IRAs Fund Hard Money Loans

“It’s similar to a Wall Street firm that needs a large pool of capital going to a couple pension funds and getting $50 million from each,” Jim Lackey, CEO of the Carlsbad, Calif.-based private real estate lending firm, Mariard Inc., told MortgageDaily.com.

“The loans I do can be as small as $50,000 and as much as one, two, three, even four million,” he explained. “A single individual will not do [finance] a $1 million loan. It might be five individuals who do $200,000 a piece.”

The loans are short-term, generally for less than $1 or $2 million — enough funds and time to complete projects or acquisitions or improve credit scores before turning to a commercial bank for a longer term loan with a lower rate.

Lackey said that about 15% of the investment money invested in the mortgages he originates is IRA money. He often suggests to people who would like to invest in real estate, but lack the funds or home equity to do so, that they tap their self-directed IRAs, if they have one.

“The benefit to me,” he said, “is that there is more capital available if investors use their IRAs. It provides another source of investor capital to invest in my loans. And it gives investors another investment choice for their IRA funds.”

And returns are high, he said, pointing out, “Typically, in a loan I do, the simple rate of return is anywhere between 12 and 15 percent and it’s collateralized by a piece of real property.”

San Diego-based private real estate lender La Jolla Loans funds its mortgages with money from a list of about 250 investors, about one-third of whom use their self-directed IRAs, reported Paul Cortez, vice president in charge of investor relations. After underwriting a loan, La Jolla takes it to investors for funding.

The ability to use self-directed IRAs for mortgage investments has expanded La Jolla Loans’ investor base and allowed it to make more loans, perhaps as much as a 50% increase, he said to MortgageDaily.com.

La Jolla Loans services all the loans it originates while Mariard relies on others to do the loan servicing, the two lenders said. Both charge 3 to 6% in points and fees, And those points are La Jolla Loans’ sole source of income off the loans, Cortez said.

But there are other ways in which loan originators can get paid, according to Tom Anderson, president and CEO of San Francisco-based Pensco Trust Co., which manages $1.73 billion in assets, mostly from self-directed IRAs. Referring to many of the loans those IRAs invest in, he said that on a loan carrying a 15% interest rate, the IRA that funded that loan will be paid a 12% interest rate, with the brokers taking the difference as a yield spread premium.

Credit scores aren’t important because of low LTVs, which seldom exceed 65% for both La Jolla and Mariard, Cortez and Lackey said.

“In our underwriting process the main thing we look at is collateral,” said Cortez. “Collateral is very important.”

“LTV is critical,” said Charles H. Hershon, president of Los Angeles-based Fidelity Mortgage Lenders, Inc., “which is why we only go to 55%.”

With so much equity at stake, borrowers are unlikely to default and if a loan goes into foreclosure there is much collateral for the lender to obtain, Hershon noted.

Loans are short-term, no more than five years, and rates are high, currently 12 to 15%, for all three lenders.

Cortez said his loans, which generally range in size from $2 million to $8 million but can go as high as $15 million, may be as short as two months but are no longer than 18 months, although most are in the 12- to 18-month range. “It’s very rare that we go to two years,” he pointed out.

“We do two to six loans a month and when those loans mature we roll investors into the next available loans,” he explained.

Amortization is typically 15 years, although, Hershon explained, a loan may be paid off in only two months, with ho prepayment penalty. Because of the short time these loans are outstanding he said, the high interest rate “doesn’t do a lot of damage.”

He, Cortez and Lackey, all noted that borrowers need the funds for only a short period of time, such as for a bridge loan for a residential borrower with a poor credit history or for a home builder who needs funds to complete a development so he can begin sales.

La Jolla’s loans can be for the completion of residential, retail, commercial or industrial development or for property acquisition, Cortez said. “It depends on borrowers’ business plans and what they need to do to complete their plans.”

Most investors, and borrowers, said Jim Wagner, president and CEO of Carlsbad, Calif.-based Trust Administration Services, come from the western states, especially the coastal states, but also Arizona and Nevada. However there is some activity in all states, he added. TAS administers the portions of IRAs used for real estate investments, handling the accounting and tax reporting requirements.

Most IRA-funded mortgage activity has been occurring in California, admitted Pensco’s Anderson. “It isn’t as prevalent in other states. But next year I’ll start focusing on other states,” he said, noting that in November he visited Chicago to promote mortgage funding with self-directed IRAs.

But activity continues to grow just in California, according to Wagner.

“Over the past four or five years,” he said, “we’ve seen increased interest and increased activity in this area. And it keeps growing.

“People look at mortgages as a relatively safe place to earn a very decent return because it’s secured. We’ve seen 12% returns so far this year on short-term loans.”

Nearly 40% of the $1.4 billion in IRA assets TAS handles is in real estate, and half of that is in mortgages, Wagner pointed out. And although the stock market has come back as an investment vehicle, those investors are keeping the same portions of their IRA portfolios in real estate, he noted.

Commercial mortgage brokers, who are seeking funding for loans they want to originate, often send to TAS potential investors who want to use their self-directed IRAs to invest in real estate, Wagner said. Other referrals come from attorneys, accountants and financial planners. Nearly 40% of the company’s new business, which averages more than 100 new investment plans a month, is real estate related, he noted.