|Can Foreclosure Investing be Criminal?
I recently attended a "free" seminar on how to "get rich quick" in foreclosures.
The speaker had a different angle than the usual "steal it from the homeowner" method.
The speaker suggested that you approach the homeowner with the following plan:
- Tell the homeowner you will make up his back payments and give him some cash
- Take title to the property.
- Lease it back to the former owner with an option
to buy it back for one year.
The speaker suggested that after one year, the house would be yours if the former owner didn't
exercise his option. Sounds great doesn't it? You could beat out all your competition who are trying
to "steal" the same house.
Well, here's the catch. The poor homeowner in foreclosure will be your best friend when you make up
his back payments. However, when the year is up and he can't get his house back, the trouble will
In a number of cases, these homeowners will go to court and claim that the "sale/leaseback"
was really just a disguised loan. He or his attorney will ask the court to "re-characterize"
the transaction as a loan and place title to the property back in his name (for an in-depth discussion
of sale/leaseback re-characterizations, read "How to
Structure Sale-Leaseback Transactions"). If the court agrees, the loan is illegal, since it
Here's how it works: Let's say that you find a house in foreclosure worth $100k. The balance of the
loan $50k, and the homeowner is behind $5k. You agree to make up the back payments of $5k and take
title. You then lease it back to the homeowner with an option to buy it back for $100k, its fair market
value. What's the problem?
The problem is that if the court re-characterizes the transaction from a sale/leaseback to a loan,
you have loaned the homeowner $5k at 1000% interest! Think about it . . . you give him $5k, and he has
to pay $50k ($100k option price minus the $50k loan balance) to get his equity back. 1000% interest is
usury, and the court will set aside the loan. You will lose the house AND your $5k.
If you're not familiar with the word "usury," it means charging more interest than permitted
by law. The consequences of a usurious loan are usually civil; the court will declare the loan void
and the borrower won't have to pay it back. If you get caught making usurious loans on a regular
basis, you'll be hearing the words "loan-sharking" and "racketeering." These are
CRIMINAL acts that will get you in jail. Many foreclosure real estate investors have been indicted
on racketeering charges for doing exactly what I described above.
The Better Way to Do It
The safer way to deal with someone in foreclosure is to buy him out and get him to leave. If a person
is in serious financial trouble, chances are he will get into trouble again. Thus, you will end up
with a messy eviction and a court battle when the tenant/former owner. If homeowner insists on staying
in the property, then simply lease it to him without an option to purchase.
If the homeowner is not willing to be just a tenant and has significant equity in the property,
offer a partnership arrangement wherein the partnership will own the property. Your contribution to
the partnership is the money to cure the back payments due on the loan. The homeowners
contribution is the equity in his home. The partnership will lease the property to the former homeowner
for market rent. If he defaults on the rent payments, the partnership evicts him. The former homeowner
still has a partnership interest, but he does not have possession. At that point, you can buy him out
of the partnership.
The partnership approach should not be approached without the assistance of qualified legal counsel.
Copyright 1998 All Rights Reserved. No part of this publication may be copied
or reprinted without the express written permission of the Author.
William Bronchick, Esq.
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