The Business Man's Lawyer

Unjust Enrichment Claims: “Plan B” for Unperfected Mechanics Lien Claims

2010-07-27T03:47:00Z

I work with a number of contractors in my practice, especially in the area of filing and foreclosing mechanics lien claims.

Mechanics lien laws were created in order to ensure that laborers and materialmen were paid for the improvements made by them to real property. In Minnesota, Minnesota Statutes Chapter 514 sets forth the situations when mechanics lien rights arise, as well as the requirements to perfect such a lien. Minnesota courts have held time and again that, once the technical requirements for perfecting the lien have been met, public policy strongly favors the payment of the lien claimant.

In practice, two elements in the perfection process typically trip up potential lien claimants: (1) the pre-lien notice requirement ; and (2) filing of the mechanics lien statement within 120 days of the last day of work. Contractors who lose their mechanics lien rights (as the law requires strict adherence to the perfection requirements in order to maintain the mechanics lien) are not necessarily out of luck; they should instead consider pursuing the defaulting property owner under a claim called “unjust enrichment”.

In order to establish a claim for unjust enrichment, the plaintiff must show that the defendant knowingly received something of value to which he was not entitled, and that the circumstances are such that it would be unjust for the defendant to retain the benefit. Acton Constr. Co. v. State, 383 N.W.2d 416, 417 (Minn. App. 1986) (the elements of a quasi contract are: (1) a benefit is conferred; (2) the defendant appreciates and knowingly accepts the benefit; and (3) the defendant's retention of the benefit under the circumstances would be inequitable.).

An action for unjust enrichment does not exist simply because one party benefits from the efforts of others; instead, it must be shown that the plaintiff was unjustly enriched in the sense that the term ‘unjustly' could mean illegally, unlawfully (e.g., fraudulent) or even morally wrongfully enriched. First Nat'l Bank of St. Paul v. Ramier, 311 N.W.2d 502, 504 (Minn. 1981).

A contractor pursuing an unjust enrichment claim should also record a notice of lis pendens against the property in question, which gives notice to the world of the pending litigation regarding that property. Recording this notice gives the contractor the equivalent of the mechanics lien in that an encumbrance is placed against the property which will prevent any closing and could ultimately mean an expeditious settlement of the claim.

An unjust enrichment claim is not a perfect substitute for a mechanics lien claim; for example, a foreclosing mechanics lien claimant can recover court costs and attorney fees whereas an unjust enrichment claimant cannot. Still, for the right claim, pursuing a defaulting owner under a theory of unjust enrichment beats writing off the debt.

Website Updates July 18, 2010

2010-07-19T01:46:00Z

I play my own webmaster on this site and I FINALLY got around to making some much needed updates to the rest of my site. You'll find new radio show clips on the Media page, and I've now got my published articles current on the Articles page.

The Basics of Premium Financing

2010-07-12T03:38:00Z

A few months back I had the privilege of sitting down to breakfast with my good friend (and member of my BNI “extended family), Jim Bear . Jim is a financial advisor with J. Alan Financial in Maple Grove and we had an interesting discussion about premium financing.

What is premium financing? Simply put, premium financing is a means of financing the premiums to be paid on life insurance policies, thus obviating the need for large outlays of cash or liquidation of assets to pay premiums on life insurance policies.

I deal with a number of instances in my practice where life insurance is an essential planning tool, everything from estate planning to funding buy-sell agreements or simply insuring the lives of key people in a business. Too often, however, the cost of such insurance plays too much of a factor in whether the client(s) heed my advice to purchase insurance. Premium financing can help overcome this obstacle.

Here’s how it works: the borrower applies for a life insurance policy and indicates that the premium will be financed. If the insurer will accept payment of the policy premium via financing, the borrower then applies for the loan. Upon approval of the loan, the borrower will make a down payment and the loan covers the balance of the premiums due under the policy.

Loans, however, typically require the pledge of some sort of collateral, and loans to finance life insurance premiums are no different. Typically, the policy’s cash surrender value and other assets (marketable securities, letter of credit, etc.) are pledge as security for the loan. While the loan can be a fixed term, the more common structure is to have the loan be repaid out of the death benefits from the policy, making it essential that the amount of such death benefits are sufficient enough to repay the loan and provide sufficient income for the beneficiaries’ needs.

Premium financing is not appropriate in every instance where life insurance is needed, and there are certainly risks involved, just like any other loan. Careful consultation with your financial advisor is a must. Nonetheless, where large amounts of insurance are needed and availability of cash to pay the necessary premiums is an issue, premium financing should be considered.

Storm Damage, and the Pitfalls of Hiring an Unlicensed Contractor

2010-07-12T03:07:00Z

We are in the midst of severe weather season here in Minnesota. In the past month, my own home narrowly missed out on damaging wind and hail not once, but twice.

Had I not been so fortunate, repairing my storm damage would have been a hassle, but not as stressful as it could be. Why? Because I’ve been through it before and, given that I live in a part of the Twin Cities that is notorious for severe weather, I keep my contractor on speed dial.

Dealing with your insurance company on a storm damage claim can be an extremely stressful process. We have a running joke in the office that an insurance adjuster would be more properly called an “injuster” because of the injustice wrought by many adjusters in denying even the most straightforward of claims (actually, the “injuster” phrase was coined by a client of our firm who simply misspoke when he meant to say “adjuster”; we all assumed that it was a Freudian slip).

Dealing with your insurance company requires an experienced, knowledgeable storm damage repair contractor. Unfortunately too many homeowners go with an unlicensed contractor hoping to save some money (and usually because they have been promised payment of their deductible). The result? These homeowners typically end up in my office, seeking legal redress for substandard work or, even worse, a company absconding with the insurance proceeds without performing the contracted-for work.

A recent StarTribune story featured Charlie Durenberger, the chief enforcer of Minnesota’s contractor licensees at the Minnesota Department of Commerce. You can read the article here; suffice it to say, Mr. Durenberger has seen his share of contractor complaints, and he talks briefly about the reasoning behind using unlicensed contractors and why such a decision is a mistake.

If you experience storm damage this summer and are in the process of hiring a contractor to do the repairs, here are just a few legal tips as to why it is important to hire a licensed contractor:

1. Only a licensed contractor can obtain proper permits from your city. Most city codes provide that storm damage repair work (such as siding, roofing and window replacements), like many exterior home improvement projects (decks, additions, and the like) requires a permit be obtained from the city. No permit means that the work has been performed in violation of city codes and could subject the homeowner to fines and other penalties. Note: some unlicensed contractors will encourage the homeowner to obtain the permits (which is the only other alternative to the contractor pulling them). If this is suggested, you should consider yourself warned that you are dealing with someone without a license.

2. Licensed contractors are insured. The Minnesota Department of Labor and Industry – the state agency charged with overseeing contractors – require its licensees to carry a bevy of insurance coverages – workers compensation, general liability and the like. This insurance covers injuries to workers as well as damage to your home. In the event of such an occurrence, the insurance takes care of any claims. An unlicensed contractor likely will not carry such insurance and, as a result, you as a homeowner might find yourself the target of lawsuits and/or claims against your homeowners policy for workplace injuries. Worse yet, in regards to shoddy work, you could find yourself in a position of having a great claim against the company who performed the work but no means of recovering from them. That is what we attorneys call chasing a “hollow judgment.”

3. Minnesota’s Contractor Recovery Fund only pertains to LICENSED contractors. The Department of Labor and Industry’s Contractor Recovery Fund compensates owners or lessees of residential property in Minnesota who have suffered an actual and direct out-of-pocket loss due to a licensed contractor's fraudulent, deceptive or dishonest practices, conversion of funds or failure of performance. The Fund is funded through fees paid by licensed contractors and there is a maximum amount of $75,000 allowed to be paid out relative to any single contractor. Obviously, a homeowner with such a claim against an unlicensed contractor will not be able to avail themselves of the Fund.

