Definition of a Construction Deed of Trust
Construction deeds of trust are good for contractors, and they're good for investors, particularly in uncertain economic times. For contractors, they speed up the time they can receive funding for a project, though at a slightly higher cost, and for investors, they are good investment instruments in times of low and uncertain returns on conventional investments. They're particularly good for investors because their risk levels are collateralized with deeds of trust, promissory notes and personal guarantees from the contractor.
Other People Are Reading
-
Deeds of Trust
-
Think of a deed of trust as a mortgage on your home or your car loan. Credit-worthiness aside, your home and vehicle serve as collateral to the lender should you default on the money loaned to you. In other words, if you don't pay the mortgage, the bank gets your home. If you don't pay your monthly car payment, the lender gets your car to make up for the loan deficiency through repossession. Deeds of trust work in a similar fashion except there is an independent third party involved that holds the deed on the property until the loan is satisfied or is forced to take other legal action, such as foreclosure or a short sale, if the loan becomes delinquent.
Construction Deeds of Trust
-
From the construction side, if you're a contractor in need of money and don't want to rely on conventional financing, a contractor can pledge the property on which a project is planned or underway as collateral in exchange for hard cash from investors. In other words, he can place the deed of trust in exchange for the promise of paying investors a return on their investment. According to Registered Investment Adviser Jerry Lucas of Colorado Springs, this protects investors should the contractor not meet the terms of the agreement by giving them the right to the property and anything on it in exchange for their investment. Most often, the contractor also signs a promissory note against the construction business and personal guarantee, as part of the deal, to protect investors. If the project falls through, the investors get the land, buildings, and can collect on the difference between their investment and what isn't covered by the land and buildings through the promissory notes and personal guarantees.
-
The Way it Works
-
Jerry Lucas offered the example of a contractor who is two-thirds completed with a project and has run out of money from conventional sources. It would take a considerable amount of time to go back to traditional lenders to cover the shortfall and complete the project, so the contractor puts out a call to an investment broker for a quick cash infusion by executing a deed of trust. These loans are usually short-term, 12 to 36 months, but offer investors much higher returns than they might receive through IRAs, stocks, bonds and other conventional means, particularly in economic downturns. In 2010, for example, an investor might only receive a 2 to 3 percent return on his money in a bank account whereas in a deed of trust construction transaction the return can be as high as 10 to 12 percent or more.
Safety Net
-
Deeds of trust work as a safety net for investors, along with the promissory notes and personal guarantees. At minimum, investors should be made whole for their investment.
Exceptions
-
Some states allow deeds of trust, some allow mortgages, which can't be used as an investment vehicle like deeds of trust, and some states allow both. As a prospective investor, it doesn't really matter where these deeds of trust investment opportunities arise. As a contractor, though, building in a state that allows deeds of trust financing can be useful in a cash-strapped situation. In states that permit only mortgages, deeds of trust cannot be used to raise money for construction.
-
References
- Photo Credit construction site image by stoffies from Fotolia.com
