Get it in Writing!

Arecent decision by the Court of Appeal underscores the importance of the oft-repeated admonishment to “Get it in Writing!”  In this case, the failure to do so had particulary drastic consequences for the real estate agent who did not get the buyer’s oral agreement to reconvey the property back to the seller reduced to writing.  More significantly, the Court held that the four (4) year statute of limitations allowed the Seller to proceed against the Agent for Breach of Fiduciary Duty.  Most real estate agents rely with false confidence on the more commonly-applied two (2) year statute of limitations for professional negligence.  Here, the Court agreed that the plaintiff’s action against the agent for negligence was barred by the statute of limitations, but ruled that the failure of the agent to carry out the client’s specific request to get the oral agreement reduced to writing constituted a breach of the real estate agent’s fiduciary duty, allowing the plaintiff to proceed with the lawsuit for damages.

The facts are simple.  The Seller made arrangements to sell her house in San Francisco to an investor to avoid foreclosure.  The Investor/Buyer agreed to buy the house, pay off the liens, then reconvey the property back to the Seller in six months for a $10,000 profit.  The Seller insisted that the real estate agent get the agreement to reconvey the property in writing, but the agent kept putting her off, eventually preparing a purchase and sale agreement but did not include the agreement to reconvey.

The Seller sued the Buyer for fraud, but the Court ruled in favor of the Buyer.  The Seller then sued the Agent for negligence and breach of fiduciary duty, arguing that the failure of the Agent to follow the Seller’s request to get the agreement in writing resulted in her damages (loss of the house).  The trial court ruled that the Seller’s cause of action against the Agent for professional negligence was barred by the 2-year statute of limitations, and also ruled that the cause of action for breach of fiduciary duty was also barred because the complaint had not been filed within four years of the close of escrow (June, 2004).

The Court of Appeal agreed that the Seller’s action for negligence was barred by the 2-year statute, but ruled that the gravamen of the complaint was not negligence or fraud, but the Agent’s failure to draft documents necessary to the real estate transaction.  The Court declared that the “fiduciary duties of a real estate agency include the duties to obey the instructions of the clinet, and to provide diligent and fiathrufl service.”  The Court went on to declare that the cause of action accrued, not when escrow closed, but when the Investor/Buyer sold the property to a third party – effectively denying the Seller the benefit of the agreement to reconvey.  Since this occurred in or around November, 2004, and the Complaint had been filed in July, 2008, the Court ruled that the Seller could proceed since the four-year staute applied.

Obviously, this ruling, which was certified for publication on August 17, 2011, will create a stir among real estate agents who had been counting on the two-year statute as the upper limit of liability for any damages resulting from a real estate transaction they had been involved in.  But it also sends a clear and unambiguous message that, to the extent reasonably possible, all essential terms of an agreement should be put into writing for the parties to review and make certain there is no misunderstanding of those terms.  More importantly, the ruling underscores the importance of Agents to recognize that their primary duty is to their client, and a failure to heed that warning carries a very long tail — 4 years from the date any resulting damages might take place.

Back to Basics – Investing with Self-Directed IRA

Whoa, Nelly!  If you’re not suffering motion sickness from watching the Dow, you’re probably still recovering from the market’s overall poor performance over the past few years.  You’re not alone.  After a brief recovery, we’re back where the Dow was one year ago.  Meanwhile, real estate prices are a bargain, but getting a loan is still a major challenge.  Many people are discovering the benefits of using their IRA to invest in real estate.  To be successful, you need to understand the basics about both using your IRA and investing in real estate.  We’ve got two very affordable events coming up that will cover both!

A lot of people are taking a new look at using their pension funds to invest in real estate.  The process is relatively simple — you roll your plan funds (401k, SEP, 457, etc.) into an IRA with a custodian that allows you to invest in “Alternative” investments, such as real estate, businesses, notes, precious metals, etc.  Since 1974, the IRS has allowed individuals to use their self-directed IRAs to invest in anything except collectibles or insurance.  (IRS Publication 590).  There is a catch — it has to be an arms-length investment; the account holder cannot receive any direct or indirect benefit.  And, you may not use your self-directed IRA in a transaction involving yourself, your spouse, parents or children.  But the range of permitted options is extremely wide.

Using your self-directed IRA, you can purchase investment rental property, make private loans, purchase a percentage interest in a commercial development, or invest in a new business.  You can combine your IRA with others, and even borrow money using your IRA to leverage your purchasing power.  Investment opportunities are not limited to real estate; you can invest in oil & gas leases, businesses, and yes, even stocks!  The key is to find something you are comfortable with that will generate a nice return on investment for your IRA.  But there are special restrictions, and if you violate IRS rules, the penalties are severe!  On September 21, from 6:30 – 7:30 p.m., I will be joining Ron Ricard, Certified Exchange Specialist at IPX1031 at Intero Santana Row to discuss the use of the self-directed IRA for investing.  Additional details will be updated here soon.