In short, trying to save money by using an unlicensed contractor to repair storm damage on your home often times leads to a more expensive problem at a later date. Homeowners who cut corners in this manner typically find themselves the victims of poor quality work and/or other scams. Unfortunately, by the time these homeowners end up in my office, it is too late for me to do anything to help them. So let me give you the advice that I wish that I could have given them: HIRE A LICENSED CONTRACTOR TO DO ANY WORK ON YOUR HOME.

The Making Home Affordable Program is a Joke: A Personal Testimonial

2010-06-28T03:40:00Z

I’ve written before about the Obama Administration’s “Making Home Affordable” program and what I saw as its inherent flaws. What I did not know at the time the program was introduced, however, was how much frustration would be caused to homeowners seeking a modification by the apparent endless layers of bureaucracy and red tape that comprises the process.

In a nutshell, the program is supposed to work like this: if you qualify for the program, your lender was to notify you. You then submit a package of information and ultimately you are approved for a “trial modification” where your payment is adjusted (i.e., reduced). Make the trial modification payment for three months and, theoretically, you qualify for a permanent modification.

Simple enough, right? Not where the Federal government is involved.

In the past week, I was retained by a new client to help with a short sale after months of battling with their lender to get even a trial modification approved. Multiple requests for the same documents which had already been provided ultimately led my client to give up and sell the home. Additionally, I had another client contact me wanting to pursue legal action against his lender for giving him a similar runaround. Finally, I chased one lender around for another client (which I agreed to do pro bono because of a longstanding friendship, lest I be accused of profiting off of the modification process, and because I thought my help would consist of a single phone call to straighten things out on their file).

With regard to the last case, my clients were granted a trial modification late last year. In theory, they should have been done with their trial period in April and should have received word on their permanent modification. Instead, it is almost July and the best that their lender can do is to tell them when they call that they’re approved but, for some reason, they cannot seem to send out a written confirmation of the approval and inform my clients of what their new mortgage payment will be.

In an effort to break the logjam, I agreed to place a call to the lender (who happens to be one of those "too big to fail" lenders who begged Congress for a bailout last year) to find out what was going on. Here’s a timeline of events since I got involved two weeks ago:

Attempt #1: Lender could not talk to me yet since the authorization form (signed by my clients granting the lender permission to talk to me) was only received that day; I was told to call back after 48 hours. Surprisingly, the day after my call, my clients received a call saying that their matter had been forwarded on for final review, which we all naively assumed meant that my one call had spurred the lender into action (silly us for thinking that).
Attempt #2: It took the representative at least ten minutes to confirm that I had an authorization on file; thereafter, I was told that the reason that my clients had not yet received written notification of their approval for permanent modification was due to a computer glitch which they assured me had been fixed as I was on the phone with them (what a coincidence, right?) At the end of the call, I was told that the written notification was being sent out immediately.
Attempt #3: A full three days after the alleged written notification was sent, my clients still had not received any word and asked if I would call again. This time, after being on hold for twenty minutes, I was told that my authorization – a form that I have used for years and which has been accepted by every lender imaginable, including this particular lender on other matters – was not in the proper form. The problem? My contact information was on a fax cover sheet and not on the actual authorization. At this point, I roughed them up a bit. I asked them why it was that the only people who seem to get a permanent modification under the MHA program are those who contact their local news media with their saga. I further opined that the seemingly endless excuses given by the lender as to why the information could not be provided to me were an embarrassment to their company. In the end, however, I was told to resubmit my authorization with the contact information on the same page and call back in 48 hours. Funny how we’ve come full circle in just three phone calls.

The only thing I can surmise from the runaround given to homeowners by their lenders under the MHA program is, not surprisingly, that the lenders do not want to modify any mortgages, that they would prefer a short sale or foreclosure where they will be paid as much as possible sooner rather than later. To that end, it is my further conclusion that the endless delays are all part of the plan to make these modifications and the program promoting them fail miserably.

Note that I am not advocating some sort of further governmental action to force these lenders to grant these modifications. I think that the Federal government is telling enough private businesses what to do without forcing lenders to modify home loans. My point in writing this firsthand account of how this program works – or should I say, does not work – is to point out that the Making Home Affordable program has nothing to do with providing actual assistance to homeowners and everything to do with making elected officials appear as if they’re doing something to deal with the problem.

Foreclosure Redemption in Minnesota: How to Redeem by Buying a Judgment Lien

2010-06-14T00:25:45Z

Real estate investors in today’s market are commonly involved in purchasing properties which are in foreclosure. However, with short sales having a low success rate, most Minnesota investors look for ways to get in line behind the owner and other junior creditors to exercise post-sale redemption rights.

Minnesota has a post-sale redemption period that works like this: with some narrow exceptions, the homeowner has six (6) months after the sheriff’s sale to redeem the property by paying off the foreclosing lender. If the homeowner does not exercise his or her redemption rights, each junior creditor, in order of priority, has a seven day period to redeem the property (but they have to file a notice of intent to redeem not later than seven (7) days prior to the expiration of the owner’s redemption period). If a junior creditor fails to exercise its redemption rights, that junior creditor’s lien is extinguished from the property. If a junior creditor does so redeem, any other junior creditors still have the right to redeem by paying the foreclosing lender’s balance (plus costs) as well as any amounts owed to the redeeming creditor.

For investors, a property that is in foreclosure may represent a good investment if the investor can purchase the property free and clear of some of the junior liens. Hence, a very common approach is for the investor to find a property where there is a judgment lien placed against it, purchase the judgment lien for a fraction of the amount of the judgment, wait for other junior creditors whose liens are senior to the judgment lien not to redeem, then redeem and own a property with instant equity.

Finding the property which is subject to such a judgment and making a deal with the judgment creditor to purchase the judgment are the easy parts of the process. The tricky part comes when the investor (as assignee of the judgment) seeks to exercise its redemption rights.

Minnesota law provides that a judgment, once docketed, becomes a lien against any property located within the county where the judgment was docketed; no further filing on the part of the judgment creditor is required.

Minnesota law also provides, however, that if a junior creditor wishes to redeem from a foreclosure sale, that creditor must record a notice of intent to redeem and records “all documents necessary to create the creditor’s lien and to evidence the creditor’s ownership of the lien, and delivers to the sheriff copies of all of these documents that show when and where the documents were recorded.” If a creditor fails to do this, then that creditor is not entitled to redeem.

What happens, then, with a judgment creditor, where the lien automatically attaches by law without any recording requirement? The Minnesota Court of Appeals, in a 2008 Minnesota Court of Appeals case entitled Northern Realty Ventures vs. Minnesota Housing Finance Agency, held that regardless of the fact that the judgment lien attaches automatically to property within the county of docketing, the judgment creditor must record a certified copy of the notice of entry of judgment issued by the court along with its notice of intent to redeem during the time prescribed for doing so by statute. For a purchaser of a judgment, the notice of assignment and the notice of entry must be recorded.

For Minnesota real estate investors seeking to redeem from a foreclosure as the assignee of a judgment creditor, take heed of the Northern Realty Ventures case. Plan accordingly so that you can execute the purchase documents for the judgment, file the assignment of judgment with the court of record, obtain certified copies of both the notice of entry and the notice of assignment (and keep in mind that court schedules are tight these days so the likelihood of immediate filing and delivery of a certified copy is not guaranteed) and get them recorded in the appropriate recording office (county recorder for abstract property and registrar of titles for Torrens property) along with your notice of intent to redeem. Otherwise, all of your efforts in locating the right property to redeem will be for naught.

