Revocable Land Trusts For Ownership of Real Estate – Part 1

By Tim Bruxvoort

 

T

he history of using trusts to own property dates back hundreds of years. It has even been said that trusts began in the days of ancient Rome. While their benefits are well understood by wealthy people…very few people outside this elite group know how and why to use them.

 

Before we get too far perhaps I should clarify a few terms. What does the term “trust” mean in the context of real estate?  A trust is defined as real estate held by one party…the Trustee…for the benefit of another…the Beneficiary. A Trustee can be an individual, such as a family member or friend, or a bank, attorney, or other financial institution.

 

Most of us have heard about some wealthy individual passing away and leaving his or her wealth to heirs via a trust. This is similar to the type of trust I’m talking about. But specifically, I’m talking about a Revocable Land Trust. This type of trust is solely about real estate and not other type of assets such as stocks, bonds, and other financial assets (except for mortgages and other real estate related financial assets).

 

What Is A Revocable Land Trust?

A Revocable Land Trust consists of simple paperwork that allows a Trustee to hold legal title to real estate in the land trust. But the Beneficiary still retains all of the rights and conveniences of ownership.

The Trustee only has one responsibility besides holding the title. That is to do what the Beneficiary instructs and to transfer the property of the trust when the trust ends.

The Beneficiary of a Revocable Land Trust has complete control over the property. The Beneficiary manages the property, which includes collecting and distributing income, insuring the property, or directing the lease or sale of the property. The Beneficiary can assign these responsibilities to the Trustee. In fact, the particular trust agreement I use to set up a trust gives the Trustee these abilities.

What Are The Benefits of Land Trusts?

There are many benefits of a Revocable Land Trust. The primary benefits real estate investors are concerned about are itemized below:

 

1.     Avoidance of Title Seasoning Issues

 

Title seasoning has nothing to do with salt or spices. Now that we are clear on that…title seasoning is a mortgage lender term that simply means that the owner of a property is on public records as owning the property for a specified period of time. Before a property is sold to a buyer, most lenders want to see the previous owner of a property on public records for at least 6 to 12 months.

Why do lenders care about how long a property is owned? It all stems from recent problems with what has been labeled "Property Flipping Scams."

These scams were done in mostly low-income neighborhoods by unscrupulous investors. These investors bought cheap, run-down properties and did quick, shoddy repairs on them. Usually the investor was in collaboration with an appraiser and a mortgage broker. The appraiser came in and gave a bogus appraisal and the mortgage broker got the loan…, which was always for more than the property was actually worth.

The result was an unsophisticated buyer who purchased a home at a greatly inflated price. Of course, the buyer could never resell the house at that price so it ends in foreclosure if the buyer needs to sell anytime soon.

 

The favorite tool used by these ruthless investors was double-closings or simultaneous closings. This is where the investor goes on title only minutes before title is transferred to the end-buyer. So now many lenders are wary any time they see a simultaneous closing or anything that smells of “flipping” a property.

 

There is another issue some lenders have with simultaneous closings. That is they don’t want to give a loan to your end-buyer because you aren’t even on the title yet. The property is still listed under the name of the party you’re buying it from.

 

Having to own a property for 12 months can be a problem for we real estate investors when we are looking for fast cash. If you already have this problem there are mortgage brokers who can get around title seasoning issues and simultaneous closings. But it’s always better to not have a problem in the first place.

 

Using a land trust may be the best way to solve issues with title seasoning or simultaneous closings.  For example, if you buy a property from Jack Jones, then the name of your trust would be “Jones Family Trust.” It depends on the situation, but one way this could look for a seller is like this:

 

1.      Jack deeds the property to the Jones Family Trust with you as Trustee.

2.      You and Jack set up the trust agreement with Jack as the beneficiary.

3.      Jack assigns his beneficial interest of the trust to you or your company (could be held in escrow)

4.      You record the new deed that shows the property in a trust.

 

Now the lender will see the transfer of title to the trust. But since the beneficial interest is not recorded…they just assume that the property is still owned by Jack Jones. And Jack has owned the property for years.

 

Then your buyer gets a loan and you provide the closing company with the Assignment of Beneficial Interest that shows your (or your company’s) ownership of the property. Title seasoning issue solved!

 

2.      Avoidance of Liens and Judgments Attaching To The Property

When you buy a property using Lease Option or Subject To techniques, one problem you can run into is that liens or judgments against the seller could attach to the property if the title is not in your name.

With liens or judgments attached to the property you wouldn’t be able to sell it to your buyer!

Perhaps the main reason for using a trust when purchasing properties “subject to” existing financing or with lease options is that they protect the property from judgments and liens against the seller. If a judgment or lien is entered against the seller, it will not automatically attach to the property. Title to the property is no longer in the seller’s name, but in the name of the trust instead.