Learning that you can use your IRA to invest in real estate is exciting, but it is easy to get overwhelmed with the range of opportunities, especially with real estate prices at bargain levels.  Even if you have some experience investing in real estate, the market has changed, and like new investors, you need to go back to basics.  On September 17, I will be moderaing a panel of experienced real estate investors who will provide an all-day JumpStart seminar in Cupertino on the basics of real estate investing.  Nothing will be sold — it’s all education and networking.  Topics to be covered will include the pros and cons of different types of real estate investments, how to find good deals, tax considerations, how to finance transactions, and exit strategies.  To attend the JumpStart program on 9/17, go to www.SJREI.org to register and get more information.  Seating is limited, so be sure to register early!

Learn before you earn.  Using a self-directed IRA is not for everyone, and you need to understand what risks are involved before making important decisions involving your pension funds.  The two programs are designed to provide you the basic information you need to make an informed decision.

“No Money Down!” Too Good to be True?

Can a clever entrepreneur realistically expect to make money in today’s market with no money down? Each year, thousands of people sign up for real estate seminars to learn about wholesaling and similar techniques that promise to make them wealthy with limited demands for time or cash. These programs are sold at seminars and workshops, along with books, CDs, and tapes, along with the opportunity to sign up for “coaching” and “mentoring” programs.

Many people ask me if these programs are legitimate, or if they are “too good to be true.” Sometimes promoted as “wholesaling,” they have been around for years. For the new investor with little or no money to invest, these concepts offer an opportunity to get started, learn a lot, and if you land the right deal, make some money. Here’s how one approach works: you search for a property owner who is highly motivated to sell for substantially less than the market value, make an offer to purchase, and get the seller to sign a legally binding contract. You then sell the contract to an investor – most likely a “rehabber” – and take the profit on the sale. Basically, you make up for your lack of cash with hard work – searching lists, making phone calls, and knocking on doors – to get the deal: a binding contract to purchase the property for substantially less than the market value. In theory, you could earn a fair income in real estate without having to pay a dime of your own money, replace a roof, or install a toilet. Slick marketing brochures and flashy web sites promise to teach you all the tricks, provide all the forms, and for only a few dollars more, be your Coach or Mentor.

Does it work? Like most programs that promise you the chance to make money in real estate, it depends on a number of factors, not the least of which is the integrity and reputation of the program and the people behind it. Other factors include the state of the real estate market, and changes to laws and regulations affecting the investors. Things have changed since the housing collapse in 2008, and wholesaling was being promoted by individuals like Robert Allen and Carelton Sheets. In a rising housing market, bad decisions and sloppy management will often be forgiven or ignored if there is still sufficient profit in the deal. But in a declining market, with tight credit and an overabundant supply of properties with little or negative equity, qualified buyers are scarce – and cautious. This is not to say that you can’t make money wholesaling, but you’ll have to work twice as hard for half the profit. You should be very skeptical of any claims or testimonials made before 2008!

Making the task even more challenging are many laws recently enacted by the California Legislature, mostly in response to reports of fraudulent schemes which were designed to take advantage of homeowners facing foreclosure. Many real estate programs from out-of-state failed to address the new California laws into account, while others merely provided lip service to the new California regulations. Unfortunately for the investor, the consequences for making a mistake could mean heavy fines or even going to jail! It is very common for these programs to recommend that you “get a lawyer on your team” as part of setting up your wholesaling business. Of course, the cost of legal advice is not included in the price charged for the seminar or “coaching” program! Also not included: the cost of legal representation if you decided to guess and guessed wrong!

So, what has changed? For one, the entire housing market. In the typical wholesaling transaction before 2008, a “no money down” deal would involve finding a homeowner with a large amount of equity willing to take less profit in exchange for the convenience of a quick, “as-is” sale. In a rising market, the property value continues to rise, and there is a good probability that the investor or rehabber will recover their purchase price and repair costs and still make a profit. Since the housing crisis struck in 2008, the percentage of sellers being forced to sell because they are underwater, facing foreclosure, unemployed, and unable to refinance or modify their mortgage, has steadily increased. Today, almost half of all home sales on the market are short sales, which not only means a much longer and contentious escrow, but the profit margins no longer exist. As housing prices drop, investors can afford to stand back and wait. For the wholesaler, it most likely means losing the deal altogether! To make it work, the wholesaler must cast a wider net, and inevitably will find themself facing compliance issues under the new regulations.

As a result of many fraudulent scams, California enacted new laws and toughened others intended to protect homeowners facing foreclosure from unscrupulous individuals trying to take advantage of homeowners. For example, a homeowner who had been issued a Notice of Default has a 5-day right of cancellation of a sale, and must be provided a special Notice of this right (CC §1695). The Attorney General requires individuals who offer “foreclosure assistance” to register as a “Foreclosure Consultant” and post a special bond (CC §2495). Violations could result in steep fines and even jail. In addition, the California Department of Real Estate started issuing Cease and Desist orders against unlicensed individuals for activities that were deemed by the DRE to require a real estate license. New and tougher laws, tougher penalties, and stricter enforcement definitely increases the risks and challenges for the wholesaler operating in California.