What Caused the Housing Boom and Bust? A Timeline of Events

2010-06-01T03:23:00Z

With the end of the latest version of the homebuyer tax credits and the rise in interest rates (stemming from the Federal Reserve’s cessation of purchasing mortgaged-backed securities), many in the real estate industry are in wait-and-see mode when it comes to the future health of the U.S. housing market. All are hoping that the decline in housing values has reached its end and that a “double dip” in values (meaning that values would again decline after a slight increase over the past year) does not occur.

Regardless of the immediate results, eventually the housing market will be on the rise again. If we want to avoid a downturn similar to what started in late 2006, it is necessary to examine the root causes of the crash in order to avoid repeating those same mistakes again.

To that end, I highly recommend The Housing Boom and Bust by Dr. Thomas Sowell . I’ve long been an admirer of Dr. Thomas Sowell, an economist and senior fellow of the Hoover Institution at Stanford University and one of this country’s best free market thinkers.

A politically popular theory says that “greed” caused the boom and bust in the housing market. To exemplify this “greed”, advocates of this theory point to the reckless lowering of lending standards by U.S. banks and mortgage brokers and the rampant speculation in the housing market. Dr. Sowell carefully points out that these factors were symptoms of the disease.

In truth, the very government that has been actively engaged in fixing the housing crisis was the most responsible party for creating the environment that led to the crisis. Moreover, the housing bubble and its subsequent bursting was set in motion at least thirty years prior to the crash with laws passed to encourage the growth of “affordable housing”.

Here’s a brief timeline of events leading to the boom and bust in the housing market:

Under the auspices of encouraging “affordable housing”, the Federal Government enacted the Community Reinvestment Act of 1977, which directed “each appropriate Federal financial supervisory agency to use its authority when examining financial institutions, to encourage such institutions to help meet the credit needs of the local communities in which the are chartered consistent with the safe and sound operation of such institutions.”
Starting in late 1989 with the George H.W. Bush administration, and continuing more aggressively with the Clinton administration, the U.S. Department of Justice (“DOJ”) began investigating financial institutions over alleged racial discrimination in mortgage lending practices.
In 1993, the U.S. Department of Housing and Urban Development (“HUD”) began commencing legal actions against some financial institutions who turned down a higher percentage of minority applicants than white applicants for mortgage loans. In addition, DOJ would use its power to block several bank mergers if either of the banks involved engaged in what DOJ believed were discriminatory lending practices. Community activist groups such as ACORN seized on this second course of action, pressuring banks to make riskier loans to quell potential objections to an intended merger.
With DOJ and community activist groups bearing down on them, lenders loosened their lending practices to approve more low-income borrowers.
At the same time, HUD imposed quotas upon Fannie Mae and Freddie Mac to purchase mortgages made to people in the “underserved population.”
In the late 1990s and early 2000s, the Federal Reserve System lowered its interest rates to historically low levels and kept them there for many years. These low rates, combined with the push on lenders from DOJ and HUD to approve more low-income borrowers, led to the creation of the mortgage products often highlighted as the root cause of the housing bubble; namely, the interest-only mortgages, the adjustable rate mortgages (ARMs) and the option-ARMs which allowed borrowers to skip a monthly payment if they so desired, along with other products classified under the “subprime” banner.
The three financial ratings agencies recognized by the Securities and Exchange Commission (“SEC”) – out of the hundreds of similar agencies which exist – Moody’s, Standard & Poor’s and Fitch, having little incentive to develop new and better ways to assess risk because of their government-granted monopoly, overvalued the securities backed by these riskier mortgage products.
When the Federal Reserve began to raise rates in 2006 to curb fears over inflation, it toppled the house of cards which our housing market had become. The higher rates choked off what had been a steady stream of new homebuyers, leaving those with the risky loans unable to pay back the mortgages they had received; banks then foreclosed and, not being in the business of owning real estate, sold these homes at greatly reduced rates. This drove prices even lower and forced other borrowers into default (since they could no longer refinance out of their less favorable mortgage loan nor could they find a willing buyer at a price necessary to satisfy all indebtedness against the home). And the race to the bottom was on.
With housing prices falling and defaults rising, the holders of these mortgages (Fannie Mae and Freddie Mac) as well as the holders of the securities backed by these mortgages (Bear Stearns and the like) tanked, triggering the economic recession and leading to the now infamous bailouts (TARP in 2008 and the stimulus bill in 2009).

What’s notable about this timeline is how small a role the usual suspects, i.e., “greedy Wall Street bankers”, “banks and their risky lending practices”, “speculators”, even more abstract villains such as “deregulation” and “the market”, were not at the forefront of causing this current crisis. Rather, a litany of government agencies – DOJ, HUD, the Federal Reserve, the SEC and government-backed private institutions such as Fannie Mae and Freddie Mac, all acting in furtherance of the Community Reinvestment Act of 1977 and the noble goal of creating more “affordable housing” (whatever that means) – set the events in motion that ultimately led to the crumbling of the U.S. housing market.

The most salient point of Dr. Sowell’s book is his analysis of the government attempts to revive the housing market. In fact, he writes, “the market has already responded quickly to the housing crisis, with a drastic reduction in interest-only loans, no-down-payment loans, and other such ‘creative’ financing.” Everything else – the homebuyer tax credits, the loan modification programs, TARP and stimulus bills – are simply more of the same: a government solution to a government-created problem, and likely will result in a similar set of unintended consequences as the last round of fixes.

So, you ask, what is the solution to this larger problem; i.e., the nonstop government intervention into the free market? You’ll have to read the book to find out.

Eminent Domain and the Problem With Short-Term Thinking

2010-05-28T02:15:00Z

Eminent domain refers to the power possessed by the state over all property within the state, specifically its power to appropriate property for a public use. The proceeding by which a government unit exercises its eminent domain power is called a condemnation proceeding.

Eminent domain powers are regularly used by governments in order to create and expand rights-of-way. In recent decades, however, governments have sought to expand what constitutes a “public use” by using eminent domain for urban renewal and other seemingly private development projects. To do this, the government claims that an area is “blighted” in order to qualify it for urban renewal redevelopment.

Recently, two highly-publicized condemnation proceedings from the past, which occurred more than forty years apart, have found their way back into the headlines and demonstrate the problems which arise when urban renewal/redevelopment projects are carried out in a “ready-fire-aim” fashion.

Here in Minnesota, the discovery of the first three floors of the Metropolitan Building in a Delano scrap yard has brought back memories of the infamous Gateway District urban renewal project of the early 1960s, where the City of Minneapolis essentially demolished a large chunk of its downtown area in order to rid itself of its seedier aspects. “The Met”, as it was called, was the focus of the earliest of historic preservation efforts in Minnesota but, unfortunately, the Minnesota Supreme Court ruled in 1960 that the City of Minneapolis could take the Met down with everything else in the Gateway. Nearly five decades later, some sites still sit empty and a movement is on to recover the Metropolitan’s remnants for an as-yet determined use.

Meanwhile, an eminent domain case which took on national significance after a highly-criticized U.S. Supreme Court case has found its way back into the headlines. The case of Kelo v. City of New London involved the City of New London, Connecticut attempting to take private property, including the home of Suzette Kelo, in order to redevelop the area into a new corporate facility for Pfizer, Inc. Five years later, Pfizer has pulled out of its expansion plans and the property taken by New London sits vacant with no current prospects for a replacement project.

The 1960 Minnesota Supreme Court case focused on whether the City of Minneapolis could use its takings power under the Municipal Housing and Redevelopment Act to redevelop property other than housing, whereas the Kelo case focused on whether taking property for economic development constituted a “public use.” In both cases, the courts answered yes, the government taking proceeded and the buildings came down.

