When private lenders decide to expand their business into new states or regions, there are some best practices they should consider. Private Lender Link’s CEO, Rocky Butani visited Geraci Law Firm’s office in July 2023 to interview Dennis Baranowski, Esq. on these best practices and what private lenders need to know before making the leap. Watch the video or read the transcript below.
ROCKY BUTANI:
Typically, if you have a lender that says, “Okay, I wanna expand,” let’s say they pick a state like Texas because everyone assumes that Texas is the easiest state to do business in, to foreclose in, the lender will figure out kind of what the landscape is, what the rules are, limitations if any, start with that state, get to know it, do a bunch of loans there and then maybe move on to the next state. Is that kind of how most lenders do it?
DENNIS BARANOWSKI:
I think that’s really the best practice. Depending on the size of the lender and their operation, maybe they can support two or three, but I really wouldn’t recommend going into anything more than about four. I think it gets pretty unwieldy because you’re still trying to train your team. You’re trying to train your people or hire people within the state that understand what needs to be done and underwriting your loans and processing your loans in that given state and then internally going, “Okay, what do I need to do to comply?” I think it’s better to take reasonable bites, rather than trying to eat the elephant all in one bite, so to speak.
ROCKY BUTANI:
It sounds like when you expand into another state, there’s all this compliance stuff that you have to learn about. How does that factor in with due diligence as it relates to the loans that you want to fund there?
DENNIS BARANOWSKI:
On the compliance side, in addition to making sure that your terms are going to be compliant, one of the things within compliance is also each state is going to have different laws related to entities, for instance, and whether or not an entity has to be a foreign entity. So let’s say you want to make a loan in Texas, and your borrower is formed in California. Every state has some sort of foreign registry requirement for foreign entities, and so you need to figure out, “Well, can this borrower even own property in the state? Can I, as a lender, make a loan in that state? Typically, there’s some sort of exception that’s allowable for that. [For Example], they just own a property. They’re not operating a business, per se. It’s really just tied to the real property, and they’re just lending money that’s secured by the real property. So there isn’t an issue, but it can be an issue, and so that really ties into the due diligence side of it.
You really need to review the entity documents so you can understand where they’re formed. You need to understand what type of authority that LLC or corporation has. Are they even allowed to borrow, or are they limited to operating within one state? What is the scope of their authority, and then in addition to that, how do they make decisions because it may not be a matter of the person that contacts you that says, “Hey, Rocky, I need a loan here for my LLC.” Well, come to find out maybe he’s the manager. Maybe he’s a processor there. Maybe he’s nobody there and doesn’t even have any relationship to that entity. It’s really important to be able to review those documents and review, not just what they provide to you, but also doing the due diligence with the state filings to ensure that the people who are representing the company, that can make decisions on behalf of the LLC or corporation, have that authority and whatever steps need to be taken to grant them that authority also have occurred. So it’s really important, as a lender or even as a broker, when you’re getting that data and that information from a prospect that there’s a review performed to ensure that you’re not walking into a hornet’s nest.
I can’t tell you how many times we’ve come into situations where you have a free and clear property, and the lender makes the loan, and it’s free and clear. So it’s cash out refi, and somebody hijacked the entity. Even when we’re reviewing the documents, sometimes these people have gotten really good at creating a whole history of the LLC, and so you don’t end up knowing.
If you’re advancing funds directly to the borrower, where it’s not purchase money, it’s not meant for a specific purpose so you allocate it for construction or TI’s or something like that, [it’s important] that you know who your borrower is.