Reminder for dirt lawyers of a “secret lien” trap

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The sale of a majority of the assets of a business

Real estate lawyers despise unrecorded liens. I like to refer to them as secret liens. One such trap for the unwary dirt lawyer in South Carolina is the state tax lien imposed by Code §12-54-124. This statute was effective June 18, 2003, and I can vividly remember the day we first read it and scratched our heads about what it meant.

The statute reads:

“In the case of the transfer of a majority of the assets of a business, other than cash, whether through a sale, gift, devise, inheritance, liquidation, distribution, merger, consolidation, corporate reorganization, lease or otherwise, any tax generated by the business which was due on or before the date of any part of the transfer constitutes a lien against the assets in the hands of a purchaser, or any other transferee, until the taxes are paid. Whether a majority of the assets have been transferred is determined by the fair market value of the assets transferred, and not by the number of assets transferred. The department may not issue a license to continue the business to the transferee until all taxes due the State have been settled and paid and may revoke a license issued to the business in violation of this section.” (Emphasis added.)

That’s it! Very simple, but how are those terms defined?  What’s a business? Is a rental house in Pawleys Island a business?  How can a purchaser’s lawyer know whether taxes are due to South Carolina by the seller?  How can a purchaser’s lawyer know whether the sale of one Subway store is a sale of the majority of the assets of a franchisee’s business?

I had a friend and former law school professor who worked at the Department of Revenue at the time, so I called him and told him we were struggling with the meaning of the statute.  He gave me two very valuable pieces of information: (1) the terms in the statute are defined as the Internal Revenue Code defines them; and (2) the Department of Revenue (DOR) was likely to give us some guidance at some future date.

We struggled with the definitions in the Internal Revenue Code and finally decided that unless a property is an owner-occupied single family residence, the closing attorney should consider that it might be a business asset.

Thankfully, in 2004, the DOR did provide guidance in the form of Revenue Ruling 04-2. The Revenue Ruling stated that the code section does not apply if the purchaser receives a certificate of compliance from the DOR stating that all tax returns have been filed and all taxes generated by the business have been paid. The certificate of compliance is valid, according to the Revenue Ruling, if it is obtained no more than thirty days before the sale.

This Revenue Ruling also authorized attorneys to accept Transferor Affidavits, in the form promulgated by the DOR, when the transferor can state that the assets subject to the transfer are not business assets or are less than a majority of the transferor’s business assets, based on fair market value, in the current and other planned transfers.

house mousetrapThe Revenue Ruling addressed whether a vacation home is a “business” by stating that it is not a business if IRC §280A limits the deduction of vacation home rental expenses. That’s a little deep for dirt lawyers, so the safe approach is to always obtain a certificate of compliance or Transferor Affidavit when you close on that rental home in Pawleys Island.

I like to remind dirt lawyers that they are not tax lawyers (unless they ARE tax lawyers). Generally, when you represent a purchaser in a real estate transaction, do not give the seller tax advice on how to complete a Transferor Affidavit.

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CFPB announces top TRID mistakes

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cfpb-logoWe’re learning for the first time what the CFPB considers the top mistakes being made by lenders in mortgage originations under TRID. CFPB’s September 2017 Supervisory Highlights reports on the Bureau’s first round of mortgage origination compliance examinations. Prior to these examinations, the Bureau refused to provide a grace period for lender compliance but stated publicly that it would be sensitive to the progress made by lenders who focused on making good faith efforts to comply with the rule.

Some of these mistakes may be attributed, at least from the viewpoint of the lenders who were pinpointed by CFPB, to settlement service providers (real estate lawyers in South Carolina), so we should pay close attention to this list. Failure to pay attention to it may place some of us squarely on lenders’ naughty lists.

This report indicates most lenders were able to effectively implement and comply with the rule changes, but the examiners did find some violations. The following list contains the most common mistakes:

  • Amounts paid by the consumers at closings exceeded the amounts disclosed on the Loan Estimates beyond the applicable tolerance thresholds;
  • The entity or entities failed to retain evidence of compliance with the requirements associated with Loan Estimates;
  • The entity or entities failed to obtain and/or document the consumers’ intent to proceed with the transactions prior to imposing fees in connection with the consumers’ applications;
  • Waivers of the three-day review period did not contain bona fide personal financial emergencies;
  • The entity or entities failed to provide consumers with a list identifying at least one available settlement service provider in cases where the lender permits consumers to shop for settlement services;
  • The entity or entities failed to disclose the amounts payable into an escrow account on the Loan Estimate and Closing Disclosure when consumers elected to escrow taxes and insurance;
  • Loan Estimates did not include dates and times at which estimated closing costs expire; and
  • The entity or entities failed to properly disclose on the Closing Disclosures fees the consumers paid prior to closing.

The report boasts that the CFPB examiners worked in a collaborative manner with one or more of the entities to identify the root causes of the violations and to determine appropriate corrective actions, including reimbursements to consumers.

