevocably grants legal title to his property to a trustee to hold in trust as collateral for the benefit of said lender.
However, in most cases, the lender making the loan, according to the terms and conditions of the lending agreement, issues the loan based upon their average daily asset base. Generally, they use only a portion of that base to capitalize (fund) loans and your particular loan cannot be part of that base.
Why not? Well let’s review a lender's legitimate lending process so that we may see any potential pitfalls that may exist.
First of all as noted above, lenders are in the business of using their average daily asset base as the basis for loans. Their average daily asset base is derived at least from both hard asset holdings (i.e. tangible assets such as land, cash on hand etc.) and collateralized assets (i.e. promissory notes).
There’s no problem with them utilizing 100% of their hard assets as the basis of loans so we will not look at that part of the process. The problem lies with the lender’s use of collateralized assets, especially their use of promissory notes .
When a lender properly originates a loan, they originate a new account receivable. That is to say, that in return for a loan that the borrower has received from the lender, the lender has the right to receive payments according to the terms of that loan’s underlying promissory note and they are allowed to use the value of such accounts as an asset base for originating new loans. The concern is that if the bank were to use your own account as part of that asset base for initiating your loan, they would be lending you your own credit, which is not lawful.
Many questions come to mind such as, at what point in time does the borrower’s promissory note become an asset on the lender’s balance sheet, at the moment of its execution and deliverance or offer and acceptance? Or, when do lenders process new loans as new accounts receivable, before or after they capitalize (fund) the “new” loans?
As you can see, if your promissory note becomes the lender’s asset at the moment of its deliverance to them and or acceptance by them, which is normally several days before your loan funds, under generally accepted accounting principles, said note would be considered their account receivable and would be or possibly be construed as consideration given by you to them for their granting you the loan.
Stated another way, if the lender accepts deliverance of a borrower’s fully executed promissory note prior to their funding of his loan, said note would appear in the asset column as an account receivable on their balance sheet.
Some may ask, “why does any of this stuff matter?”
Well in a transaction where a borrower gives a lender a $100,000 promissory note and he accepts it in return for a $100,000 loan that the borrower has purportedly received from him, and in reality said lender actually accepted it prior to funding the borrower’s loan, the lender merely received an asset (“the promissory note”) and will eventually give the borrower an asset ( “the money”) in return. In that case, due to the lack of consideration, no contractual obligation is formed between the borrower and lender and all that will transpire is an exchange of an asset for an asset.
However, in a transaction where a borrower gives a lender a $100,000 promissory note and he accepts it in return for a $100,000 loan that the borrower will receive from him in the future, said transaction has consideration and forms contractual obligations between the two.
Since most lenders have borrowers execute promissory notes in return for loans they have purportedly received (past tense) and in all actuality the lender merely accepts them as assets prior to funding the borrower’s loan, all a borrower who is facing foreclosure has to do to stop it is, send his lender or their successor in interest a “Notice of Rescission of Contract”.
What contract?
Well the contract means the deed of trust, which reads in part, “BORROWER, in consideration of the indebtedness herein recited and the trust herein created, irrevocably grants and conveys to Trustee, in trust, with power of sale, the following described property located in the County of etc.
You see, a deed of trust is none other than a contract whereby a borrower, in consideration of a lender loaning him money, agrees to put up title to his property as collateral for the loan. It is also used as security for the performance of obligations.
But what if a loan never took place?
What if there was simply an exchange of an asset (“the promissory note”) for an asset (“ the money”)? In that case a borrower could void any contractual obligations that may exist between himself and his lender by unilaterally rescinding the contract (deed of trust) due to lack of consideration. See California Civil Code §§1688, 1689 and 1691.
Tell me what you think.
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