Commercial Loans and Fun Blog

This is a fascinating story of a $160,000 commercial loan fee collection case that I originally wrote about in 2009 in my old blog.  It's worth retelling.

About two years ago one of my former commercial loan brokerage students came to me and asked me to serve as an expert witness in a commercial real estate loan fee collection case.

My student had arranged for the delivery of an $8 million SBA loan commitment at a very favorable rate on a hotel near the Newark Airport.  The hotel had been shut down by the city a year earlier for regularly renting rooms by the hour (yup, you guessed it), and the prior owner had lost the property in foreclosure.  My student's client was buying the hotel from the bank.

Fortunately my student had used our commercial loan brokerage fee agreement that provided for arbitration.  He was based in Florida, the borrower lived in New York, and the property was located in New Jersey.  Per the terms of our agreement, the mortgage broker (my student) was allowed to file his Demand for Arbitration in Florida.  He did not have to travel to New York to sue this borrower.

This was a Florida action, and I am not licensed to practice law in Florida.  Therefore the mortgage broker hired local Florida counsel, who in my opinion did a terrific job.

I was called upon to testify as an expert witness on matters pertaining to the practice of commercial real estate finance.  Even though I live in Indiana, I was able to provide testimony through a deposition that was taken telephonically at the office of a court recorder in South Bend.  It was not necessary for me to testify at the actual arbitration hearing.

The borrower did not really dispute the mortgage broker on the facts.  Instead, the borrower defended on the basis that  the mortgage broker lacked a real estate broker's license in the State of New York.

Licensing for commercial real estate loan brokers in the State of New York is quite confusing.  The Department of Financial Institutions has adopted the position that out-of-state mortgage brokers do not need a New York real estate broker's license to broker fewer than five commercial loans per year in the state.  The law, however, appears to require just such a license.

The mortgage broker argued that he had never entered the State of New York, and that therefore the licensing laws of the state of Florida should apply.  Since the commercial lender was an institution and the borrower was technically a limited liability company, Florida did not require a mortgage broker's license.

The borrower's attorney argued that the contract was silent on the subject of choice of law.  Since there was an ambiguity and since the mortgage broker had prepared the contract, the ambiguity should favor the borrower.

The mortgage broker's fine attorney's argued that the borrower had already made a formal appearance in state court in Florida in connection with the case.  By doing so that they had subjected themselves to the jurisdiction of Florida laws and had therefore waived this defense.

The arbitrator agreed.  Four days ago the arbitrator granted the mortgage broker an award of $160,0000 - plus $5,000 in arbitration costs.  Hooray for the good guys!

Now the mortgage broker will need to get the award of the arbitrator confirmed by a Florida state court.  The borrower may choose to fight the licensing and choice of law issue again at this stage.  Later, the mortgage broker will need to take his Florida judgment (assuming he prevails) and get it domesticated in New York.  At this stage the borrower may choose to bring up the licensing and choice of law issues again.

Collecting unpaid loan fees can sometimes be a long battle, but with $160,000 at stake, the mortgage broker was right not to give up.  Fortunately the borrower is worth millions of dollars, so the mortgage broker should eventually collect every penny he was due.

Do you need an expert witness in the field of commercial real estate lending, commercial financing, commercial loans, or commercial mortgage loans, please click here for my expert witness qualifications and my expert witness fee schedule.

If you are a bank loan officer responsible for making commercial real estate loans, or if you are a commercial mortgage broker, it is absolutely essential that you grasp the following concept:

Commercial loan origination is a race, not a rate bidding war.

The practical effects of this are HUGE, and I'll explain them in a bit below.

I own two commercial mortgage companies - Blackburne & Sons, which is a very old hard money commercial mortgage company, and C-Loans, Inc., which is the largest of the commercial mortgage portals.

I started to notice that some of the very cheapest commercial real estate lenders on C-Loans.com were not closing many commercial mortgage loans for us.  At the same time, a handful of obscure banks, with rates 25 to 50 basis points more expensive than the cheaper lenders, were absolutely tearing up the system.  We have had several relatively unknown little commercial lenders close more than 50 commercial loans for C-Loans.