The report also covered the Bureau’s supervisory activities outside the mortgage origination arena and indicated nonpublic supervisory resolutions have resulted in total restitution payments of approximately $14 million to more than 104,000 consumers during the review period (January through June, 2017). The CFPB also touted resolutions of public enforcement actions resulting in about $1.15 million in consumer remediation and an additional $1.75 million in civil penalties during the review period.

Despite the notion that the CFPB may be in disfavor in the Trump administration, it remains a powerful body in our industry. Compliance with its directives is crucial to remain in the residential closing business at this point.

Mortgages without appraisals?

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Fannie and Freddie are relaxing their rules!

Government-chartered entities Fannie Mae and Freddie Mac are relaxing their decades-old appraisal rules to allow some refinances and, more significantly, some sales to close without new appraisals. Both entities indicate they will only permit loans to close without appraisals in situations where they have substantial data on the properties in question as well as the local real estate markets.

How will the new plans work? Lenders will submit loan files to either Fannie or Freddie for underwriter analysis. The entities’ proprietary systems (automated valuation models) will be employed to determine whether sufficient valuation data is available to support the requested loan amounts.  These systems are said to be depositories of millions of prior appraisal reports and “proprietary analytics” that allow for computer-driven valuations of properties. If the system determines that no appraisal is required, the borrower will be given the choice of proceeding without an appraisal or coming out of pocket for an appraisal.

Should local residential contracts be tweaked? Should lawyers advise their purchaser clients to obtain appraisals?  We will have to cross those particular bridges.

lather-rinse-repeat-sign-c

This seems reminiscent of the situation in the early 1990s where title insurance companies limited their requirements for current surveys. Residential lenders were given the survey coverage they required without the cost of updated surveys. Lawyers were left holding the bag, so to speak, to advise their purchaser clients of the benefits of surveys and to encourage them to incur the cost despite the fact that there was suddenly no lender or title company requirement.

Lawyers are not typically involved in residential transactions prior to loan approval, however, so it is entirely possible they will not be involved with the question of whether to obtain appraisals unless astute and cautious buyers specifically seek advice up front.

Fannie and Freddie have been quietly phasing in this new process for months and indicate appraisals will continue to be required for most loans. Fannie estimated that only ten percent of loans were eligible to close without appraisals at the inception of its program for refinances. That percentage is likely to be smaller for sales.

Both entities require at least twenty percent equity to qualify. Fannie’s program includes single-family homes, second homes and condominiums.  Freddie’s program is limited to single-family, single-unit primary residences. Homes in disaster areas, manufactured homes, and homes valued at more than $1 million will not qualify. The borrower’s credit scores and credit worthiness will also be considered.

Real estate agents are likely to love this new technology-based innovation. It will save money as well as time. Appraisers (like surveyors in the 1990s) will not be happy as this program is phased in.

What do you think? Are appraisals a good thing?  Will foregoing appraisals be akin to the “no doc” and “low doc” mortgages that helped lead us to the financial crisis of 2008? Are actual inspections by trained human beings of the interiors of residences necessary to establish value? Let’s see how this plays out!

Feds extend footprint of shell game again

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Will this obligation eventually extend to South Carolina?

shell game

Secretly purchasing expensive real estate continues to be a popular method for criminals to launder dirty money. Setting up shell entities allows these criminals to hide their identities. When the real estate is later sold, the money has been miraculously cleaned.

In early 2016, The Financial Crimes Enforcement Network (FinCEN) of the United States Department of the Treasurer issued an order that required the four largest title insurance companies to identify the natural persons or “beneficial owners” behind the legal entities that purchase some expensive residential properties.

At that time, the reach of the project extended to the Borough of Manhattan in New York City, and Dade County, Florida, where Miami is located. In those two locations, the designated title insurance companies were required to disclose to the government the names of buyers who paid cash for properties over $1 million in Miami and over $3 million in Manhattan. The natural persons behind the legal entities had to be reported for any ownership of at least 25 percent in an affected property.

By order effective August 28, 2016, all title insurance underwriters, in addition to their affiliates and agents, were required to be involved in the reporting process, and the footprint of the project was extended.

The targeted areas and their price thresholds as of August 28, 2016 were:

  • Borough of Manhattan, New York; $3 million;
  • Boroughs of Brooklyn, Queens and Bronx, New York; $1.5 million;
  • Borough of Staten Island, New York; $1.5 million;
  • Miami-Dade, Broward and Palm Beach Counties, Florida; $1 million;
  • Los Angeles, San Francisco, San Mateo, Santa Clara and San Diego Counties, California; $2 million; and
  • Bexar County (San Antonio), Texas; $500,000.

By order effective September 22, 2017, wire transfers were included, and the footprint of the project will include transactions over $3 million in the city and county of Honolulu, Hawaii.

Although the initial project was termed temporary and exploratory, FinCEN has indicated that the project is helping law enforcement identify possible illicit activity and is also informing future regulatory approaches. The current order extends through March 20, 2018.

