Podcast Episode 26: “Is It Black, White, or Grey? (Part One).”
This mini-series on the basics of real estate investing starts with a discussion of how to describe situations as black (bad, stay away), white (legitimate, perfectly okay) or grey (uncertainty, could be offside, heading for black). Part one covers two real-life scenarios that illustrate the concepts of black, white or grey. Learn to tell the difference and stay away from mortgage fraud.
Here’s How to Evaluate Some Legal Aspects of Getting a Mortgage
It would be lovely if every situation had an obvious answer. But, that’s not reality. Situations often come up where there seem to be a number of answers. We say, “Stay Out of the Grey Area.”
- Our reference points are ‘Black’ which means bad, bad, bad, absolutely forbidden, just don’t do it.
- The next reference point is ‘White’ which means legitimate, no questions at all, perfectly okay.
- Lastly, we have, ‘Grey’. Grey means we aren’t sure, could be offside and, usually, is heading in the direction of Black.
In future Tales From The Trenches – The Basics we will be looking at joint ventures, contracts, and negotiating deals along with other interesting topics. For now let’s look at some of those scenarios that surround money and mortgages to decide whether the scenario is Black, White or Grey.
First Scenario: Declaring the Source of Cash Holdings to a Mortgage Lender
Lucky Logan is one of my clients and was fortunate enough to win $75,000 on the lottery. He is a very private individual and was quite happy that there were also a $1,000,000 winner and a $500,000 winner in his local area. His win was relatively anonymous, which suited him just fine.
He put the money in his bank account and thought it would be sufficient to buy at least two more investment properties. He said to me, “Lenders often want to know where you got the cash portion of your purchase money. I’m not going to tell them because it’s none of their business.” Lucky’s plan is to not tell the lender where he got his down payment money. Is It Black, White or Grey?
If the lender doesn’t ask where Lucky got the money, then this is a White scenario. There is no obligation to flap your gums and tell everybody your private business. If the lender wants proof that Lucky has the money, they may ask to see a copy of his bank statement. At that point, depending on how long the money has been in the account, the lender may ask where the money came from.
To keep this scenario White, if the lender asks where the money came from, Lucky has to give a truthful answer. If Lucky says he won the money in a poker game he has moved himself, at the very minimum, into the Grey area. I say Grey rather than Black because, if the lender discovered it was lottery winnings rather than poker winnings, they might not care. The better practice is to make sure you always give truthful answers to your lender, because misrepresenting some types of information can be construed as fraud. That way you will always have a White scenario.
Second Scenario: Parents Giving Money for a Down Payment Different Than Lending the Cash
Here’s a scenario that comes up way more often than you would think. My client calls me and says:
My mom and dad are helping me with the down payment. The lender wanted, and I have provided, a gift letter from mom and dad saying that they are giving me the down payment. My dad wants some security and is going to call you to ask if you will prepare a promissory note. He wants it registered against the property until I pay him back. Can you help him?
I can tell my client doesn’t see any issues here, doesn’t even know there is a problem. He just wants to know about the promissory note. Let’s forget about the promissory note for a moment. Is the gift letter situation Black, White or Grey?
First off, what is a gift letter and why did the lender want one? Lenders always want you to put up some of your own money; the percentage varies depending on the kind of deal you are doing. They don’t want you to borrow all the money it takes to buy a property.
Sometimes, parents help out their children by giving them part of the required funds. If you say your parents are giving you some money, that’s when the lender wants a letter confirming the money is a gift. If the money is really a loan, this is an obviously Black scenario for my client because it becomes fraud.
Here’s the funny part, or maybe it’s not so funny. When I get the call that talks about the gift letter and how mom and dad are going to secure the money, there is always a shocked silence when I say that:
- If the money is a gift, then, by definition, it doesn’t need to be paid back.
- I won’t help dad with a promissory note or any other security on money not meant to be repaid.
- My client must talk to mom and dad to confirm whether the money is really a gift—and therefore does not need to be repaid—or a loan that must be declared to the lender.
Remember I am, in almost all circumstances, the bank’s lawyer too. If I know that the bank is expecting ‘gift’ and my client is saying ‘loan’ then, then I am in the Black area too and participating with my client in yet another example of mortgage fraud. Folks, I am not going to do that.
If you’re getting a mortgage in Alberta, you must have a lawyer. Barry’s your guy, so contact him now!