Hard money loans do not deserve the seedy, or even criminal, reputation they have gained in the popular imagination. Though not ideal for all situations, they can provide specific advantages and are certainly not inherently predatory.

There are a variety of common, if unexpected, situations that may require a business or individual to pursue timely financial liquidity. Hard money loans, like any other borrowing method, have pros and cons. The key is to be well-informed of all your options so that you can choose that which will best address your needs. Ted Przybylek (ranchoted.com), a San Diego area lender, has years of experience with hard money loans. In the video above he relates the experience of a friend who, in the midst of a transaction, was unable to get to clear his loan due to deposits that were deemed unacceptable. With only 14 days left to close the deal, Ted’s organization was able to intervene and provide a hard money loan. Though they can certainly be a life-saver, it is important to realize that this process, like any other, must be conducted properly to avoid serious consequences.

There is a persistent belief that hard money loans are necessarily sub-prime, which naturally elicits anxiety in potential borrowers. That assumption is meritless; rather, they are high collateral loans. This simply means the recipient must own sufficient real property to back the loan. Generally speaking, hard money loans can equal roughly 65% of available collateral. For example, a million dollar property could back a hard money loan of about 650 thousand dollars. This arrangement provides the lender with a high degree of protection, which in turn helps the borrower with correspondingly low interest rates and the possibility of refinance later in the life of the loan. Mr. Przybylek has arranged loans with interest rates as low as 8%.

The following are three situations where one might consider a hard money loan:

As an investor: Though flipping real estate can be extremely profitable, by its nature it opens an investor to the risk of many unexpected issues. These problems can be mitigated through bridge financing, which provides temporary capital while the investor’s funds are tied up elsewhere.

As a business owner: Business expenses such as primary loan payments, payroll, stocking, etc. can create a climate where income varies widely from month to month. A hard money loan can stabilize a business’ access to capital.

As a private borrower: Unfortunately, the need for an average borrower to pursue a hard money loan tends to stem from their being taken advantage of by another lender. Unscrupulous lenders may issue a predatory loan intending to seize the borrower’s assets and a hard money loan may allow the borrower to avoid this.

Hard loans may be the best remedy to a difficult situation. Before such a major step it is always advisable to ply one’s personal network for less financing options with lower stakes. It is always better to avoid such situations in the first place and when in doubt you should always seek legal counsel before signing a potential dangerous loan.

If you’re a Plaintiff in a civil matter, the ability to collect your judgment is probably the most important factor in deciding whether to invest in the litigation. There are steps that you can take to ensure that your stipulated judgments have a higher probability of surviving a bankruptcy by the Defendants.

11 U.S. Code § 523 outlines specific exemptions to bankruptcy dischargeability. In particular, § 523(a)(2)(A) precludes a debtor from discharging debts which are obtained by “false pretenses, a false representation or actual fraud.” § 523(a)(4) precludes dischargeability for “fraud or defalcation while acting in a fiduciary capacity, embezzlement, or larceny.” § 523(a)(6) precludes debts for willful and malicious injury by the debtor to another entity or to the property of another entity.” However, in order for debt described in § 523(a)(2), (4), and (6) to be precluded from a discharge, a creditor must first obtain a judgment from a bankruptcy court stating that the debt is nondischargeable.

In order to obtain this nondischargeability judgment, the creditor must first commence an adversary proceeding against the debtor in bankruptcy court. In practical terms, adversary proceedings function much like bankruptcy trials and often involve legal issues that have been previously litigated by the parties. Much like state court trials, adversary proceedings in bankruptcy court are often time-consuming and costly. In order to mitigate these factors, judgment creditors can take steps to apply collateral estoppel to avoid the pitfall of re-litigating matters already decided in prior legal proceedings.

In Grogan v. Garner, the United States Supreme Court stated that collateral estoppel applies in bankruptcy court dischargeability actions. [ref]Grogan v. Garner, 498 U.S. 279 (1991)[/ref] There are four general elements that must be satisfied to apply collateral estoppel: (1) the causes of action are the same; (2) the issue was actually litigated in the prior action; (3) the resolution of the issue was necessary to the prior judgment; and (4) the litigants are the same parties. Under Grogan, it would seem that if all of these elements are met, the bankruptcy court will apply collateral estoppel. However, in practice, it is not always this simple. Different bankruptcy courts have competing views as to when collateral estoppel applies in nodischargeability proceedings.

In particular, the second element above – whether the issue was actually litigated in the prior action, has caused bankruptcy courts to develop distinct approaches to applying collateral estoppel in § 523(a) adversary proceedings. Consent and default judgments form a particular point of divergence for bankruptcy courts in this regard. A consent judgment is essentially a judgment based on an agreement between the parties in a law suit to settle the matter, aimed at ending the litigation with a judgment that is enforceable. Different courts have distinct views as to whether consent and default judgments constitute “actual litigation”, and therefore, whether collateral estoppel may be applied. The differing approaches among various courts fall into three general categories.

The first approach holds that no preclusive effect is given to a consent or default judgment. Courts adhering to this view premise their approach on the fact that federal courts have exclusive jurisdiction to determine the dischargeability of claims arising under § 523(a)(2). Courts following this approach maintain that while a state court may determine the facts surrounding the existence of a debt, attempts to bind the bankruptcy court to that determination are void for lack of subject matter jurisdiction. Of the three general approaches, this is the narrowest view and the most uncommon viewpoint.