In addition, to protect homebuyers against unscrupulous “fly by night” rehabbers, the Legislature enacted AB2335, which requires local municipalities to enforce provisions requiring that all work be done by licensed contractors. An exception was allowed for an owner/rehabber, but only if they certified that they were an owner-occupant for 12 months. Further complicating matters, all States were required to enact provisions to implement provisions of the SAFE Act, which seeks to strictly regulate private lending practices by requiring those who originate or arrange loans to take courses, register and report all lending activities. Making the challenge even tougher, new reporting and disclosure requirements effectively make it difficult, if not impossible, for the wholesaler to claim a fee, let alone complete a double-escrow.

In short, these challenges, coupled with the evolving nature of real estate transactions, makes wholesaling a considerably more difficult way to get started in the real estate business. However, this has not appreciably reduced the number of individuals and companies from promoting seminars and sell books and CDs, and offer attractive discounts for “coaching” and “mentoring” programs. Before you write a check or given them your credit card, do your due diligence. Read the reviews. Make sure they are based where you want to invest your time, especially if it’s in California. And check the date – make certain the materials are current and relevant for today’s real estate market! There are a few legitimate and honest programs out there that do a good job of teaching new investors how to get started and survive in this turbulent market, and those who take the time to adjust and adapt to the new regulations will stay ahead of the curve.

The bottom line. Many factors have changed real estate investing. “No money down” deals – if they ever really worked – are complicated and scarce, and probably not the best choice for the new investor just getting started. At the same time, changes in the real estate market have created new opportunities not previously available, so keep your eyes and ears open. Join a reputable REI association; get to know other members, and listen with a critical ear. If a particular investment strikes you as interesting, apply the following tips.

Tips. Rule No. 1 is to do your due diligence. If the claims and promises sound too good to be true, they probably are. Rule No. 2 is to plan ahead, and be patient. In a turbulent market, everything takes longer. Delays can end up costing you money, if not the whole deal. Rule No. 3 is to be realistic. Get the facts from professionals – don’t rely on something your weekend buddy said, or something you got in an e-mail. Double-check and verify the facts. Ask yourself – do you have all of the relevant facts to make an informed decision?

What you need to know about Dispute Resolution

First of all, it is mandatory. Second, it is effective.Third, it can be relatively inexpensive. Today, most contracts including most real estate purchase agreements‚ contain a provision that requires the parties to submit disputes to arbitration before going to court. If you’ve ever been involved in litigation, you know that at some point in the process, Court rules require the parties to participate in some form of Alternative Dispute Resolution, or  ADR. This can take the form of arbitration or mediation. However, most people, including some attorneys, are confused by these terms.  What are they?  How are they different? Which one is better?

According to the Superior Court of California, County of Santa Clara, ADR is a process in which a neutral person helps people who cannot agree, so that they can resolve their case. The types of ADR available for civil litigation include mediation, neutral evaluation, private arbitration, judicial arbitration, and early settlement conferences. In addition, if the case does not settle, a mandatory settlement conference is usually scheduled the week before the matter is scheduled to go to trial.

Mediation is described as an informal, confidential, flexible and non-binding process‚ in which the mediator helps the parties to resolve the dispute. In mediation, the parties are free to come up with whatever solution is mutually satisfactory. The mediator facilitates the discussion, but does not make rulings. A good mediator can help the parties consider options they and their attorneys might not otherwise have considered. The Courts are somewhat limited in what they can order the parties to do — the parties themselves have a lot more flexibility to fashion a remedy more suitable to their situation. 

 Arbitration‚ is similar to but less formal than a trial. The parties submit their respective arguments to a neutral  either an experienced attorney or a specially appointed Judge who will make a ruling based on the evidence and arguments submitted.  There is no jury in arbitration. The parties can agree (in advance) that this decision will be either binding or non-binding. If the decision is non-binding, either party may reject the ruling and the matter will proceed to trial. However, in many cases the arbitrator’s ruling gives the parties an idea how the Court might view the case. The primary advantage of binding arbitration is that is can be less costly and produce faster results than a trial. In complex cases involving large sums of money, the parties often will pay for special private arbitration, usually conducted by retired judges. 

Dispute resolution is very effective, and can be relatively inexpensive.  Over 90% of all cases filed in Superior Court in Santa Clara County settle before going to trial, sometimes, quite literally, on the courthouse steps. Many of the forms of ADR are offered by the Court to parties in litigation for free or for nominal sums. However, for one reason or the other, parties ignore these opportunities and instead spend considerable time, money and effort to prepare for trial.  By the time they are directed to participate in mandatory settlement, they sometimes feel  erroneously  that they have nothing to lose. They fail to take advantage of the opportunity to take control of the outcome, and ignore the real costs of trial, post-trial procedures, and appeals‚  which can take years!