The cases involving the Met and the Kelo property share something else in common as well. Each case prompted a societal outcry leading to changes being made to prevent these situations from happening again. The Met’s fate prompted Minnesota’s historical preservation movement, and today we have non-profit organizations such as the Preservation Alliance of Minnesota which seek to protect buildings and other structures with historical significance from the wrecking ball. Similarly, the Kelo decision spurred state legislatures to enact tighter restrictions on the use of eminent domain powers for economic development.

The larger question, however, in both instances, is why do we engage in such myopic thinking about urban planning in this country. For example, during the housing boom of the early 2000s, the City of Minneapolis saw an exponential increase in new condominium developments, many built from the ground up. Some of these developments were very near to the Gateway District. As I watched these buildings go up, I could not help but wonder whether any of the hotels which were demolished in the Gateway between the 1960s and the 1990s could have been repurposed into condominiums for less cost than and without the use of additional resources in the newly constructed buildings.

Case in point: the Nicollet Hotel. Once the crown jewel of Minneapolis hotels, the Nicollet ultimately fell into disrepair and met with the wrecking ball in 1991. Here’s a picture of the Nicollet in its heyday:

And here’s a picture of the site today:

Yep, that’s right folks; nearly twenty years after its demolition, the Nicollet Hotel site remains a parking lot while condominiums have sprouted up all around it. Was that a wise use of resources?

Today, thanks in large part to the efforts of the historic preservation movement, we’re seeing several downtown buildings repurposed into hotels (such as the Foshay, which is now the “W”). However, we’ve simply shifted our ire from buildings of the first half of the twentieth century to those of the second half, and the result has been the loss of the original Guthrie Theatre , the Minneapolis Public Library and a structure that Minnesota pioneered: the enclosed mall (Apache Plaza has already been replaced with a lifestyle center, and Brookdale certainly could meet a similar fate).

“Demolish and replace” as an urban planning philosophy often produces results akin to bad plastic surgery, with eminent domain serving as the scalpel. If instances such as the Metropolitan’s demolition (which is now seen, as many at the time predicted, to be a colossal mistake) and the Kelo case teach us anything, it is that governments would be wise to think long and hard before pulling the trigger on exercising its eminent domain powers. Otherwise, we lose a part of our history and some of our liberties as well.

Minnesota's New Angel Tax Credit

2010-05-23T02:27:00Z

The State of Minnesota has long been criticized by those in the business development field for its inability to complete with surrounding states with economic incentives for businesses to locate or expand there, as well as incentives and financial incentives to launch new ventures. Now comes the new "Angel Tax Credit." You can read my latest article about the tax credit here .

The preliminary consensus is that, while better than nothing, Minnesota needs more than just the tax credit (which is limited and subject to numerous qualfiications and restrictions) in order to cultivate a more hospitable environment to new business ventures. What is necessary to produce this new environment has become the topic of considerable discussion, and that, more than anything, might in time be the tax credit's biggest benefit.

Dealing With Neighbor Disputes

2010-05-15T17:32:00Z

Just this past week, MinnPost.com posted a story about the Twin Cities housing market. Apparently, 41% of Twin Cities homes are “underwater”, i.e., the homeowners owe more than what their homes are worth.

The fact that almost half of Twin Cities homeowners owe more than what they could get if they sold their home has profound implications for the local housing market; in essence, these homeowners are taken out of the pool of potential buyers for available inventory, as they would either have to come up with enough cash to pay the difference between the sale price and the mortgage balance at closing, or opt for a short sale (which would adversely affect their credit and prevent them from qualifying for a new mortgage for a new home, not to mention they would have no equity from the sale to use as the down payment for the new home).

What this means is that, unless they want to damage their credit, 41% of Twin Cities homeowners are stuck right where they are, and likely for the next few years.

A less obvious result from these statistics is that the possibility for disputes between neighbors is substantially greater as well, given that a homeowner who finds himself or herself at odds with their neighbor(s) does not have the option of moving out of the neighborhood as a means of resolving the situation.

Neighbor disputes have existed in this country as early as the 1880s with the Hatfields and McCoys, and come in many varieties. Boundary disputes, nuisance noise complaints and trespass claims are all common types of neighbor vs. neighbor feuds. On at least three occasions in nearly a decade of practicing law, I have consulted with people wanting to take legal action against their neighbor when the neighbor did something to his or her own property that my clients believed caused their own properties to flood.

There have been many well-publicized neighbor disputes in the last few decades. Guns N Roses lead singer Axl Rose even penned a song “Right Next Door to Hell” in the early 1990s about an ongoing feud with his neighbor. The most famous – or should I say, infamous – neighbor dispute in recent years has taken place in Utah. City councilman Mark Easton had a beautiful view of the East Mountains, until a new neighbor purchased the lot below his house and built a new home. The new home was 18 inches higher than the ordinances would allow, so Councilman Easton, mad about his lost view, went to the city to make sure they enforced the lower roof line ordinance. The new neighbor had to drop the roof line, at great expense.

Thereafter, Councilman Easton called the city, and informed them that his new neighbor had installed some vents on the side of his home. Easton didn’t like the look of these vents and asked the city to investigate.

When they went to his home to see the vent view, this is what they found:

Neighborhoods with homeowners associations are particularly susceptible to neighbor disputes, especially in the current market. With many associations being transitioned prematurely to (or should I say “dumped on”) the residents, resident-controlled association boards are left to oversee the enforcement of very complex covenants which oftentimes put some neighbors in the position of having the authority to tell others what they can do with their own properties. This can lead to very bad situations.

I know whereof I speak. Two years ago, I was installed as the President of my homeowners association after the developer went under and handed control over about five years earlier than expected. Our neighborhood, a master planned community designed to attract young professionals and executives and their families, has, in addition to common amenities such as a community center, parks and a swimming pool, an extensive set of rules and regulations about what you can and cannot do with your property. Among these rules and regulations are architectural and landscape guidelines and the provision for a committee (known as the Architectural Review Committee, or “ARC” for short) charged with overseeing compliance with the guidelines.

In the year preceding my election as President, the national builder in the neighborhood saw the market getting worse before it would get better and deeply discounted its remaining inventory. The result? Some buyers who did not fit the original target market of the neighborhood were attracted to cheap houses and access to the pool and did not pay much attention to the big binder of rules which they were handed at their closing.

I live next to one such example. When I first stopped by my new neighbor’s house to introduce myself and give him a neighborhood directory on a cold snowy January morning, his first question to me was “where do I get my pool key?” I had to explain to him that the pool was an outdoor pool and was closed for at least the next four months. I should have realized then that I was in for an interesting time living next to this individual.

Once the residents took over the association and I started my term as President, my wife also became involved as part of ARC. When the snow melted in the spring, one of the first ARC meetings involved reviewing a plan submitted by our new neighbor for landscaping and a deck. Eventually the plan was approved with some revisions, but not after my neighbor’s contractor called my wife one evening (apparently given my wife’s number out of the directory) and castigated her about ARC and the association rules.

The construction process was another story. After fielding complaints from residents about the mess left in the street by his contractor, I had no other choice but to contact the City, who in turn called the sheriff. Needless to say, my neighbor was none too happy about this and somehow in his warped mind blamed my wife for the hassle.

Next came the inspection of the deck as requested by the ARC chairman. That’s when all hell broke loose. My wife was asked to be a part of the inspection committee (in hindsight, I wish I would have told the ARC chairman that this was about as stupid an idea as he had ever had) and by the end of the day, my neighbor stood on his front porch and yelled at her. The next night, the association Board voted unanimously to send a letter to the neighbor explaining that he could not treat volunteers in that manner and that our neighborhood was special because of all the rules and regulations (which he apparently had not read).

