An Exploration of Loan Features

The line of credit feature is a powerful tool for lenders.  A credit line loan enables borrowers to receive any amount up to the credit limit but does not obligate them to take more than they need.  Borrowers are thus provided with substantial flexibility, while at the same time lenders are generally in a more secure position by having a lower LTV during most if not the entire term of the loan.  Look for this feature in the Special Loan Features section of the Lighting Docs interview.  This article will briefly explore the highlights of the line of credit option, its features, and some of the precautions you users should be aware of before and during a credit line loan.

Revolving vs. Non-Revolving

The two main types of credit lines are revolving and non-revolving.  A revolving credit line means that a borrower who takes an advance but then pays down the advance either partly or in full can re-borrow that same money in a new advance up to the credit limit.  A non-revolving credit line, on the other hand, does not allow for the re-borrowing of funds – advances may be made up to the credit limit, but once made, even if repaid, cannot be re-advanced. 

Incompatible with Reserves and Holdbacks

Because the line of credit option provides such a broad and flexible loan structure, its terms are incompatible with the more specific reserves and holdbacks that can be used in other loans.  This includes construction reserves and debt service/interest reserves. 

Customizable Parameters

You can enter certain parameters for each advance of the credit line in the Lightning Docs interview.  These are:

• The minimum amount of any single advance
• The maximum number of advances in a particular month
• The fee charged for each advance

Lender’s Discretion in Making Advances

Certain state laws distinguish between line of credit advances, which are made at the lender’s option or discretion, as opposed to advances, which are mandatory.  These distinctions are related to how these states recognize the priority of the mortgage with respect to each advance.  Some allow for the same priority as the mortgage regardless of when the advances are made, and some only give equal priority to the advances if the advances are mandatory by the lender.  To be sure, even advances that are described as “mandatory” do not mean that the lender has no say whatsoever.  Mandatory advances may still be conditioned upon the borrower meeting certain obligations and milestones or otherwise not being in default.  The main difference with a mandatory advance is that if the borrower satisfies the conditions, then the lender must make the advance without further discretion.

Because of these certain state distinctions, we have created three different choices for loan document language that you can pick from in a dropdown menu:  Mandatory, Optional, or Standard.  This all concerns the state where the property is located, not the governing law state.  In the states where the distinction doesn’t matter, you can only pick from the Standard or Optional versions.  In a state where the distinction does matter, you can also choose the Mandatory version, which is highly recommended here.

The states that maintain a distinction between Mandatory and Option advances are:  Idaho, Illinois, Massachusetts, Minnesota, Nebraska, New Jersey, Ohio, Oklahoma, Oregon, Pennsylvania, Rhode Island, Tennessee, Utah, Vermont, West Virginia, Wisconsin, Wyoming, and Washington D.C.  If a loan is secured by at least one property in one of these states you will have all three versions to choose from, but the Mandatory version is highly recommended. 

As you may have guessed, the mandatory version produces language in the loan documents requiring the lender to advance after the borrower has met the conditions.  While there still remains some flexibility for the lender to determine whether the conditions were met, we suggest that you exercise caution in using this discretion as any abuse of this discretion will be noticed by a reviewing court, and this could lead to loss of priority of the mortgage as to one or more of the advances.

The Standard version produces language that provides a little more flexibility for the lender in determining whether the conditions to an advance have been met. However, once these conditions are met, the advance must still be made.

The Optional version produces language with the most flexibility for the lender. The lender has absolute discretion in making an advance. The conditions the borrower must satisfy in order to get an advance are still present in this version, but even if the conditions are met, the lender may ask for additional conditions to be satisfied or exercise complete discretion in approving any advance. 

Caution with Title

No matter the version selected or the state where the property is located, it is always a good idea to get a title rundown before each and every advance.  Even in states where the mandatory/optional difference is irrelevant, many of these states allow a senior lien to lose priority for advances made after the lender has been made aware of a junior lien.  Sometimes, this means awareness only by a recorded document; sometimes, this is notice by sending a letter to the higher-priority lender.  We always recommend caution and due diligence before making any advance.  If the borrower is using the money to pay contractors, we further recommend obtaining paid receipts before making the next advance to ensure those contractors will not be recording their own lien for unpaid work.

Concluding Thoughts

A line of credit loan is a fantastic option for some lenders and opens up a new avenue of opportunity. The risks associated with priority regarding future advances can be mitigated by choosing the appropriate language version and routinely obtaining title rundowns. If you should have any questions about this new feature or how to use it, please contact me at m.gunter@lightningdocs.com.