At any time, anyone may seek mediation to help them resolve a dispute and possibly avoid the cost, time and stress of litigation altogether. A key to saving money is to agree to mediation as soon as possible — before lawsuits are filed, if possible. The process is confidential, relatively inexpensive (especially when compared to the cost of lengthy litigation), and surprisingly effective. The ideal mediator should be knowledgeable about the subject area of the relevant law, experienced and trained, and skillful at getting the parties to explore all reasonable options.

ADR provides parties to a dispute the opportunity to control the outcome, reach an early resolution, and save thousands and thousands of dollars. Remember, the money you save may be yours!  If you need an experienced mediator who understands real estate, business, and common sense, please feel free to contact me.

Using a Checkbook LLC to Invest your IRA Funds

Six months ago, I wrote: “Real estate prices are at bargain levels.  Many individuals seeking to recoup their stock market losses, or who are considering a career change, are seriously considering real estate as an investment opportunity.  However, despite the fact that rates are at historically low levels, lenders are still reluctant to loan money, and with the overall drop in appraised values, it is harder than ever to get an equity line of credit.  Even those with great credit scores find that lenders are reluctant to loan money for some of the more challenging types of investment opportunities, such as bulk REO sales, foreclosures, rehabs, and flips. This is where you might consider using your retirement plan — your 401(k) or IRA – as an alternate source of funds.”  For whatever reason, the situation has not changed: real estate is still a bargain and lenders are still not lending.

If you haven’t already done so, you might consider using your Self-Directed IRA to fund a real estate investment.  For some people, it might even make sense to set up a “Checkbook LLC” so you can control the speed of the transaction process.

Based on some examples I’ve encountered over the past year, I want to emphasize that the use of your SDIRA must be compatible with your investment objectives. Restrictions on the use of your IRA — sometimes referred to as “Prohibited Transactions” under IRC Section 4975 — may be incompatible with your objectives.¬† For example, if you plan to purchase an investment rental for your son or daughter to live in while they attend college, you cannot use your IRA funds.¬† Another example is where you plan to use your IRA to fund a business where you are the key decision-maker (CEO, COO, etc.).¬† IRS and DOL restrictions will often make these types of investments impossible or extremely complicated.¬† But if you are simply looking for a bona-fide, arms-length investment that will provide a decent ROI, consider using your IRA.

First, you need to find a qualified IRA custodian who will allow you to invest in real estate, and not just “traditional” investments such as stocks, bonds or mutual funds. A truly “self-directed” individual retirement account  (“SDIRA”) custodian will allow you to “self-direct” your retirement funds into “alternative” assets, such as real estate, notes and deeds of trust, and business opportunities.  This isn’t new – it has been available to investors since 1974 when Congress enacted ERISA.  What is new is the nature of investment opportunities that are available.

Several custodians offer the opportunity to use your SDIRA to invest in real estate, but there are restrictions and regulations. The transaction must be arms length: the account holder may not receive any direct or indirect benefit (i.e., commission); and they may not sell or buy property that is owned by a direct relative or themselves (i.e., you cannot purchase your mother’s house or buy a condo for your daughter while she’s attending college).  In addition, you may not make personal use of the property purchased with retirement funds. Real estate investment property is generally ideal for using SDIRA funds.

With a SDIRA, your Custodian must control the disbursement of funds, and all proceeds (i.e., rental income or sale) must be returned to your IRA in order to maintain the special tax treatment provided for retirement plan accounts.  This means that all transactions must be processed through your SDIRA Custodian, which can result in fees and, in some cases, delays.  In some types of transactions, such as bulk REO sales, foreclosure sales, rehabs and flips, not only are there multiple transactions, but time is of the essence!

This is where a “Checkbook LLC” can help.¬† The process involves setting up a separate LLC funded and owned entirely by your SDIRA, and deposited directly to a checking account held in the name of the LLC.¬† As Manager, you would have the authority to issue checks to disburse funds for both minor and major expenses, pay fees, and generally manage the funds according to the time requirements imposed by the type of investments you are working with.¬† A classic example is the need for prompt disbursement when purchasing foreclosure property at the courthouse steps.

The “Checkbook LLC” is not for everyone, and there are some disadvantages when using SDIRA funds to invest in real estate.¬† The investor must be fully aware of and take special measures to ensure that the investments comply with the special restrictions, or risk losing the special tax benefits provided for retirement plan funds.¬† “Boilerplate” or “Internet” format LLC documents will often not be acceptable to SDIRA Custodians.¬† At the same time, don’t be fooled into paying thousands of dollars for unnecessary services, books and tapes.¬† Remember, your primary goal should be to invest your retirement funds in real estate, not gimmicks!¬† Always consult with a qualified professional, and take the time to learn more.