When I would ask the big banks why they weren't closing many commercial loans for us, they would often answer, "Gee, George, I call the borrowers, but they never return my phone calls."  Strange, huh?

Over time I finally recognized that once a commercial mortgage borrower reaches a commercial lender with reasonable rates - say, within 0.50% of the best market rate - he stops returning phone calls from other lenders.

There is a very important moral to this story.  If you want to succeed as a commercial mortgage loan originator, you must learn to drop everything the moment you get a commercial mortgage lead and call the borrower immediately.

For example, suppose you arrive at work wanting to call your child's teacher about his missed homework assignment.  You also find a fresh commercial mortgage lead on your desk or in your email box.  Who do you call first? 

It's all about speed, silly!  Call your commercial mortgage leads at once. Remember, once a commercial mortgage borrower reaches a commercial lender with reasonable rates, he stops returning phone call from competing lenders.  

For me, this is counter-intuitive.  You would think that a sophisticated commercial borrower would shop the market.  In reality, they simply don't. It probably has to do with the fact that their time is so very valuable, either flipping commercial buildings or manufacturing widgets.

Whatever the reason, the important point to grasp is that most commercial borrowers do surprisingly little loan shopping.  Therefore, if you are not the first commercial mortgage loan officer to reach them, you're probably already toast.

So learn your lesson.  When you get a commercial mortgage lead - BOOM - drop everything, and call that lead immediately!

I just received a call from a commercial mortgage broker.  He was obviously a rookie, and he wanted to tell me all about the $54 million loan and the $21 million loan that he was working on. I kept thinking to myself, "This guy must be smokin' crack."

C'mon, folks, the only commercial loans that are closing today are SBA loans, USDA Business and Industry Loans (B&I loans), and small (less than $3 million) commercial loans on standing commercial properties. 

Unless you have an entire pipeline full of small, bread-and-butter deals like this, you are going to starve as a commercial mortgage broker.  Remember, a reasonable closing rate on commercial loans these days is about 1/15. 

To make matters worse, you will probably have to submit the one commercial loan that eventually closes to at least 40 or more different commercial lenders.  In recent conversations with old veterans of the business, they are telling me they have had to submit their commercial loan to over 100 different commercial lenders before finding a home for the deal.  This is a tough-tough market.

Here are the kinds of deals that have a virtually zero chance of closing:

1. Construction loans (unless it's an SBA or USDA deal).
2. Land loans
3. Land development loans
4. Commercial loans larger than $3 million (unless it's an SBA or USDA loan)

C-Loans.com is the largest of the commercial mortgage portals, and it's free.  You can quickly submit your four-minute mini-app to 750 different commercial lenders.

Whenever a mortgage company boasts to you that they are a correspondent lender for so-and-so bank, alarm bells should go off in your head.  Warning, Will Robinson, Warning!  We have a probable liar here!  Ninety percent (90%) of the mortgage companies that boast that they are correspondent lenders are full of beans. 

Here's another example of a common lie in the commercial mortgage finance industry: "We are merchant bankers."  Sure you are.  Ninety-nine percent (99%) of the mortgage companies that boast that they are merchant bankers are also full of beans.  A real merchant bank is usually a subsidiary of a life insurance holding company or a bank holding company that is funneled money by the profitable holding company to make go-go investments, like mezzanine loans or equity investments.

Going back to the subject of correspondent lenders, here's what a real corespondent lender is:  A correspondent lender is the eyes and ears for a long-standing lender in a particular market; say, Boston, New York City, or the Los Angeles area.

Correspondents get paid by being awarded the loan servicing rights, typically around 12.5 basis points (1/8th of a point) per year.  Therefore, the fastest way to bust a blowhard is to ask him if his commercial mortgage company services these loans for so-and-so bank.  Almost invariably these blowhards do NOT service any loans.  They are just garden variety mortgage brokers, and dishonest ones to boot. 