Long story short: one Board member (who was also the ARC chairman) decided to play out his Jimmy Carter diplomatic mission fantasy and created even more tension between us and our neighbor. Later in the summer, my wife caught our neighbor trying to put a mouse which he had caught in his yard down the sump pump outlet in our yard. Eventually, in October of that year, fed up with the childish behavior as well as my fellow Board member’s attempts to prevent me from resolving the issue (it was suggested that I not speak with him directly for some time, which I did in order to try to diffuse the situation), I gave up and quit the Board.

The next spring, the problems continued. My neighbor’s inability to stay on his side of the property line when mowing from the previous summer continued. My wife politely asked him if he could stay on his side of the lot line, and his response was to call the sheriff and report that she had confronted him.

After that, I certainly wasn’t going to go speak to him (after all, I’ve got a law license to protect and I didn’t need false complaints being filed against me with the sheriff). I did, however, post a few observations about that day and subsequent quirky behavior on social media sites, which has amused my friends to no end. In fact, over the last year I’ve turned my goofball neighbor into quite the Facebook celebrity, delighting my friends with tales of his spraying weed killer all over himself in a windstorm, wiping his house down with a towel in a downpour and, in a most ironic moment, decorating his heavily discounted house with blue lights (blue light special; get it?).

Unfortunately, I am not the only person in our neighborhood with neighbor issues. Another of the discount buyers has so many cars and so much junk in the front yard that Fred Sanford would be proud, and any attempts to enforce rules against them leads to pushback and problems.

I can tell you from personal experience that neighbor disputes are not fun. At this point I probably have enough grounds for an injunction or restraining order against “my favorite neighbor” (as he’s known to my friends on Facebook), but I think the old adage that “tall fences make for good neighbors” will someday soon prove true in my case (of course, I’m at the mercy of the neighbors of mine who now sit on ARC to approve my desired fence). Until then, however, I’ll make lemons out of lemonade by informing my friends of the exploits of the character living next door to me.

What Every Business Owner Needs to Know Before Starting a Lawsuit

2010-05-09T15:06:00Z

Even though my practice focuses mainly on business and real estate transactions, I have been involved with enough litigation work – and I still have to manage my clients’ expectations on litigation matters handled my colleagues – to know how litigation works from start to finish. One of the most difficult issues to deal with during a lawsuit is not whether to file a certain motion or what questions should be asked during a deposition. Rather, the most difficult task in handling business or real estate litigation is to manage the client’s expectations. Why do I say this? Because common sense and the civil litigation process and rules do not always mesh. This is why lawyers work hard to resolve disputes without litigation, and even after the lawsuit is commenced, why lawyers work hard to reach a mutually acceptable resolution.

Here are just a few “rules of the road” for business owners who find themselves in a dispute and want to proceed with a lawsuit against the other party:

1. There Are No “Sure Things” in Litigation. I am often asked “what do you think my chances are if I sue?” My response is always the same: I tell the client that I don’t predict outcomes of court cases. Even the best case has at best a 50% chance of success. I tell my clients this not because I lack confidence in my colleagues who handle litigation matters at our firm; rather, it is the external factors beyond our control; i.e., what judge handles the case, the personalities of the parties, etc., that can have a profound effect on the outcome of the case.

Case in point: I recently was involved in a foreclosure action on behalf of a bank client. When we proceed with a court action to foreclose, the plaintiff can obtain a money judgment against the defendant in addition to foreclosing on the property. In this case, the summons and complaint was served on the defendant who failed to answer within the required twenty (20) day period. The Minnesota Rules of Civil Procedure specifies that when a defendant fails to answer the complaint, there is no need for the plaintiff to serve that defendant with notice of the motion for default judgment since the defendant has not become “party to the lawsuit”. Thus, rather than make our client incur needless expense by serving the defaulting defendant, we simply filed our motion papers and scheduled the hearing.

What happened at the hearing? The judge refused to grant our motion without us having served the defendant with notice of the hearing. While acknowledging that the Rules did not require such notice, the judge determined unilaterally that because the amount of the judgment would be large, we should “go the extra step.” The judge who heard the second default judgment motion was puzzled why we had a do-over on our motion. Had we drawn that judge on the first motion, we would have had no need for the second hearing. In other words, the first judge’s personal opinion affected the outcome of our motion. You can argue the merits of such a result, but it is these types of unforeseen occurrences that make the outcome of even the most straightforward of motions (what could be easier than a default judgment against a defendant who does not answer the complaint?) in essence, a “jump ball.”

2. There is No Such Thing in the U.S. as Debtor’s Prison. For a businessman or businesswoman, having a party fail to pay what is owed on an invoice or a contract is akin to them being a thief. Nonetheless, when a party is owed money by another party, typically there is no criminal remedy; rather, one must initiate a collection action and must abide by the many rules which restrict how one can collect a debt from another (such as the Fair Debt Collection Practices Act). Collections take time and cost money, which again is why we as attorneys want to find a way to reach a cost effective resolution for our client (which might include a settlement with installment payments or acceptance of a reduced amount lump sum) rather than pursue a money judgment which will never be collected upon (usually because the debtor files bankruptcy and discharges the obligation). For some clients, however, you’d think that they want to reinstate debtor’s prison and jail anyone who is found to owe them money. Part of my job is to explain to my clients that things just don’t work that way.

3. What You Think Is Important in the Case Might Not Be All That Important. Over the years, I have represented many very intelligent individuals in matters good and bad. After all, you have to be a smart person in order to build a successful business. Unfortunately, the same smarts that businesspeople have used to build a successful business does not necessarily translate into litigation smarts when a dispute arises. That’s why I and others went to law school: to be trained to handle legal matters such as lawsuits for our clients. Nonetheless, sometimes my client becomes fixated on a particular fact or action of the other party that he or she believes is dispositive to the success of the case. For example, many years ago, I was involved in a business litigation matter where the owner of the opposing party provided written discovery responses which my client said he knew to be false. This led to a belief that the other party had perjured himself, and my client wanted to use this – and the threat that the other party could be prosecuted for perjury – to obtain a favorable settlement. Not surprisingly, eventually my client came to understand that each party has its own recollection of the facts of a dispute and what may seem like perjury to one party is not necessarily so. In the end, the case settled in mediation and no one was prosecuted for perjury.

4. In Most Cases, You’re Going to Be Paying Your Attorney’s Bills. Perhaps the most often overlooked aspect of the American legal system, whether it be in the course of drafting a contract or deciding to move forward with litigation against a party, is the fact that unless a contractual provision or statute provides otherwise, each party pays its own attorney fees. This rule can make a big difference in how we as attorneys proceed in the initial stages of a dispute and oftentimes it is the impetus to settlement. If a party is not entitled to recover attorney fees in a lawsuit, I as the attorney cannot threaten the other party to seek such fees. This rule is why I advise my clients to include an attorney fees clause in their leases, purchase invoices, consulting agreements and other business contracts.

5. Fraud Cases Are Difficult to Prove, and Rarely Successful. Almost weekly, I am contacted about taking a fraud lawsuit. That’s why I asked a colleague of mine, Brian Niemczyk, to write an article for our Firm’s e-newsletter awhile back about the difficulty in prevailing on a fraud claim.

Brian laid out the elements of proving fraud in Minnesota as follows:

Under long-standing Minnesota law, a party asserting a fraud claim must prove the following elements: a) there was a representation; b) which was false; c) which had to do with a past or present fact; d) it was material; e) it was susceptible of knowledge; f) the representer knew it to be false, or asserted it as his own knowledge without knowing it to be true or false; g) the representer intended the other person to be induced to act, or justified in so acting; h) the aggrieved person's action was in reliance upon the representation; i) the aggrieved person must suffer damage; and j) the damage must be related to the representation. Davis v. Re-Trac Mfg., Corp., 276 Minn. 116, 117, 149 N.W.2d 37, 38-39 (Minn. 1967).