11 Investment Resolutions for 2011

Do you want 2011 to be better than 2010?¬† What can you do?¬† A lot … here’s some to start with.

1.¬† Set a Goal.¬† Make it realistic but stretch yourself.¬† Write it down.¬† Without a goal, you’re more likely to spin your wheels.

2.¬† Make a Plan.¬† How are you going to reach your Goal?¬† If you don’t know, you’ll get lost quickly.¬† It is likely you will have to adjust your plan, but without any plan, you’ll not get very far.

3.  Get Educated.  Even experienced investors need to learn.  There are new laws, new markets, and new opportunities.  Join a local real estate investment association, and attend meetings.  Listen and learn.  Read books, attend seminars, sign up for a workshop.  Distinguish between education and a sales pitch.

4.¬† Get Professional Help. ¬† A paid consultation with a tax specialist, financial planner, or an attorney may cost you a couple of hundred dollars.¬† But it could save you thousands! ¬†¬† Most professionals can and want to help you be successful — pay them now, or pay them later!

5.¬† Time Management.¬† Time is money, so don’t waste it.¬† Learn to prioritize, delegate, and be more productive.¬† But schedule time for fun, relaxation and exercise.

6.  Assess your Assets.  Assets are what you use to cover your liabilities.   Use a common sense approach when protecting your assets:  risk management includes responsible property management and adequate insurance coverage.

7.¬† Situational Awareness.¬† Knowing where you are in relation to your investment environment is critical to your success.¬† It’s a good time to take a look around and see what’s changed, and adjust accordingly.¬† What’s different?¬† What’s new?¬† Has your cheese moved?

8.  Identify and Tackle Obstacles.  What is preventing you from making progress toward your Goal?  The first step is to identify them, the next is to eliminate them.  Can these obstacles be removed or managed?  If they cannot be eliminated, perhaps you need to reassess your Goal or your Plan; and find a more realistic pathway.

9.¬† Diversify.¬† We know that it’s foolish to put all of your eggs into one basket, but investors do it anyway — it’s easy to stay within one’s comfort zone.¬† Careful consideration of different types of investments may open opportunities that you may not even knew existed.¬† Be smart, be careful, but be alert to new opportunities.

10.¬† Get/Stay Fit.¬† Planning for the future doesn’t make sense if you don’t have one, or if you aren’t healthy enough to enjoy it.¬† It’s well-established that if you are eating right, exercising and getting sufficient rest, you’ll make better decisions.¬† A healthy lifestyle should be a fundamental part of your Plan.

11.  Invest in the Future.  Volunteer some time with your church, community group, or local youth program.  Make a difference in the life of a young person and help your neighborhood and your community.  Donating your talent and time can be a tremendous investment.  The return can yield greater rewards than all of your financial investments combined, not just for your community, but for yourself!

Due Diligence: Local Government Regulations, Policies and Procedures

Recently, I witnessed the adverse impact of a commonly overlooked and hidden cost in real estate investing — complying with local government regulations.¬† These costs can be as expensive as they are surprising to the inexperienced investor, and can make the difference between a profitable venture and a disaster.¬† In my article, “The Five “P”s of Prudent Investing,” I discussed some of the issues investors should consider that relate to local government regulations.¬† In these times of ever-tightening public budgets, where local governments need every dime from every fee, the need to pay attention has never been greater.

There are over 480 cities in the State of California, each with its own Municipal Code, Zoning Regulations, planning staff, elected officials, and policies and procedures that govern everything from historic preservation to rent control to how many parking spaces are required to open a new restaurant.¬† In addition, there are 58 separate Counties, each with their own land use regulations that may or may not be compatible with the different municipal regulations within the same county.¬† Within each County, there may be several special Districts that govern everything from transportation to sewer to water treatment facilities, and of course, multiple School Districts, each with their own governing Boards, boundaries, and policies.¬† You need only compare housing values as they relate to certain school districts versus others to see the dramatic impact that the quality of public schools has on housing prices.¬† This is not unique to California.¬†¬† With some variations, this same pattern is repeated in each of the Nation’s 50 states.

The typical real estate investor considers purchase price and rental rates, and in some cases potential appreciation, in calculating a return on investment.¬† Whether you are purchasing for a “buy and hold” or a “fix and flip” strategy, the formula is fairly similar.¬† However, very few investors seriously consider the impact that local government regulation may have on their plans.¬† The impact is usually felt most dramatically with commercial property investments, but some of these regulations, such as historic preservation, could affect residential property investments as well.¬† Nothing takes the “P” out of Profit faster than learning that the REO property you got at auction for a “steal” turns out not to be a 3:2 with in-law quarters, but a 2:1 with an illegally converted garage that must be returned to garage use before you can post the “For Rent” ad on Craigslist.¬† Or that the dilapidated “tear down” on an urban acre of raw land turns out to be eligible for listing on the National Historic Register and cannot be moved or removed, and must be restored as a condition of acquiring any entitlements to subdivide and develop the remaining property.¬† Or the hillside ranch home that would have a fabulous view, were it not for the fact that over time, the line of trees that originally marked the property boundary to the west had grown to a size that not only blocked any view of the sunset, but now qualified under the local municipal ordinance as a “protected tree” that could not be cut down without risking a severe civil penalty of several thousands of dollars.