A lot of life insurance companies use correspondents because it is economically infeasible for a small-to-medium-sized life insurance company to have boots on the ground in every desirable commercial lending market in the country.  I have never run across any other type of commercial mortgage lender, other than life insurance companies, that uses correspondents.

It's becoming increasingly likely that the economy is headed for a double-dip recession.  If you are a commercial mortgage broker, you will have to be wise, efficient, and energetic to survive.

Here are ten tips that may help you to close more commercial mortgage loans and to survive a double-dip recession:

1. Close your office and retreat back to the house. You do not need a fancy office to impress borrowers. During the Great Recession, your borrowers will definitely understand your need to keep costs down.
2. Fire your staff and do the work yourself. You probably cannot afford a loan processor right now.
3. Don't waste time training loan agents. As soon as they start making you money, they'll leave you for the broker down the street who is offering a 5% better commission split.
4. The most important asset you own is your time. Learn to say, No," to deals that are difficult.
5. Use your time to market for that one deal that is actually do-able.
6. Use maps.yahoo.com to plot every bank near your office. Call on the bank using the sales pitch, "I'll help you get unwanted commercial loans off your books. I have a commercial lender that loves to do discounted pay-off (DPO) deals (Blackburne & Sons)."
7. Try to personally visit at least one or two local bankers every day.
8. Build a small list of referral sources - guys who, because of their jobs, see lots of commercial loan requests. This includes bankers, commercial real estate brokers, property managers, other commercial lenders, residential mortgage brokers, insurance agents, attorneys, and CPA's.
9. Touch these referral sources - either in person, by using snail mail, or by using email - at least once every three weeks.
10. Plan on eventually - after your borrower has been softened up by three or four bank turndowns - on closing most of your commercial loans with hard money lenders, like Blackburne & Sons. Banks simply are not closing many (any?) conventional commercial mortgage loans these days.
    

My second son, Tommy, is taking his beautiful fiancee and our first grandchild away from Indiana and is moving them to Sacramento, California.  He will be soon be working from the Sacramento office of Blackburne & Sons.  (My heart is breaking.)

Needing an apartment in Sacramento and living currently in Indiana, he found some wonderful free tools on the internet that helped him judge the safety and desirability of his potential neighborhoods.  He shared them with me.

The first free internet tool is NeighborhoodScout.com.  This tool ranks neighborhoods into four shades of blue, with dark blue being the safest.

He used another tool called SpotCrime.com.  This tool describes each of the crimes committed in a neighborhood - shootings, assaults, robbery, thefts, vandalism, etc.  He actually chose to rent a different apartment based on what he discovered in SpotCrime.com.

A favorite underwriting tool of Blackburne & Sons is the free demographics site, City-Data.com.  Our commercial hard money lending company never makes a commercial loan without first obtaining a City-Data report on the area.  These reports include population, income levels, demographic trends (are people moving out), and the crime rate.

The most important internet tool of all, when you are ready to try to place your commercial loan, is the free website, C-Loans.com.  C-Loans is the largest of the commercial mortgage portals, and it enjoys 750 different participating commercial lenders. 

The user merely inputs his commercial real estate loan request and then chooses six of the suggested thirty commercial lenders.  If none of the first six commercial lenders wants to make his commercial real estate loan, the user merely comes back and checks the next six commercial lenders.  And best of all?  C-Loans.com is free!

The stock market is down another 600 points today, after being down more than 500 points last Thursday.  What will the future look like?

It's time to wake up, folks. The recession of 2007 to 2009 wasn't just a deep recession.  The approaching follow-up recession probably won't just be a double-dip of the same magnitude.  It will probably be much, much worse.  Historians may someday write that the Second Great Depression started in 2007, and, like the Great Depression that started in 1929, it consisted of at least three consecutive recessions.

Here's what you can expect:

The stock market will probably suffer a long, painful bear market that may last for more than a decade.  Japan's bear market has lasted for 22 years so far.  The Dow Jones Industrial Average may fall below 6,000.

Interest rates will probably stay low.  After all, a great many corporations and credit-worthy borrowers are too frightened now to borrow.  Prices of many goods and services will, by necessity, decline.  Yields on 30-year Treasury bonds may someday fall below 2.0%.  They aren't far off that number already.

