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58 Scotsman Guide Residential Edition | ScotsmanGuide.com | January 2019
The difference between business- and consumer- purpose loans boils down to whether the loan is ubject to the disclosure and other requirements of, among other statutes, the federal Truth-In-Lending
Act (TILA). A consumer-purpose loan is subject to that
consumer-disclosure law while a business-purpose loan is not.
While it may appear at face value that a business-purpose
loan should be easily distinguishable from a consumer-purpose loan, in practice it’s not. There is a certain gray area
— or twilight zone — which intersects the two types of loans.
Mortgage originators who work with private lenders should
exercise the proverbial “ounce of prevention” at the outset to
avoid having to expend a “pound of cure” on the back end of
a loan deal. The goal is to ensure a borrower does not later
claim that a business-purpose loan intended for a fix-and-flip
investment property, for example, was instead a consumer-purpose loan that is subject to TILA.
Understanding the loan
In a nutshell, TILA is a consumer-protection statute that
provides certain protections and remedies for a “natural
person” against their lender. An originator who correctly
determines at the outset that a proposed loan will ultimately
be for a business purpose, rather than a consumer purpose,
will prevent the borrower from later wrongly invoking TILA as
both a sword and a shield against the lender.
The preventive benefits associated with making the correct
determination at the outset of a loan transaction can best be
described relative to whether the loan is a purchase mortgage
or a refinance loan. If a private money lender originates a
purchase mortgage, and it is later determined that the private
money lender inaccurately designated that loan as a business-purpose loan, that lender may potentially be subject to a
lawsuit by the borrower seeking actual damages, statutory
damages and attorneys’ fees.
The same goes for a private money lender that originates a
refinance mortgage, and it is later determined that the private
money lender inaccurately described the loan as a business-purpose loan. In addition, in the refinance context, the
borrower also has the unique remedy of rescission, effectively
voiding the contract.
In this circumstance, the borrower has three years from
consummation of the refi loan in which to exercise the right
of rescission as to the inaccurately designated loan. A proper
rescission requires the lender to reconvey its deed of trust,
while the borrower is only required to tender to the lender
the original principal amount of the loan, minus a credit for,
among other things, the principal and interest payments
There are defenses to borrower claims under TILA and ways
in which a lender’s damages can be mitigated. This, however,
would fall under the “pound of cure” to be avoided with an
“ounce” of prevention.
Type of borrower
Asking the right questions upfront will eliminate time wasted
working on a loan that may have a consumer purpose. The first
question one should ask is whether the credit being extended
is to a natural or non-natural person. What is the difference?
A natural person is a human being (and some trusts).
Loans to natural persons require the private money lender to
properly determine at the outset whether a loan is a business-purpose loan or a consumer-purpose loan.
In contrast, entities such as corporations, partnerships,
associations, churches, unions and fraternal organizations
are considered non-natural borrowers that are exempt from
TILA. Credit extended to entities such as these fall within the
organizational exemption under TILA, and its implementing
Regulation Z, and will not qualify as a consumer loan
regardless of purpose.
Jason E. Goldstein, Esq., is an attorney and
shareholder at Buchalter APC. He also is the chair
of the law firm’s mortgage banking department,
where he specializes in private money.
Reach Goldstein at (949) 760-1121 or
Jack Suddarth is president and founder of Equity
Wave Lending Inc, an Irvine, Calif.-based wholesale
direct hard/private money lender. Licensed
since 1989, Suddarth enjoys serving the lending
industry and has many decades of experience.
Reach him at (949) 252 0025, ext. 102, or e-mail at
“There is a certain
gray area — or twilight zone —
which intersects the two
types of loans.”