One of the first questions I ask a client who is considering the purchase of property is whether local regulations allow them to use the property for their intended purpose.¬† In some cases, for example, the buyers based their pricing offer on a two-lease income projection for what they thought was a duplex, only to find out that the property is zoned R-1 and the second unit was never properly permitted.¬† Or they want to convert the long-vacant commercial building into a restaurant, only to find out that such a use will require a zoning amendment — a process that could take anywhere from six months to 2 years.

Even if the zoning regulations permit the desired use of the investment property, there are many other obstacles to overcome, not the least of which are compliance with current building, fire, electrical and plumbing codes, not to mention regulations and policies governing energy efficiency, access for persons with disabilities, sign ordinance restrictions, and public works requirements such as undergrounding of overhead utilities, installation of sewer lines, and assessment fees for previously installed facilities.¬† In one recent case, the developer not only had to widen the road and construct a new railroad crossing, but also raise the level of a public street by two feet for a distanced of approximately 3/4 of a mile as a condition of building¬† a group of commercial buildings.¬† I imagine his investors weren’t too pleased to hear they not only had to foot the bill for that project, but also deal with the complex nature of negotiating with the railroad company.

The best solution to these obstacles is to learn as much as you can before you commit your funds to a project.¬† If you are an investor, be sure ask the right questions.¬† Consult with a knowledgeable land use attorney, a planner, and a qualified architect with local knowledge of local government practices, procedures and policies.¬† The money you spend up front for professional advice may end up saving you substantial sums in the long run — and may provide the greatest return on your investment overall!

Robo-Signing, Toxic Titles, and MERS: Oh My!

Even amidst the chaos, the news came as a shock:¬† Ally Financial, parent company of GMAC, announced it was halting foreclosures in judicial foreclosure states due the discovery of technical flaws in their foreclosure procedures.¬† An attorney fighting a foreclosure action deposed a so-called “robo-signer” who admitted he signed thousands of affidavits per month, but never read or reviewed the underlying documents.¬† This story was shortly followed by revelations that similar defects had been discovered by JP Morgan Chase, which announced it was halting foreclosures in 23 states.¬† By the end of the week, Bank of America announced that it, too, was halting foreclosures and reviewing its policies and procedures.¬† UPDATE:¬† Lawsuits filed across the country have yielded inconsistent results, further complicating efforts to determine a clear solution to the controversial MERS program.

10/10/2010 UPDATE:  More evidence is coming to light that the Administration has been aware of the serious deficiencies and problems within the loan servicing industry, but has done little to address the problems.¬† At most, they sent letters advising loan servicers to be more careful.

10/15/2010 UPDATE:  News of widespread defects in foreclosure processing has led to calls by all 50 states for investigations, threatening to shut down the foreclosure process entirely.¬† The Administration’s reliance on the banks to voluntarily solve the housing crisis appears to be misplaced, according to the NY Times.¬† Wall Street’s response has been to blame homeowners for not paying their mortgages.¬† Although this is certainly a valid claim in many instances, it fails to account for the widespread incompetence that allowed or encouraged lenders to make ridiculous loans that exceeded the true value of the properties used as security, not to mention the creation of collateral investment products based on the newly securitized debt, or faulty policies that pushed for homeownership at any price — including no money down loans.¬† Moreover, the industry blaming homeowners for not paying their mortgage overlooks the fact that this same industry — despite billions of dollars in public TARP funds – cut off virtually all avenues of credit, making it impossible for homeowners to remedy the downturn with refinanced loans.

Noting that the decisions to halt foreclosures were only directed at those states that require judicial action to foreclose, California Attorney General Jerry Brown responded by ordering first GMAC, then Chase, to halt all foreclosures in California until they could prove compliance with California law.  It is likely the AG will similarly issue an order against Bank of America.

In a Bulletin issued October 1st, Old Republic Title announced it would suspend issuing insurance policies for REO sales for GMAC and JP Morgan/Chase.¬† Although the Bulletin states that they expect to resume insuring REO sales, it should be noted that the Bulletin was issued before B of A’s announcement.¬†¬† Moreover, there appears to be some difference of opinion whether Citibank and Wells Fargo also have similar issues with their procedures.¬† At least one article implies that despite their initial insistence that their procedures were solid, there was some evidence to the contrary.