 

3.    Asset Protection

 

Even if you own property free and clear…or you used your own credit to buy it…putting the property into a trust can be your first line of asset protection. A trust creates a privacy barrier by keeping your property ownership from becoming public knowledge. By getting your name off the title, it makes it more difficult for anyone to search public records for properties you own.

 

Not using trusts is like walking around with a sign on your back that says, “Sue me…I own lots of real estate”.

 

There are no requirements to register a trust as you must with a corporation or LLC so it provides better privacy than even these entities do. The beneficial interest of the trust is not recorded anywhere. So the only people who will even know about your beneficial interest in the trust are yourself, the Trustee, and perhaps an attorney if you use one.

 

If you have rental properties you should seriously consider placing all of your properties in separate trusts. “Professional” tenants make a career out of suing landlords. Without trusts, these tenants…or their lawyers…can easily look in public records to find out you own a bunch of properties. Then you just may very well be their next “employer” who provides them a big, fat paycheck in the form of a judgment.

A trust is not a bulletproof asset protection strategy...which is why it should be used along with other asset protection such as corporations, LLCs, or limited partnerships.

If you are sued and a judgment is entered against you, even with a property in a trust a creditor can force you to list all assets you own. Of course, the creditor would have to be smart enough to ask you to list any beneficial interests you hold in trust as well...if not, you just wouldn’t mention them. After all, you don’t own the property…the trust does.

 

But if the creditor does find out you have beneficial interest, you could be forced to sign it over to him or her. In this way, a judgment against you can still attach to all your real estate. This would prohibit you from selling any real estate without first paying the judgment in full. Some attorneys can help you set up more complex asset protection strategies to counter this.

 

4.    Due on Sale Avoidance

When you buy properties “subject to” the existing financing, or even with lease options, you need to be aware of the “due-on-sale” clause in almost all mortgages these days. The due-on-sale clause says that if a property ownership is transferred in any way whatsoever, the lender has the right to call the entire loan amount due. A typical due on sale clause looks like this:

“If all or any part of the Property or any Interest in the Property is sold or transferred without Lender’s prior written consent, Lender may require immediate payment in full of all sums secured by this Security Instrument.”

With foreclosures near record highs, it’s not like lenders are out there really looking to call loans due when the payments are being made on time. In fact, they would be absolutely crazy to call a performing loan due because it would hurt their ability to make new loans.

One thing that could cause lenders to start enforcing the due on sale clause is if interest rates greatly increase. But unless that happens, why would a lender spend money in legal fees to foreclose a mortgage and put another non-performing loan on its books?

Regardless, land trusts can be used as a way to avoid waving a property transfer in a lender’s face.

The Garn-St. Germain Act of 1982 protects a property transferred into a land trust from the due on sale clause. The clause in this Act says “a transfer into an inter-vivos [between the living] trust in which the borrower is and remains a beneficiary and which does not relate to a transfer of rights of occupancy in the property” is allowable.

Remember, even though the Assignment of Beneficial Interest form transfers the beneficial interest to you, this document isn’t public knowledge so the lender doesn’t know about it.

But you might ask: “Isn’t it illegal to violate the due on sale clause? No! To be "illegal," you must be in violation of a code, statute, or criminal law. There is no federal or state law that makes it a crime to violate a due-on-sale clause. The clause just gives the lender an additional right to call a loan due if they want.

Real estate investors are buying properties “subject to” everyday with very few due on sale clause problems. Real estate guru Ron Legrand has bought over 1500 houses and only had a lender threaten him with the due on sale clause one time. Even then they backed off when they realized it didn’t make sense to pursue.

 

There are only three ways a lender will find out if the interest in real estate has been transferred.

 

1.      Through a change in name on the deed. But lenders won’t really find out this way since they don’t have people in the Register of Deeds office searching records all day.

2.      The name on the check for payment changes. Although, most lenders have processing centers that know nothing about due on sale clauses and they don’t care where the check comes from anyway.

3.      The name of the beneficiary on the hazard insurance policy changes. This is the most likely way for a lender to find out a transfer has occurred.

 

But remember the Garn-St. Germain Act allows a property owner to transfer title into a trust. Lenders are used to seeing the insurance change from the owner’s name to the name of the trust. Property owners transfer title into trusts for estate-planning devices every day.

 

A lot of investors who purchase properties subject to existing financing don’t even bother to set up trusts. And the majority of them don’t have problems with the due on sale clause. Remember, even if you only lease option properties you’re still violating the due on sale clause. Recording a Memorandum of Option to protect your interests in the property could in theory trigger the clause.

 

So while triggering a due on sale clause is extremely unlikely, why not implement a strategy that greatly reduces the chance of a problem plus has the other benefits we talked about?

 

In Part Two of this article, I will talk about how to set up a Land Trust.

 

Tim Bruxvoort

http://www.commercialrealestateinsider.com

http://www.homebasedriches.com

http://www.remedyhomebuyers.com

 

Note:

This article is not intended as legal advice and should not be considered as such. You should always confirm all matters with a knowledgeable attorney.

 

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