How to Structure Your Private Lending Deals So You Never Have to Foreclose

“Never” is a strong word. But it’s actually not that far off; after completing more than 8,000 private money loans in the last 12 years, I’ve only ever had to officially foreclose 8 times. That’s a 0.1% foreclosure rate.

So let’s say “almost never” rather than “never”. But it’s darn close to never…and it’s all because of how I structure my deals.

See, fear of having to foreclose is one of those common objections I often hear when I suggest to someone that they should consider being a private lender. They say something like…

“I don’t know, Dave. I don't want to go through a costly and time-consuming foreclosure.” 

Well, who does?

I sure as heck don’t make loans with the expectation that I’m going to have to foreclose on the borrower. That’s the opposite of why I got into this business in the first place.

I got into the private lending business to do 3 overarching things:

• Own “paper” (i.e. the promissory note for the loan), not projects
• Collect origination fees and interest payments that amount to double-digit annual returns
• Have a low-risk, PASSIVE experience. I have no desire to be an active property flipper.

As main objectives go, these work for me. And I think you’ll find they’ll serve you too.

(Side note: some scummy lenders actually DO lend with the plan to eventually foreclose. It’s a predatory strategy called “lending to own” where a lender funds a deal for a borrower whom he knows won’t be able to pay just so he can take back the property. If you’ve got even a shred of integrity, DO NOT DO THIS.)

As of this writing, less than 8% of mortgages in America — whether from private loans or publicly traded institutions — are in foreclosure. My foreclosure rate is way, WAY lower…again, because of the way I structure things.

How? I usually use a quit claim deed or a deed-in-lieu-of-foreclosure, which is much less time consuming and less expensive than a foreclosure. If something goes wrong with the deal, one piece of paper allows the borrower to transfer their property rights to me so that my team can complete the flip and get my money out.

And even if a deal DOES somehow end up in foreclosure, it’s not like you’re necessarily in for some long knock-down-drag-out legal battle.

See, the court may choose to shorten the foreclosure timeline for a private lender because the loan is what’s called “business purpose.” Which, incidentally, is the type of loan I suggest you stick to.

Why only business-purpose loans?

Because the person on the other end of the deal (the borrower) is a businessperson rather than a consumer. This means they’re regarded as a “sophisticated counterparty” from a legal standpoint. They’re typically entitled to fewer protections — not only in a foreclosure, but in most legal situations that may arise. 

And this is critical. Because as a private lender you want to get in, make a profit, and move on to the next deal.

Seriously, tattoo that on your forearm. The longer a deal takes, and the more expenses you incur to consummate it, the more your ROI generally goes down. Anything that helps you profitably get in and get out faster — even a little faster — is a good thing. And sticking to business-purposes loans is one of them.

Look, I’ll never minimize the value of an experienced foreclosure attorney. If you find yourself in a situation where foreclosure is your only option, a good attorney can be worth their weight in gold…and I absolutely recommend that you retain one.

And, in the unlikely event you have to DO have to foreclose, don’t fret. There’s actually some upside to foreclosing.

See, because you’ll be lending at a low Loan-to-Value ratio, you'll find that it's possible to make MORE money by taking the property back from a non-performing borrower…assuming you underwrote the deal properly in the first place.

By taking the property back, you inherit the borrower’s equity in the deal. YOU get to make the flipping profits that they expected to make, which in many cases are greater than the income you’d earn as a lender from origination points, interest and fees.

Final point: There are big distinctions between judicial and non-judicial foreclosure states. The former tend to have a lengthy foreclosure process, while the latter generally have a quicker foreclosure process. Be sure to research whether your state — specifically the state in which the property resides — has a judicial or non-judicial foreclosure process.