In short, fraud is often pled and rarely proved. Business owners who hang their hats on a claim of fraud against another party do so at their own peril.

What’s the point of these guidelines? What might seem to be the case to a business owner involved in a dispute is not necessarily the case. That is why a smart business owner should look to hire an equally smart business litigation attorney to help resolve the dispute in a cost-effective manner. If you’re a business owner reading this and don’t know where to find such an attorney, contact me, as I know a few people down the hall from me who fit that description!

Small Business Resource Expo - April 29, 2010

2010-05-01T00:51:00Z

Last night was the Small Business Resource Expo at the Ramada Mall of America - Airport in Bloomington, Minnesota (which I affectionately call "the hotel formerly known as the Thunderbird). The Expo, hosted by New Business Minnesota , featured several exhibitors who are cateriing to new and small businesses. Our Firm exhibited on behalf of our INCubation Center program for startup businesses.

Peter McClellan interviewed several attendees and exhibitors for his radio show , including yours truly. You can listen to the interviews here .

That Pesky Little Thing Called Usury

2010-05-01T00:43:00Z

With the credit markets still tight , I have seen a spike in private loan transactions. These deals, sometimes known as “hard money” loans, typically have a higher rate of interest than a conventional bank loan. If a borrower’s credit score is below average, or if the borrower’s income is not sufficient to obtain a conventional loan, private money may be the only option the borrower has to get their deal funded.

What is the first thing I do when a client calls me to assist with one of these transactions (whether it be on the borrower-side or the lender-side)? I calculate the annual rate of interest on the proposed loan. Why do I do this? Because I need to find out if the proposed interest rate is within Minnesota’s usury limits.

Usury refers to the charging of interest above the rate allowed by law. In common usage today, the word means the charging of unreasonable or relatively high rates of interest. Minnesota’s usury statutes are fairly straightforward. For loans under $100,000 , interest can be no higher than 8%; for business or agricultural loans under $100,000 , the maximum interest rate is 4 ½ % above the Federal Reserve’s discount rate, and for loans over $100,000, there is no limitation on the interest rate. If a usurious interest rate is charged in violation of Minnesota law, the borrower can bring an action against the lender to recover the interest paid and any mortgage which secures the note is void .

Why do the usury laws exist? Because many of the high-interest rate loans are being made to persons with a high risk of default. If we’ve learned anything from the current housing market, the last thing we as a society want to encourage is to give problem borrowers access to risky financing. So, we cap the interest rates below the $100,000 threshold.

Usury law can be a pesky thing in today’s real estate market, but it serves an important purpose and that’s why I use it as a starting point when evaluating a proposed private loan.

The Important Role Real Estate Investors Play in the Housing Market

2010-04-24T23:59:00Z

It is common knowledge that that Federal, State and local governments cannot make laws that discriminate against certain protected classes. A corollary of this is that governments can make laws that discriminate against non-protected classes. The income tax is a good example of this.

Another good example is the seemingly insurmountable legal barriers which real estate investors have to overcome in order to take advantage of the current housing market. With programs such as the homebuyer tax credit , the Making Home Affordable program and state and local efforts to forestall foreclosure , government at all levels is doing everything possible to encourage owner-occupied homeownership, even if that means keeping people in homes that they cannot afford.

On the other hand, it is equally apparent that these governments are doing everything possible to prevent real estate investors from purchasing much of the remaining housing inventory. At the same time that the above programs are being launched, we see Freddie Mac introducing “Short Payoff Fraud Guidelines” , Minnesota’s Department of Commerce strictly interpreting Minnesota Statutes Section 58.13 to prohibit any sort of post-sheriff’s sale mortgage being granted by a foreclosed owner to an investor who will redeem, and the City of Minneapolis imposing a $1,000.00 penalty against investors who buy a home and convert it to a rental, calling it a “conversion fee.” Also, the FHA has temporarily suspended its “seasoning rule” for sales to first time home buyers only; sales to investors are still subject to the 90 day hold period imposed by the rule.

The difference in how the law is treating homeowners and investors has significant long-term implications. At the same time these laws are being imposed, mortgage lenders continue to tighten lending standards. Many foreclosed homeowners were smart enough to save the money they were using to make their mortgage payments; thus they have cash but no credit. How are these homeowners going to re-enter the housing market? Certainly not through a conventional mortgage because of their damaged credit. Instead, these individuals’ best option is to purchase via a rent-to-own or contract for deed arrangement, where they can rebuild their credit and in time qualify for a conventional mortgage. Who, though, will be willing to be party to this type of transaction? Not a traditional lender, but rather private investors. In other words, facilitating the sale of residential real estate to investors is essential to replenishing the numbers of available and qualified homebuyers. Investors are not the problem, but rather the solution, to the long term health of the housing market.

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SMBMSP #25 - How the Real Estate Industry is Utilizing Social Media

2010-04-24T17:42:33Z

Yesterday I had the privilege of being on the panel for Social Media Breakfast - Twin Cities on the Topic of "How the Real Estate Industry is Utilizing Social Media." My co-panelists were Steve Ladin , Jason Sandquist , Teresa Boardman , Alex Stenback and Greg Sax .

In case you missed it, here's the video of the program:

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Ten Common Mistakes Self-Directed IRA Investors Make

2010-04-22T03:42:00Z

I work with a lot of entrepreneurs and real estate investors who are utilizing self-directed IRAs as a financing mechanism. Contrary to what some professional advisors believe, self-directed IRAs are legal under the Internal Revenue Code. That does not mean, however, that use of this financing mechanism is without risk.

My good friend, Todd Grill of Entrust Midwest – a company which serves as third party administrator of self-directed retirement accounts - is one of the foremost authorities on the do’s and don’ts of self-directed IRA investments. Todd has, over time, compiled a list of the ten common mistakes which self-directed IRA investors make, and he has been kind enough to allow me to share it here.

Here are the top ten common mistakes which self-directed IRA investors make:

1. The IRA Holder personally enters into an agreement on property they want to buy with their IRA. Many investors wait until they find a property in order to engage the services of an IRA custodian or administrator. Unfortunately, in doing so, they are not allowed under the prohibited transaction code to use personal funds for the benefit of the IRA. Let’s say you find a great piece of rental real estate you’d like to buy as an IRA investment. If you have not already established a self-directed IRA account you may lose out on the deal because you don’t have immediate access to your IRA funds and you cannot personally deposit your own earnest money to enter into a purchase agreement. Remember, the IRA needs to buy and fund the property, not you.

2. Self-directed IRA clients use personally owned assets for the benefit of the IRA. The use of a personally owned remodeling company or construction equipment to develop or improve IRA owned property would constitute a prohibited transaction. You the IRA holder cannot personally benefit from nor use personal assets to benefit the IRA investment. “Sweat Equity” constitutes a non-cash IRA contribution which is not allowed.

3. The attempt by the self-directed IRA holder to take a real estate commission on property purchased or sold by the IRA. If the IRA holder is a licensed real estate agent, they cannot receive a commission on the buying or selling of the IRA property, which would be considered personal compensation from the IRA investment. The commission can be used to reduce the sales price which is a benefit to the IRA investment.

4. The IRA holder believes that the transactions with a non-disqualified person cannot be a prohibited transaction. This is a common belief that simply is not true. You, the IRA holder, have a fiduciary responsibility to do what is in the exclusive interest of the IRA. This holds true also when investing with non-disqualified persons such as siblings. As an example, an IRA holder that lends money should not lend before the fair market rate because it is not in the best interest of the IRA.