Deflation, not inflation, will be the default trend.  Doubt this?  Oil has already dropped below $86 per barrel.  I wouldn't fall off my chair if oil dropped to less than $40 per barrel within a few years.  Remember, cars are becoming MUCH more fuel efficient, and it has been suggested that the world has already reached peak oil CONSUMPTION.  (Note: I did not say production.  I said consumption.)

Residential real estate is toast.  I expect home prices to fall another 40% to 50% from here.  Real wages are declining, and millions of qualified workers cannot find jobs.  Even worse, tens of millions of homeowners are drowning in mortgage debt, and they are upside down on their homes.  What incentive do they have to keep making their payments?

But what about commercial real estate?  Fully-leased commercial real estate will probably NOT plunge in value, if only because competing interest rates are so low.  As John Mauldin, the widely-read economics author, recently wrote, "I am am bullish on income."

That being said, however, the banks are already stuck with several trillion dollars in legacy commercial real estate loans.  They are under intense pressure from the regulators to get these troubled commercial mortgages off their books.  With commercial real estate values likely to deteriorate by at least 3% per year for the forseeable future, it is hard to see many banks making many new commercial real estate loans.

The only commercial lenders making commercial real estate loans for the next seven to ten years will probably be the private money (hard money) lenders.  Therefore, if you are a commercial property owner and you simply must borrow, you should steel yourself to paying 10% to 12% rates. 

If you are a commercial mortgage broker, you should find yourself a reliable hard money commercial lender, like Blackburne & Sons, and start rushing packages to them.  After today, those commercial loans that you had working at the bank are pretty much dead.

Bloomberg just came out with an interesting article listing the 20 healthiest major metropolitan areas in the country.  These metropolitan statistical areas (MSA's) had the lowest rates of unemployment, the highest job growth, and the least troubled housing markets.

Many of these markets included two or three large cities located close together that futurists now call mega-cities.  The presence of one or two large universities in these areas often serves as a floor to the level of economic activity. 

Some of the cities will surprise you, being located in the Rust Belt.  The reason why is because homes in these cities never really appreciated, like those of coastal cities, so the locals are not saddled with immense mortgage debt.

1. Washington, D.C. - Arlington, VA - Alexandria, VA
2. San Antonio, TX
3. Rochester, NY  (Really?  Yup.)
4. Pittsburgh, PA
5. Omaha, NE - Council Bluffs, IA
6. Oklahoma City, OK
7. Nashville-Davidson-Murfeesboro-Franklin, TN
8. McAllen-Edinburg-Mission, TX
9. Madison, WI
10. Little Rock, AR
11. Knoxville, TN
12. Jackson, MS
13. Honolulu, HI
14. El Paso, TX
15. Dallas-Ft. Worth-Arlington, TX
16. Columbus, OH
17. Buffalo-Niagra Falls, NY
18. Boston-Cambridge-Quincy, MA
19. Austin-Round Rock, TX
20. Augusta, GA

Anyone seeking a commercial mortgage located in one of these areas would be wise to point out the area's relative strength to their commercial lender.

A smart commercial lender should arguably never foreclose on a commercial property without first entering into a forbearance agreement with his borrower.  I'll explain why in a second.

I just returned from Las Vegas, where I spoke at Leonard Rosen's 26th National Hard Money Lending Conference.  Leonard always brings in top attorneys to speak on how to become a hard money lender.  Even though I have personally owned a hard money lending company, Blackburne & Sons, for more than three decades, I find that I always learn important new things at these conferences.  The wise technique that I will now describe was suggested by one of Leonard's veteran attorney-speakers.

Suppose a commercial borrower falls behind in his payments.  He has personally guaranteed the commercial real estate loan, and his wife is terrified that they may soon lose the family home.  Husband and wife are losing sleep.