Further complicating this situation is the role played by MERS.¬† MERS, is a private company formed by the mortgage banking industry to create an electronic process which allows for the transfer of deeds — hence the name “Mortgage Electronic Registration System.”¬† Approximately 62 million mortgages are registered with the system, and they claim¬† “Our mission is to register every mortgage loan in the United States on the MERS¬Æ System.”¬† However, in the early stages of the housing crisis, attorneys defending homeowners raised the point that foreclosures brought in the name of MERS were¬† invalid, since MERS only acts as the nominee for the lender, and has no standing to bring the action.¬† Judges in judicial foreclosure states agreed, and a scramble ensued to produce affidavits of lost notes, or other forms of proof of standing, and the foreclosure actions would usually proceed with some delay.¬† However, as more and more lending institutions have collapsed, the chain of records and titles have disappeared.

The primary issue today is whether — or how many — pending loan mod, short sale and foreclosure actions in the United States have been compromised by the combination of “robo signing” of affidavits by GMAC, JP Morgan Chase, Bank of America, and possibly others, and the potential break in the chain of title due to defects in the MERS process.¬† Since MERS only operates as the “nominee” of the mortgage holder, the question arises as to its “ownership” of the mortgage itself, and therefore its legal authority to transfer title.¬† In some cases, the courts have found specific language where the homeowner authorized MERS to act as the mortgage holder, but in others, there is a question whether MERS had any authority at all.¬† In July, MERS created a public database that allows anyone to search and find the loan(s) and investors associated with a property.¬† You can search by Mortgage Identification Number (MIN), by address, or by name.

The situation is critical, and adding to the confusion are promises by the ever-present influx of groups promising — for a fee — to save homeowners from losing their homes.¬† These groups admit that this is a “limited time opportunity” due to the fact that the lenders will eventually close ranks and solve the problems. ¬†¬† One group, which charges up to $15,000 to file legal action and 20% contingency for any principal reduction they negotiate, concedes that they have no way to guarantee success, but appear to rely on the fact that the confusion among the lenders and title companies will yield favorable results because the lenders don’t want to litigate.

We will see whether the pending halt to foreclosure actions due to revelations of “robo signing” and faulty affidavits, combined with the legal issues created by MERS, will merely postpone the process or reshape the entire system.¬† Until this gets sorted out, the only certainty we can count on is that there is still no light at the end of the housing crisis tunnel.

Don’t Quit Your Day Job – Yet!

As the economy continues to struggle, more and more people seem to be looking to investing in real estate as a means of supplementing or replacing their current jobs.¬† The lure of making “millions” investing in real estate has never seemed so attractive, as housing prices continue to fall, and the stock market seems stuck in neutral.¬† Compared to a dead-end job, or no job at all, the life of a successful real estate investor presents a very attractive alternative!

The problem, of course, is that success — in any venture — requires hard work, dedication, and mastering the fundamentals.¬† Many new investors want to jump in with both feet, and ignore the lessons of those who have gone before them.¬† It is no coincidence that the Bankruptcy courts are facing serious backlogs as more and more lenders are aggressively pursuing delinquent borrowers.¬† The difference between success and failure is part skill and part luck.¬† It takes skill to put yourself into a position to seize the opportunities that luck presents.

The Wall St. Journal recently published a “Small Business Calculator” which contained a checklist of many expense categories for starting a new business.¬† Notably, the first expense category was labled “Legal” and referenced setting up the proper legal structure, licenses and registrations required for your business.¬† In an accompanying article, the WSJ suggested a way to get “free” legal advice — asking a law school class to use your business plan as a “case study.”¬† Go ahead — and good luck!

One sure way to waste your money is set up a legal structure for your business without first putting together a Plan.¬† Your Plan should contain both personal and financial goals.¬† Your financial goals should support your personal goals, not the other way around.¬† If your personal goal is to seek financial security through real estate investing, you need to determine if this is going to be a full-time or part-time endeavor.¬† As one real estate broker recently quipped:¬† “I was looking forward to the weekend, ut then remembered I work on weekends!”¬† Your goals — and your plan — should be realistic!

In a separate article, I describe what I call the “Five P’s of Prudent Investing.”¬† The first “P” is “Plan.” The other factors to consider are “Property, People, Payment and Patience.”¬† If you are seriously considering real estate investing as a new career, you really need to evaluate these five factors before you tell your current boss “Good Bye,” and long before you walk into a lawyer’s office to help you sort out the mess you got yourself into.

It is definitely fun — and potentially profitable — to become a real estate investor.¬† But you need to consider all of the factors and plan ahead.¬† Also, if you plan to make money, treat it as a business, not a hobby.¬† Consult with a legal, tax, and real estate professional before you write that big check!

Avoiding Risk – What You Need to Do!

All types of investing involves risk, and investing in real estate is no exception.  There is no such thing as a “risk-free” investment.  You can learn to manage risk, and take steps to reduce risk – you cannot eliminate it.

