Taking out a hard money loan can seem complicated from a legal standpoint. There are multiple documents that are required to be reviewed and signed. Understanding what each document says is time consuming and may be confusing, especially if it’s your first time reading them. This article will explain in simple terms each of these documents. And as you read along, remember that you can always ask your attorney (most hard money lenders will require you to retain an attorney – more on that later) any questions you might have.
So, without further ado, here are the documents that are signed at a hard money loan closing:
Assignment of Leases, Rents and Profits:
- Short description: If you default on your loan, your lender takes over as the landlord.
- Full description: This document is sometimes referred to as “Assignment of Leases and Rents” or as “Assignment of Rents,” and entitles the lender to any income from the property if the borrower defaults on the loan. Income can be in the form of leases, rent, or any other collections (such as coin operated laundry) that stream off the property.
Affidavit of Non-Occupancy:
- Short description: You can’t live in your investment property.
- Full description: A affirmation and verification that, for as long as the loan is outstanding, the borrower will not occupy the property. Since hard money loans are intended only for investment properties the lenders must ensure that the borrowers sign this agreement. In the case that a borrower defaults on their mortgage and a foreclosure is required, the lender will seek a commercial rather than residential foreclosure. The reason behind this is that residential foreclosures can take substantially longer, and tie up the lenders capital.
Certification of Business Purpose:
- Short description: The loan is made to your LLC, not to you.
- Full description: This document emphasizes that the loan is being made for business purposes and not for individual primary residence. The Business Purpose requirement is also why hard money lenders will almost always require the loan to be closed in an LLC instead of lending to individuals in their own name.
Affidavit of Good Standing:
- Short description: There are no issues with your LLC which is taking out the hard money loan.
- Full description: This document states that the borrower is a registered LLC in the state the loan is being made. The document also also serves to prove that this LLC is in good standing with the state and is qualified to do business. Practically – and most importantly – this means that all licensing, registration and/or renewal fees have been paid.
Distribution of Proceeds:
- Short description: How you get your money at closing.
- Full description: This document provides legal proof that the borrower received the loan funds, how much they received, and how those funds were disbursed. Methods of receiving funds can include being issued checks, wire transfers, etc.
Errors and Omissions:
- Short description: Remember that old adage that if you get a speeding ticket but the officer writes down the wrong license plate number, you don’t have to pay it? That analogy doesn’t hold with hard money loans.
- Full description: This document is an agreement that states that if any errors occur during the loan process (such as accidental typos in the loan documents), the spirit of the documents holds, and will not negate the legality and validity of the documents. This document serves to protect the lender from “gotcha” technicalities and similar scenarios.
Estoppel Certificate:
- Short description: An affirmation that there are no other liens on the property.
- Full description: This is a short document and is simply an acknowledgement by the borrower that the loan is a valid lien on the subject property and that there are no defenses or offsets to the loan.
Environmental Indemnity:
- Short description: Any environmental issues associated with the property are the borrower’s responsibility, not the lender’s.
- Full description: Since the lender cannot know all the potential environmental issues prior to making a loan, this agreement ensures that the lender is protected from any liabilities and costs that are incurred due to environmental issues with the property. Examples of environmental issues include: the presence of any hazardous substance on the premises, leaking oil tanks, or failure to comply with local environmental laws.
Member’s Consent:
- Short description: You’re the representative for the LLC taking the mortgage.
- Full description: This document will display each person’s ownership (including sole proprietors) in the LLC taking out the mortgage. In addition, it states that the owner is allowed to sign various documents and pay any associated expenses on behalf of the LLC.
Guaranty:
- Short description: You are liable for the loan your LLC takes on.
- Full description: The Guaranty states that you as an individual are responsible for the hard money loan which is made to a LLC entity. Because the LLC may not have any assets (other than the property), the lender will want to make sure that the hard money loan is guaranteed by somebody who has “skin in the game,” typically the owner of the LLC.
Mortgage Note:
- Short description: A description of the main details about the loan.
- Full description: This document lays out all the terms of the hard money loan, including the collateral address, the origination date, interest rate, when the payments are due, the tenor of the loan, any extension opportunities (and associated fees), prepayment penalties, etc.
Mortgage and Security Agreement:
- Short description: The subject property is the collateral for the loan.
- Full description: This is usually a longer document that lays out the provisions of the mortgage and provides a hard money lender a security interest in the property that the borrower pledges as collateral. The security interest is an enforceable legal claim or lien on the collateral (the property) that is backing the loan. This agreement is then recorded at the county level.
Opinion Letter:
- Short description: Your attorney sign-off on the loan documents.
- Full description: Because hard money loan documents are complex, many lenders will require that you retain an attorney to represent you. The attorney is often the same one that coordinates the closing on the property for a new purchase. The Opinion Letter states that the attorney is representing you and has reviewed all the documents that are described above.
After reading the breakdown on each of the documents that are signed at a hard money closing, you should have a better understanding and feel more comfortable with the process. Depending on where the closing is being held (title agency or attorney’s office), a notary public may also need to be present to ensure authenticity. If you have further questions on the documents it is advised that you work with a local hard money lender – such as West Forest Capital – since they will be able to take the time to answer your questions more thoroughly than national lenders who may not be able to make their attorney’s available to you.