5. The IRA holder assumes that no UBIT applies to passive investments into an operating business. Unrelated Business Taxable Income (UBIT) is generated when an IRA engages in “business activity”. Often times an IRA owner wants to passively invest in a business entity, but the business activity itself is not passive. Should the investment be made in a pass-through entity, such as an LLC, an IRA could generate UBIT on any profit derived by the business entity,. If generated, the IRA is responsible to pay the UBIT.

6. The IRA owner attempts to make a contribution to the IRA by depositing the funds directly in the IRA-owned LLC checking account. If you make an annual IRA contribution directly into the LLC rather than through the IRA custodian, you are personally transacting with your IRA LLC. That is considered a prohibited transaction.

7. The IRA holder makes personal guarantees. You, as the individual holding the IRA account are considered a “disqualified person” and cannot provide a personal guarantee of the IRA debt for an IRA investment or for an entity like an LLC that is owned by the IRA. Loans to an IRA-owned LLC or credit cards issued by the banks where the IRA LLC sets up an account for checkbook control of the IRA assets, are based on your personal credit and are not allowed. The execution of that personal guarantee constitutes an “extension of credit” and hence is an automatic prohibited transaction even if the guarantee is never exercised.

8. The self-directed IRA enters into a partnership in which it loans money to an investor, and instead of making the loan secured with interest and payments, it takes a share of the profits. Although this is allowable, the way that this investment is structured, it will generate UBIT. This wouldn’t be an issue if the IRA lent the money at fair market rate and created a payment schedule. But, in a profit-sharing investment, structured to look like a loan with generated equity returns not paying potential UBIT will be an issue.

9. Two self-directed non-disqualified IRA holders enter into a quid pro quo, partnership to utilize their own retirement funds. For example, each person has a $100,000 self-directed IRA. They each make a loan out of their respective IRA’s for $100,000 to invest in personal investments. These loans are “disguised” personal loans that are dependent on the other individual lending the money and could be construed as using one’s own retirement funds for personal benefit.

10. Self-directed IRA holder attempts to “disguise” active investments that can potentially generate UBIT. Pretending to actively rent the IRA real estate investment by placing periodic ads in the paper to try to prove that you are renting this investment as a passive investment with the intent to avoid paying UBIT while you are actually trying to quick turn the real estate investment, will not change the tax outcome. Although the intent was to rent the property long term rather than a short term investment, the case law says that the most dominant factor is the purpose at the time of the sale, not at the time of the initial purchase. So, you could have setup a perfectly passive non-business IRA investment, but because of circumstances that change the purpose or intent, such that at time of sale it was a business type of transaction, you will now potentially have to pay UBIT, which is not all that bad in and of itself. It just has to be factored into the investment equation.

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Legal Tips for Minnesota Real Estate Investors

2010-04-19T04:03:00Z

These days, I am working with a lot of new real estate investors who are looking to buy properties while the market is at or near the bottom. Real estate investment, however, is fraught with issues that, without sound legal advice, could spell big problems for the investor. Here’s some legal “food for thought” for prospective real estate investors.

1. Be Careful When Buying Redemption Rights. In Minnesota, when a property is sold at a sheriff’s foreclosure sale, the high bidder takes title subject to the owner’s right to redeem (other states provide for pre-sale redemption rights). Hence, one strategy for investors is to “buy” the owner’s redemption rights. Be careful, though, if there are junior mortgages, mechanics liens, judgment liens and the like. Minnesota law provides that if the owner redeems after a foreclosure, the owner then owns the property subject to any junior liens. So, if the owner has a first and second mortgage, an investor who redeems in the owner’s place will take subject to the second mortgage, which means that any strategy of shedding the second mortgage lien from the property will be frustrated.

2. Whenever Possible, Own Your Investment Property Through a Limited Liability Company. Single member limited liability companies are amazing things; you can limit your personal liability for obligations of the limited liability company (also called an “LLC”) but yet no separate tax return is required for the LLC. This is due to the fact that a single member LLC is, in the eyes of the IRS, a “disregarded entity”; simply put, the profits and losses of the LLC are reported in the owner’s individual income tax return. I tell prospective investors that purchasing their properties through LLCs is a “no-brainer.” At a minimum, investors should form at least one LLC to own their investment real estate. A stronger position from the standpoint of asset protection, though, is to own each investment property in a separate LLC; this structure compartmentalizes liability for a particular property within that single LLC without exposing the other properties/LLCs to such liability.

3. If You Are Going to Use IRA Funds to Invest, Consult Your Advisors. I’ve written before in this blog about self-directed IRAs and their usefulness in funding a new business. The most common use of this financing mechanism is actually investment real estate. That being said, there are a lot of rules that come with this financing strategy and consultation with your attorney, your CPA and your financial advisor is imperative. In particular, you need to review your proposed business operation with your attorney to ensure that you are not violating the self-dealing restrictions set forth in the IRS’s regulations for IRAs . I work with 1-2 investors per week right now using this strategy and very often I help my client rearrange his/her structure to avoid a self-dealing transaction.

4. Be Mindful of Local Rental Licensing Requirements and Fees. Most cities in Minnesota require a landlord to hold a rental license in order to legally collect rent, and the lack of a license can be a defense in an eviction action for nonpayment. If you’re going to rent your property as part of your real estate investment strategy, make sure that you contact the city where the property is located and obtain proper licenses. Some cities are tougher than others on landlords. For example, the City of Minneapolis recently enacted a “rental conversion fee” that charges a landlord a one-time fee of $1,000.00 upon the conversion of a single family home to rental real estate (in other words, the City of Minneapolis is trying to discourage investors from buying its available housing stock).

5. Don’t Count on a “Quick Flip”. Some investors I deal with do not intend on setting up a rental operation. Instead, these investors buy properties in need of some TLC, spend some money to fix these properties up and then quickly sell them to someone else, be they investors or home buyers. If this is your strategy, you need to be mindful of the FHA’s “seasoning rule” which requires the seller of real property being financed by an FHA-insured mortgage to have owned the property for at least 90 days. Therefore, if the end-buyer is seeking an FHA-insured mortgage (which constitutes a majority of real estate mortgages these days), the investor is going to have to hold the property a bit longer than if he/she was selling to a cash buyer. Note, though, that this requirement has been suspended temporarily for sales to first time home buyers.

The aforementioned legal issues can pose problems for an unsuspecting real estate investor, but working with a competent attorney can help minimize the investor’s expose to these and other legal issues.

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The Internet Does Not Make a Good Business Attorney

2010-04-19T03:46:12Z

Entrepreneurs are smart people. They create new and exciting business concepts and work tirelessly to bring these concepts to market and reap the rewards.

Sometimes, though, entrepreneurs are too smart, so smart that they become foolish. They become foolish when the eschew the advice of professional advisors under the guise of cost-savings, and no advisor is seen more often that not as a commodity more than the business attorney.

Why do many entrepreneurs see a business attorney as superfluous to their success? Well, it’s simple: attorneys cost a lot of money (they think) and all they do is replace some names in forms on their computer and charge me a lot of money for those forms. So, the entrepreneur asks, “why can’t I just go get the forms off the internet and use the money I would have paid an attorney for my business?”

Unfortunately, such an attitude is short-sighted and is a recipe for business failure. Failure to create a good team of advisors and instead taking the DIY (do it yourself) approach increases the business’ chance of failure exponentially. Here’s why:

1. Documents Downloaded From the Internet May Not Comply With Your State’s Law: every state has its own set of laws, and each state’s laws dictate differences in organizational documents, standard contracts, and the like. For example, the time required for notice of a shareholder’s meeting under California law might be different than the time required under Minnesota law. Use of documents acceptable in one state may not mean that those documents are acceptable in another, and if they are not, the business owner is going to have problems.

