The LLC Trap: Why Your DSCR Loan Still Puts You Personally at Risk Ep 388

you formed your LLC you put the property in your LLC you think you're protected we've closed hundreds of deals where investors have put their property in their LLC and they thought there was a wall between them and the lender until they read page 14 of their mortgage contract. What most investors do not know, the LLC is the borrower, and you're still on the hook. Today, I'm going to share with you guys what a personal guarantee actually is, what your LLC does and doesn't protect, and the one question to ask before signing anything.

And a disclaimer, I am not an attorney, nor do I pretend to be an attorney. I am just sharing what I know from experience of closing these loans. Section one, guys, the myth, what investors think the LLC does. Most investors think the LLC is personal credit protected, personal assets protected.

I'm untouchable. in a business sense that's correct but when it comes to dscr loans there's a reason why your lender has you sign as a personal guarantee because ultimately if god forbid if you go past due on your mortgage the llc is not a person it's an entity so it'd be hard for them to go after you in that sense. So they have to have a natural person to be able to discuss the loan issues with. Where the idea comes up from, the LLC does protect you from liability, tenant's lawsuits, slips and fall, property damage, etc.

But when it comes to the actual lending part of this, make sure that you're reading your loan documents, your mortgage contract. You will be named as a personal guarantee and the lender will outline everything that you're responsible for. Take a look at that. Spend time.

Slow down. I know it's a lot of documentation, but slow down and review it. Ask questions. Like I said earlier, the LLC is the borrower.

The lender still wants a human being responsible for the debt. I know that's simplified, but again, I'm not an attorney, nor do I play one. I'm just walking through what I've experienced personally and also what we have closed professionally for DSCR loans. Section 2.

What a personal guarantee actually is. Definition in plain English for you and me, you are personally promising to repay the debt if the LLC cannot or won What the lender can do if you default come after you personally They can look at your personal bank accounts, other properties, other personal assets, not just the LLC property. So when you personally guarantee a loan, you're basically opening yourself up for all your assets. So you have to be very careful.

So I'll give an example. Somebody co-signing for you on a, or you co-sign for somebody on a auto note. What happens when they don't pay the note? They come after you.

They call you to make the payments. And then let's say, God forbid, it goes to repossession. Now that deficiency balance is due, how are they going to get it? They're going to either try to work on payments so you can actually start doing that.

If they can't do that, unfortunately, they'll go the litigation route and go down that path. Since you co-signed or you are the guarantor and then someone co-signed for you, they're looking for both you to make a payment. So think of it that way. They're going to look at the LLC first.

LLC can't or won't pay. They're coming to you afterwards. And now they've got all that in between so they can actually get their money back. What the lender can and can't do, that varies from mortgage contract to mortgage contract.

Just read your mortgage documents when you're at closing. Make sure you understand what you're signing. Recourse versus non-recourse Every DSCR loan on the market is a recourse loan I've not heard of any that are non-recourse But they could be out there But every deal that I've done personally and professionally have all been recourse Which means the personal guarantee is real Again, read your mortgage documents lastly on this piece guys there there's a lot of questions and comments about whether these loans get reported to your personal credit again you've got to read your mortgage contract but majority of the lenders that we work with will not report these to your personal credit unless your past due and they all vary 60 90 120 days, 120 days, you're going into foreclosure, but know when they can potentially report it.

When your loan gets sold in the secondary market from your original lender to another lender, more than likely, they're going to report it to your personal credit because they're not paying attention. You need to call the new lender and state that this loan was not intended to be reported to your credit bureau and they need to remove it. So make sure that happens. I've had a A couple clients deal with that where their loans got sold in the secondary market and the loans got reported to their credit bureaus which is not cool Section three guys why DSLR lenders require personal guarantees A DSLR loan is a non loan which is a non mortgage which means the lender took the extra risk by not verifying your income.

They're only verifying what the property is going to make. The personal guarantee is their backstop. If the property cash flows and then it fails and the LLC walks, they need somewhere to go. Let's say the LLC gets shut down or you just don't have the funds.

You as the personal guarantee are going to have to have the funds. Been there, done that. This is why personal credit scores matter. Even on a no income doc loan, they're still underwriting you to a certain extent.

And not just the property, they want to make sure you're credit worthy. So if you got a 580 credit score, more than likely the DSR lender is not going to lend to you. But now if you've got a 780 credit score, now you're talking their game, which means you're less risk, which means lower rate. Typical credit floor for DSR lenders is between 620 and 680.

I've seen some go down to 600. I don't want to say that is the norm. It's an exception. But of course, again, you want a higher credit score to get a higher rate.

Section four, what your LLC actually does protect you from. Tenant slips, tenant lawsuits, they sue the LLC, not you personally. Maybe there was some disagreements with your contractors that did work on the deal. They go after the LLC.

They don't go after you personally. maybe vendor disputes maybe there's an insurance claim all those things are going to be at the LLC level the thing that I want you guys to understand the difference between the LLC protection and the lender protection two different paths and again I'm not an attorney nor am I giving you professional legal advice you need to discuss that with your attorney and how to set that up don't confuse your LLC protection at your property level versus your loan level.

Have that discussion with your attorney. And lastly, I wanted to share a quick story. I had a client that came to me that was working with another lender and they never explained to him that he was personally guaranteeing the loan. He thought by him closing the deal in the LLC, he wasn't on the hook for it.

Section five. Can you get a DSCR loan without a personal guarantee? Yeah. There's deals out there to be had.

There are DSCR loans that do that. But there a huge trade Temple typically require anywhere between 30 to 40 down higher reserves more than six months, so 12 to 24 months, lower LTV like I just explained, and often a higher interest rate. Most commonly available are on larger multifamily five plus units or commercial deals. For one to four units, DSCR non-recourse is rare and expensive, but you need to weigh the cost versus the actual risk you're trying to avoid.

Because if you can go get a 6.5% interest and they want to charge you 8 or 8.5, does your deal still cash flow? Can you still make money with non-recourse?

It probably doesn't. if you're so rate sensitive because your deal doesn't cash flow unless it has a certain rate. Two things. One, you've actually not stress test your deal well enough to know exactly what's going to happen.

Two, you're in the wrong space. You should be going directly to a local bank or credit union to where you can get the best rate with the very few fees involved in the deal. but those deals you one personally guarantee and two go on your personal credit those are going to be tough to scale because you're going to max out your DTI so when you're doing this don't be searching just for RAID and non-recourse make sure you're looking at the whole picture and you're stress testing your deal section six what to ask before you sign your checklist.

Is this loan a recourse or non-recourse loan? Get the answer in writing. Number two, does a loan report to my personal credit? Some DSCR loans report to personal bureaus.

Some don't. Ask the question. Get it in writing. Number three, if I default, What can you come after me beyond the property?

Make sure you get it in writing. Or if your broker lender doesn't have that answer, have them get it from their underwriting team. But you ultimately have to ask these questions to know exactly what you're up against. So number one, is this loan a recourse or non-recourse loan?

Number two, does the loan report to my personal credit? And number three, if I default, what can you come after beyond the property? Make sure you're asking at least those three questions, guys, to protect yourself. And lastly, guys, the LLC is not a shield from your lender.

It's a shield from everyone else. Know what you're signing before you sign it. Now that you know what the personal guarantee means, the next thing investors get wrong is the DSCR ratio itself. And it costs them the deal at the 11th hour.

Watch this video next, guys.