Use Of Funds or Blowing Equity

For us it has been important to understand why borrowers were borrowing money and what will they spend it on. This is going to become even more crucial as the economy continues to tighten and there is less sources of funds. As Hard Money lenders, understanding how the capital provided to borrower once the loan was funded has been a constant priority. In our group, we were even more stringent on documenting use of funds.

In most cases borrowers have been using funds to pay debts and to make upgrades to the property we were lending on. In a number of financing, we controlled part of the funds to make sure properties upgrades were done. Today, most of the cash-out we will approve has to be related to re-investing in the property or new investments. We will reduce cash-out amount if they have no justifications.

The use of fund is crucial because I believe that in part this is why we are in the mess we are in. If banks, financial institutions, funds, etc… had paid closer attentions to the use of funds when borrowers cashed-out, maybe we would not be where we are. In the following article “Stocks Tumble on worries about earnings forecast” from the AP, the reporter writes about company performances. Basically people in the U.S. have reduced their consumption of goods, big and small tickets item it does not mater, all have been curtailed.

As numerous loan officers and real estate professional realized, borrowers were using their property as piggy banks. Funds were used to pay down consumer debt, then to buy bigger tickets item such as cars etc…. Every 14 to 18 months numerous consumers where coming back to the well, refinancing their properties. Not all property owners were doing this, but a big enough number were, so when banks stop approving new loans the system went bust. Since there is no money for consumption anymore, companies’ performances are going to continue to be terrible eventually stabilizing. For us Hard Money lenders we will continue to take a close look at use of funds as we believe re-investing in real estate should be the priority.