According to conventional wisdom, higher risk is associated with higher rates of return.  New investors are encouraged to start with low yield, low risk investments until they get some experience.  This is good advice for two reasons.  First, new investors should take a cautious approach and determine their tolerance for risk.  Second, even a low, positive yield is better than a loss of your entire investment!

The most important step to managing risk is to identify and understand the risk factors.  Ask yourself “What could go wrong?”  One of the maxims of Murphy’s Law is that anything that could go wrong will go wrong.  Some factors are obvious – such as severe weather, vandalism, and tenants that fail to pay rent.  Other factors, such as changes in zoning laws or changes in local economic conditions, may be more difficult to predict but have equally devastating impacts on your investment.  The key to managing risk is to identify the factors and then develop a plan.

Get Educated.    If you are just getting started as a real estate investor, there is a lot to learn.  Unfortunately, most of the books in the bookstore and in the library were written and published before the recent housing crisis, and although they may provide some excellent background information, some of the methods they recommend are no longer applicable.  The best approach is to join a real estate investment association or club that focuses on education, not sales.  For a small fee, you can attend seminars and programs that will not only teach you some of the basics, but will highlight recent developments and trends.  Perhaps even more valuable, you will meet other people like yourself, as well as interact with experienced investors.

Make a Plan.   Consider both your personal and your financial goals, and develop a Plan.  A good Plan will focus on your goals.  Goals should be realistic.  Your plan should be flexible, and contain an exit strategy.  Your financial goals should support your personal goals, not the other way around!  Remember, good investment plans take time – there is no single perfect investment!  If an attractive investment opportunity comes along that does not conform to your Plan, you can re-evaluate your Plan, but don’t be too quick to abandon it.  The “deal of the Century” happens every week!

Due Diligence.  Every experienced investor will emphasize the importance of doing “due diligence.”  This means different things to different people, but in all cases, it involves learning as much about the proposed investment as you can before you write a check!  Some information is critical, whereas some is not.  It may depend on the type of investment, the location, or the structure of the deal.  Buying a single-family rental property involves different risk factors than joining an investment fund that concentrates on buying shopping centers.  The more you become educated about the different types of investment opportunities and the different factors involved, the better you will be able to narrow your focus and ask the right questions.

Research.  You don’t need to be a genius to make money in real estate investing, but you need to be smart.  And you can get smarter.  There are many different types of ways to invest in real estate – but keep it simple.  Only consider investments that you understand.  Talk to other investors, find out what can go wrong – learn from the mistakes of others.  Always double-check and confirm that you have the most current information, and don’t just rely on what someone says; fact-check.  Be careful to distinguish between facts and fantasy!  If the deal sounds too good to be true … it probably is!  Watch out for scams!

There are many sources of information – too many, in fact.  There are seminars, webinars, blogs, podcasts, more blogs, newsletters, podcasts, radio shows, and of course, the ever-present traveling real estate investment gurus who are coming to a convention hall near you.  Trying to sort through all of this can be overwhelming and time-consuming, not to mention costly.  Many of these so-called “free” programs are simply an opportunity to spend literally thousands of dollars buying CDs, books, and sign up for more programs.  Remember, your original goal was to invest in real estate, not CDs!

Real estate investment associations and groups, such as SJREI, hold regular meetings that you can attend for very low cost, and provide an opportunity to meet and interact with other investors – both new and experienced.  They feature speakers who are experts on different aspects of real estate investing, and who often have their own programs that you can attend or subscribe to for more detailed information.  Since every person is unique, and because there are so many different types of real estate investment products available, you should sample a few of these programs to find out what suits you the best.

Consult with Professionals.  This may seem obvious, but many people wait until after they’ve run into problems to talk with a professional.  Real estate investments involve making critical decisions that involve legal, tax and financial consequences.  Working with the right real estate, tax consultant, financial planner, and attorney may cost money in the short term, but the results may yield substantial savings in the long run!  Often, you will be able to use information from a qualified professional over and over, making it one of the best long-term returns on your investment!  Getting professional advice is one of the most effective ways to avoid risk!

Evaluate, Re-evaluate, Modify.  As you learn more and gain confidence, you may choose to modify your Plan.  Make adjustments to keep your Plan realistic and achievable.  Establish a realistic timeline for your financial goals.  Modify your Plan to help ensure that your Plan reflects changing circumstances.  For example, the “hot market” condition that enticed you to consider investing in one area may have cooled off, or gone into decline as a result of a change in local conditions (i.e., closing of a major manufacturing plant; severe flooding; or substantial new housing construction).  Review your Plan and modify it as necessary to adapt to these changes.  Always have an exit strategy!

Take Action.  Invest, don’t spend, your money.  You will learn by doing, so get started!  Invest in real estate, not sales pitches.  Don’t wait for the “perfect, risk-free opportunity” – it does not exist!  Getting started is important.  But getting started on the right foot is even more important!