2. Some Documents Might Not Be Appropriate for Your Business: Many secretaries of state have a form of articles of incorporation (for a corporation) or articles of organization (for a limited liability company). These forms typically provide for the bare minimum to form the desired entity type; many state statutes (including Minnesota’s) have “opt-in” and “opt-out” provisions which must be addressed in the articles in order to avoid the default provision; an attorney takes these things into account when drafting your organizational documents; the internet likely does not.

3. Lack of Contextual Advice: Even if you’re successful in finding a set of appropriate documents, how will you know what they mean? It’s an attorney’s job to answer questions about certain terms and provisions of the organizational documents he or she drafts; maybe the internet has an answer or too (on, for instance, the Yahoo Answers page), but how do you know if it’s right and who do you hold responsible if the answer is wrong?

Do attorneys cost money? Yes, but we also provide value for that cost, and often times retention of an attorney up front can actually save a business owner money in the long run.

Estate Planning with Life Insurance Policies: Are Your Policies Worth Keeping?

2010-03-20T15:55:00Z

A common estate planning technique which attorneys use is the creation of an irrevocable life insurance trust, or “ILIT”. The purpose of an ILIT is to minimize the impact which life insurance proceeds can have in terms of estate tax. While most people understand that death benefits paid out from a life insurance policy to named beneficiaries are not subject to probate, these proceeds are included in a person’s taxable estate for estate tax calculation purposes. If, however, the policies are owned within an ILIT, which has name trust beneficiaries and an independent trustee charged with managing the trust, paying the policy premiums, and the like, upon the death of the grantor, these proceeds are excluded from the grantor’s taxable estate.

There is a catch, however, to this exclusion. If a grantor contributes existing policies to the ILIT, the IRS can “claw back” the proceeds into the grantor’s taxable estate for three years after the date of transfer, and I often joke with my estate planning clients that they have to make sure to survive for three years after we create the ILIT; otherwise, the client’s purpose in creating the ILIT will be frustrated.

A simple way to avoid this result is to place new policies at the time the ILIT is created, as the proceeds from new policies purchased within the ILIT are immediately excludable from taxable income.

Just recently I met a gentleman named Bob Cohen, a principal at Tamar Fink in Minneapolis. Bob calls himself an “insurance only” insurance agent and he explained to me how he offers a no-cost “insurance audit” for prospective clients. This audit involves Bob reviewing an existing insurance policy and determining whether the policy’s actual performance comports with the expected rates of return determined at the time of purchase of the policy. If the policy is underperforming – meaning that the policy premiums will not support the policy for the life of the policy – Bob is able to replace the underperforming policy with one that has a better rate of return.

My discussion with Bob prompted this question: if you are going to form an ILIT, given the three year clawback rules, and if you are going to transfer existing life insurance policies to the ILIT, shouldn’t you have an insurance agent “audit” these policies prior to transfer to determine if their actual vs. expected rates of return justify using these policies (in other words, are the policies’ performance sufficient enough to justify the risk of clawback), or should the policies be cancelled and replaced with new policies which would be immediately excluded? If you’re talking to an agent who is set up to perform such an audit and is offering to do so at no extra cost, it seems to me that the answer to this question is that an audit of these policies is a no-brainer.

Top Five Silliest Real Estate Laws: No. 1: Minnesota’s Torrens Law

2010-03-07T23:17:00Z

These past five weeks, I’ve written about several real estate laws – both Federal and Minnesota – that, in my opinion, do not make sense any longer. I’ve done this to show that good intentions sometimes produce unintended adverse results. More importantly, some laws are impeding the recovery of the real estate market.

Now, we close out this series of posts with a set of statutes that I think qualify as the most useless real estate law around: Minnesota’s Torrens system of land title registration.

Many people whom I talk to who are not from Minnesota – including several attorneys – are surprised to find out that Minnesota has two systems of land title registration: the abstract system, which most other states follow, and a separate system called the “Torrens” system. This second system, adopted in 1901 and named after Sir Richard Torrens who created a method of registering ships in 19th century Australia, requires interests in real property to be memorialized on a certificate of title, and interests not so memorialized are not valid.

The purpose of the Torrens system is to create conclusive evidence of interests in real property. Documents that are submitted for recording are reviewed by the county’s Examiner of Titles, and the Examiner’s office’s approval is required before the document can be recorded with the county’s Registrar of Titles (which, by the way, is an office separate from the County Recorder). The idea behind this system is to keep stray interest, fraudulent documents, etc. from entering the recording system and creating later title disputes.

However, as I’ve written in a prior post, the Torrens statutes have not brought an end to disputes and litigation; rather, the disputes over Torrens titles are just different in scope from title disputes over abstract property. Take the case of In Re Collier, 726 N.W 2d 799 (Minn. 2007), in which the Minnesota Supreme Court overturning a lower court decision involving a mortgage erroneously recorded in the abstract records rather than the Torrens records. Joshua Collier, upon discovering the error, purchased the property from the original owner and quickly registered his interest. The Minnesota Court of Appeals, citing the longstanding purpose of the Torrens system that one need look no further than the Certificate of Title to determine the interests registered on a particular parcel of property, held that the subsequent foreclosure of the mortgage was invalid as against a subsequent purchaser of the property and that Mr. Collier was a “bona fide purchaser”. The Supreme Court overturned, holding that a party who had actual knowledge of an interest, regardless of whether the certificate of title showed the interest or not, Collier’s actual knowledge of the mortgage made it impossible for him to be a bona fide purchaser.

At the end of the day, the Minnesota Supreme Court made the right decision, but in the process, it called into question the fundamental purpose of the Torrens system; that is, if the interest is not listed on the certificate of title, it is not valid. Collier’s significance is that it created an exception to that basic premise and in the process, equalized the Torrens and abstract systems.

A more recent Court of Appeals decision, Imperial Developers, Inc. v. Calhoun Development, LLC, et al, again demonstrated the absurdity of the Torrens system, when the Court held that to be valid, a mortgage must be recorded with the Registrar of Titles and memorialized on the Certificate of Title. In other words, if the Registrar of Titles errs in including a mortgage on the Certificate (which was the case in Imperial Developers), the holder of that mortgage interest was out of luck. It remains to be seen whether the Minnesota Supreme Court will again intervene and correct this decision.

In Re Collier and Imperial Developers are just two examples of court decisions which would not have existed if Minnesota had only the abstract system. These types of cases, along with the requirement that a “proceeding subsequent to registration” must be started after any foreclosure in order to obtain a new Certificate of Title for the new owner, start to make the Torrens system look like a “make work” program for real estate attorneys.

One final point about the Torrens system that favors its extinction: it is used in only three of Minnesota’s 67 counties. Hennepin (where Minneapolis is located), Ramsey (St. Paul) and St. Louis (Duluth) use the system with some frequency, but other counties do not, meaning that without a repeal of the Torrens system, Minnesota will always have two separate recording systems and, hence, more cases such as those mentioned above.

With Minnesota and its counties in a budget crunch, a repeal of the Torrens system could relieve some of the strain on the judicial system (by not having to deal with cases such as Collier) and loosen up county budgets for more important priorities (since the personnel that comprise the county Torrens offices would no longer be needed).

The Torrens system was enacted to bring clarity to real estate titles in Minnesota. Instead, it has traded one set of title disputes for another. For that reason and the others I’ve mentioned herein, the system has outlived its usefulness and lands at No. 1 on the list of the “Top Five Silliest Real Estate Laws.”

Now that we’ve come to the end of my “screeds”, if you’re a reader of this blog, what should you do with this information? Spread the word about these laws to others and contact your elected officials. As I’ve shown, some of these laws go beyond silliness and are adversely affecting our real estate market and its recovery. Governments at all levels are seeking solutions to the housing crisis and seem to believe that passing new laws – loan modification and short sale programs, tax credits and the like – are the answer, when in fact it could be the repeal of existing laws that are the key to recovery.