Private Mortgage Lending: What Private Lenders Need to Know
As borrowers look to obtain mortgage financing for residential properties, many will continue to face difficulties securing such financing from traditional institutional lenders (e.g., the major banks) due to stricter mortgage rules. As such, many of these borrowers will flock towards private mortgage lenders to secure the funds they need to purchase a home, renovate, consolidate debt, etc. Indeed, there has recently been a sharp increase in consumers working with private lenders for mortgage refinancing in the Greater Toronto Area. Although there are typically higher risks involved in private mortgages, private lending is becoming a trend that we believe will continue to proliferate in the current market.
A private mortgage is a loan from a private entity (e.g., individual, corporation, partnership) that is secured by real property, where such property is or will be owned by the borrower prior to placing a mortgage on the property. Those interested in entering the private lending world as a lender should ensure they are fully informed and advised as to the risks, issues and recommended due diligence involved in acting as a private mortgage lender. If you carry on business as a mortgage lender, you must be registered under the Mortgage Brokerages, Lenders and Administrators Act, and must hold the appropriate brokerage licence.
Some of the significant issues that lenders should address before agreeing to sign any mortgage commitment with a borrower include, but are not limited to, the following:
Loan and Security Documentation – Always insist on having a written mortgage commitment letter in place that outlines the specific terms of the mortgage (e.g., interest rate, maturity date, term, payment amount/frequency, any prepayment privileges/penalties, etc.), pre-conditions that must be satisfied by the borrower prior to you advancing the mortgage funds (e.g., obtaining fire insurance on the property with the mortgagee noted as first loss payee, confirming that all realty taxes have been paid, providing a Notice of Assessment verifying income, doing a credit check and inspection of the property, etc.), and other representations and warranties regarding the borrower and the property.
Equity in the Property – Conduct an appraisal on the property to satisfy yourself on the value of the secured asset. This is where you must evaluate the ratio of loan to value, being cognizant that the equity available in the property is large enough to cover your loan plus any potential accumulation of costs and interest if the borrower defaults on the mortgage.
Due Diligence on the Borrower – Besides being satisfied with the borrower’s income, credit and ability to pay the mortgage payments, you should be comfortable with the borrower’s overall covenant (i.e., ability to perform all its obligations as per the mortgage terms). If the borrower is a new corporation with minimal valuable assets, you should consider having a personal guarantor bound to the mortgage as well. Assisted
Due Diligence by Solicitor – Your solicitor will assist you with certain due diligence involving title and off-title searches and inquiries related to the property. The results of these searches and inquiries will help you determine whether you can have a valid mortgage and if the property can legally be used for its intended purpose. Usual due diligence in this area includes examining title to the property, writing to the municipality to confirm appropriate zoning and whether any work orders exist, obtaining property tax certificates, confirming compliance with the fire code, etc.
Although your real estate lawyer can provide you with legal advice with respect to arranging and closing the private loan transaction, he or she cannot offer business advice (i.e., is this loan a financially sound investment?). You must make your own business decisions as a prudent and careful lender. Nonetheless, regardless of the amount you intend on loaning, it is always highly recommended to consult with your lawyer prior to entering into any agreement to lend money in order ensure your rights are protected and the appropriate security is in place.