The borrower contacts his commercial lender and begs for help.  The unwise lender brushes him off and files a lawsuit to foreclose.  The borrower countersues!  He claims that the bank's loan officer promised to increase the borrower's loan from $1 million to $1.2 million.  The borrower, the lawsuit claims, detrimentally relied on the loan officer's promise, and he just spent $100,000 - the last of his cash reserves - ordering new raw materials for his widget-manufacturing business.

Now the bank has a problem.  The countersuit will drag out the foreclosure for at least another 2.5 years, during which time the building is being neglected.  After all, why should a borrower keep the building in good repair when he is poised to lose it in foreclosure?  The roof starts to leak.  The mold starts to grow ...

This was a huge mistake that could easily cost the bank hundreds of thousands of dollars, assuming the building does not have to be completely demolished after the bank completes the foreclosure.

Here is what the bank should have done:  The bank should have executed a Forbearance Agreement with the borrower, offering the borrower lower payments for, say, six months, in return for ... a waiver of all prior claims against the bank!

This would almost certainly have cut off any effective countersuit by the borrower and allowed the bank to complete its foreclosure, if necessary, without opposition.  What a terrific technique!

Our hard money commercial mortgage company, Blackburne & Sons, has continuously been in the market to make new commercial mortgage loans for more than 25 straight years.  In other words, we're always in the mood to make commercial loans.  This is not just some advertising plug.  I have an important point to make in just a moment, and my point will be made in red.  It will surprise you.

In contrast to the "always ready" hard money brokers, a great many banks are constantly in and out of the commercial mortgage market every few years.  For two years a bank might be hot-to-trot to make commercial real estate loans.  Then, for the next three years, the bank might turn down all but the most perfect commercial mortgage loans (about as common as unicorns).  It's fair to say that 99% of the banks in the country today are only making commercial real estate loans to unicorns asking for perfect commercial loans.

So why are hard money brokers always in the market to make commercial real estate loans?  Hard money brokers are just market-makers.  They just have to lower the loan-to-value ratio and raise the rate until they reach a point where some private investor will invest in the loan. 

For example, let's suppose the stock market is tumbling 500 points a day.  Unemployed Americans are marching in the streets, and the demonstrations are becoming more and more violent every day.  Already dozens of cars have been burned, and the police have been forced to fire over the heads of the protestors in order to quell the violence and vandalism.  (I actually foresee this for America within two to three years.)

Now suppose a retired real estate investor owns a very nice office building in one of the more desirable areas of town.  He owns it free and clear.  Suddenly the retired investor gets nervous.  He wants to have more cash in hand, so he applies to a hard money broker for a quick commercial loan.  At the first the broker offers his private investors a loan of 70% loan-to-value at 12%.  No one invests in the mortgage loan.  The investors are too frightened to invest in a first mortgage.  The true unemployment rate is over 20%, and there is far too much violence in the streets.

Therefore, the broker might cut the loan to 60% loan-to-value and re-offer the loan at 14%.  If there are still no takers, he might eventually cut the commercial loan all of the way down to 45% LTV and offer the loan at a whopping 18% interest.  Finally, the investors will probably start buying, and the loan will finally sell out.  You could say that the loan has finally cleared the market.  The hard money broker finally found that combination of low loan-to-value ratio and high yield that would prove irresistable to wealthy mortgage investors.

Therefore, for most modern and desirable commercial properties, there is some combination of loan-to-value ratio and yield that will allow a hard money mortgage broker to arrange a commercial loan.

Ah, but here's the rub!  Here is the whole point of this article.  Sometimes, because private mortgage investors are nervous, the interest rate on a hard money commercial loan has to be so high that the borrower cannot afford the monthly payments!  And everyone loses if a hard money mortgage broker is ever forced to foreclose.

This is why Blackburne & Sons has recently developed the participation mortgage.  A participation mortgage has a very low interest rate - say, 7.9% in a market where most hard money investors are demanding a yield of at least 14%.  The missing yield is recaptured as an income kicker and and an equity kicker.  In other words, the hard money mortgage investor takes a piece of any future increases in the property's gross monthly income and in the property's fair market value.  In effect, the current owner of a commercial property gives up future income and appreciation, in return for a much lower monthly payment today.