We have no way of knowing whether or when this program may be expanded to South Carolina, but it is entirely likely that expensive properties along our coast are being used in money laundering schemes. We will keep a close watch on this program for possible expansion

Total eclipse of the heart….I mean sun

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eclipse

What an experience! Millions were expected to descend upon beautiful and “famously hot” Columbia, S.C. for the total eclipse on Monday. Hundreds of events were planned to welcome the natives as well as the visitors. I thought it was an overly-hyped occasion, but I was mistaken. The eerie darkness descending on the otherwise bright day, the sounds of evening crickets; the brightening of streetlights in mid-afternoon; it was all surreal. And watching the main event was no less than dreamlike. No horror movie ever depicted an eclipse more vividly. A few clouds passed into our vision like inky smoke as we watched the moon chase and completely capture the sun. And two minutes later, the process reversed itself. I wouldn’t have missed it for the world!

A few people who had to miss the eclipse were described in an August 14 HousingWire story by Ben Lane entitled “Ringleader of elaborate mortgage fraud scheme gets 10 years in prison.” Mr. Lane described the complex New Jersey mortgage fraud scheme that involved fake everything, sellers, businesses, lawyers, title agents and notaries. The co-conspirators pled guilty to money laundering in a scheme that involved using stolen identities to pilfer more than $930,000 from lenders in at least eight fraudulent loan transitions.

The criminals created all the aspects of legitimate closings by using stolen and fictitious identities to fill all the required roles. The homes were real, but the homeowners were totally unaware. Virtual offices and businesses were created by setting up dozens of phone numbers, email addresses, fax numbers, websites and mail drop addresses. Several lenders were deceived by the elaborate scheme. Once the loans were disbursed to the accounts of fictitious law firms and title agents, the criminals withdrew loan proceeds by visiting ATMS and bank branches for several months until the entire amounts were withdrawn.

The HousingWire story accurately states that mortgage fraud is an expensive drain on the lending agency which ultimately raises the cost of borrowing for consumers. The astute New Jersey and federal investigators who successfully apprehended these criminals benefited us all.

As the criminals report to jail, we will return to our normal lives but will remain in awe of the powerful occurrence we witnessed yesterday.

History repeats itself

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Fraudulent mortgage satisfaction schemes are back

We have heard recently that a group is engaging in a scheme to fraudulent satisfy mortgages (or deeds of trust) in California and Florida. We all know that trends in California and Florida eventually make it to South Carolina, so I wanted to make sure South Carolina dirt lawyers are aware of this scheme. This is not a new scheme, but we thought it had died down until we got this news last month.

Here are some good rules of thumb to assist you in avoiding losses and protect clients in this area:

  • Have your title examiners provide you with copies of mortgage satisfactions and releases. Two sets of eyes reviewing the documents should help with spotting issues.
  • Pay particular attention to satisfactions and releases within a year of your closings. The normal schemes involve satisfying mortgages in order to collect funds at subsequent closings.
  • Pay particular attention to satisfactions and releases that are not connected with a sale or refinance. Contact the lender for confirmation that the loan has been paid in full.
  • Don’t accept a satisfaction or release directly from a seller, buyer or third party without contacting the lender for confirmation that the loan has been paid in full.
  • Many of the fraudulent documents are being executed by an unauthorized party on behalf of MERS. Compare MERS satisfactions with others you have seen in connection with your closings.
  • Check spellings and compare signatures against those of genuine instruments.
  • Be wary of hand-written documents, unorthodox documents, cross-outs, insertions and multiple fonts.

The perpetrators of this fraud are sophisticated and will change aspects of the scheme as needed, so remain vigilant and discuss any suspected fraudulent documents with your title insurance underwriter.

CFPB rules have been revised

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Are we now free to share Closing Disclosures with real estate agents?

cfpb-logoThe CFPB recently issued amendments to its rules governing residential loan closings, but it did not settle the debate about whether Closing Disclosures can be shared with real estate agents. Traditionally, real estate agents were provided settlement statements both before closings, to give them the opportunity to explain the numbers to their buyer and seller clients, and after closings, to enable them to close MLS listings.

Since we have been operating under the CFPB rules and generating Closing Disclosures, we have struggled with the insistence on the part of real estate agents to receive those documents and the reluctance on the part of lenders to share them.  Most of us have resolved this conflict by providing real estate agents with separate settlement statements, such as ALTA’s Settlement Statements, which are similar to our prior HUD-1 Settlement Statements. It took us awhile to figure out that Closing Disclosures are not traditional closing statements and do not facilitate disbursement. Once we realized separate settlement statements are actually needed to fully inform borrowers, sellers and real estate agents, this issue became less important.

The CFPB has indicated it has received many questions about sharing Closing Disclosures with third parties. The amendment says:

“(T)the Bureau notes that such sharing of the Closing Disclosure may be permissible currently to the extent that it is consistent with (the Gramm-Leach-Bliley Act) and Regulation P and is not barred by applicable State law. However, the Bureau does not believe that expansion of the scope of such permissible sharing would, in this rulemaking, be germane to the purposes of Regulation Z.”

Lenders will likely continue to refuse to allow sharing of Closing Disclosures in light of this clear-as-mud directive. Most lenders currently state that the consumer may provide the Closing Disclosure to real estate agents if he or she chooses to do so. That rule is not likely to change.