The second approach holds that preclusive effect may be given to a consent judgment if the parties intended for the judgment to be binding. Under this approach, a standard consent judgment by itself will not satisfy the requisite elements needed to establish collateral estoppel. In many cases, the element requiring final adjudication of factual issues will not be met without a more detailed consent judgment. However, courts adhering to this approach are more likely to apply collateral estoppel if the parties expressly state in the consent judgment that they intend to be bound by certain facts. Courts following this approach are more likely to bar re-litigating facts expressly outlined in the consent judgment.

The third approach gives preclusive effect to both consent and default judgments where the state court has made specific, factual findings on the identical dischargeability issue in question, regardless of whether the parties’ intended to be bound by the consent judgment. [ref]Dennis v. Dennis (In re Dennis), 25 F.3d 274, 278 (5th Cir. 1994)[/ref] Under this approach, courts apply collateral estoppel only as to “those elements of the claim that are identical to the elements required for discharge.” [ref]Grogan v. Garner, supra, 498 U.S. 279, 284 (1991)[/ref]

Courts following this approach may even apply collateral estoppel to state court default judgments if the state where the judgment was rendered gives preclusive effect to a default judgment. Although it is still an often contested matter, California gives preclusive effect to default judgment under In re Nourbakhsh, 67 F.3d 798 (9th Cir. 1995). Provided the elements of collateral estoppel are satisfied, courts following this approach give consent and default judgment preclusive effect in dischargeability proceedings under § 523(a).

Practical Points:

Attorneys can take steps when obtaining state court judgments, especially consent or default judgments, to allow their client an easier path to a nondischargeability determination in bankruptcy court. First, determine whether the judgment debtor is a likely bankruptcy candidate. If so, attorneys should get familiar with the bankruptcy rulings in the jurisdiction where a judgment debtor receives their judgment. In California, the Bankruptcy Court will look to state law where the action was filed to determine whether or not a default or consent judgment will have a collateral estoppel effect in the California Bankruptcy Court. Attorneys can look to the records and consult with other bankruptcy specialists familiar with that jurisdiction to determine the approach a particular judge is likely to take.

If the underlying state matter is in California, then a default judgment or consent judgment can have a collateral estoppel effect. If there is going to be a default judgment or a judgment after trial, request that the final order outline the elements of nondischargeability in the final order after the prove up or trial. If there are multiple causes of action, then it is particularly important that the order specify the damages for non-dischargeable cause of action

Also, when drafting a judgment order, attorneys should put in language as specific as possible outlining the facts which will allow the bankruptcy court to apply collateral estoppel. A little extra time and effort when obtaining a state court judgment can prove highly valuable if you suspect that a judgment debtor will likely attempt to discharge the judgment debt through bankruptcy.

Finally, with respect to stipulated judgments, attorneys need to be careful in drafting appropriate stipulations and judgments. It is important that the stipulation and judgment not only outline the cause of action believed to gives rise to nondischargeability and associated damages, they should also outline the activities that give rise to the nondischargeable judgment. For example, if you sue for breach of contract and fraud, it is not enough to say that the parties stipulate to judgment for fraud and accept damages of $100,000. The parties must stipulate to acts that were committed with the requisite intent, reliance, causality and damages and the stipulated facts must be included in the fraud judgment. Judge Margaret Mann published a decision outlining the Southern District’s reasoning on stipulated judgments. You can find her decision here.

If you have any questions about how your judgment, or one against you, stacks up against a bankruptcy discharge, give us a call. We would be happy to answer your questions.

One of the most prevalent misconceptions that people have about bankruptcy is that you cannot discharge tax debts under a Chapter 7 discharge. Chapter 7, the ‘liquidation’ bankruptcy, is the most common bankruptcy chapter and the one people most often assume when thinking of bankruptcy. You can, in fact, discharge income tax debts if they meet all of the criteria outlined below.

1. The tax debt is income-based. Income taxes are the only type of tax debt dischargeable under Chapter 7. In order for taxes to be dischargeable, the tax debt must be for federal or state income taxes or taxes on gross receipts.
2. The tax debt is at least three years old. To eliminate tax through Chapter 7, the tax debt must be from a tax that was due at least three years ago. This date includes all valid extensions. For instance, if taxes were disclosed in a 2015 tax return for which extensions to file the return expired on October 15, 2016, the due date test will be satisfied only if the bankruptcy petition is filed after October 15, 2019.
3. The tax return was filed at least 2 years ago. If you wish to discharge tax ability, you must have filed your return at least two years before filing your Chapter 7. In most courts, a late return (when the IRS filed a substitute return on your behalf after all of your extensions expired) does not “count” as a return and thus the tax debt is deemed to be nondischargeable. In some courts, however, you can discharge tax debt even if you file a late return, assuming you meet the other criteria outlined here. In general, San Diego bankruptcy tend to allow debtors to discharge tax returns filed after all extensions expired, if they meet all other criteria.
4. The “240-Day Rule”. To discharge tax debt, the taxing authority must have assessed the tax (entered the liability on the taxing authority’s records) against you at least 240 days before you filed bankruptcy. This time limit may be extended if there was an offer in compromise between the taxing authority and you, or if you had previously filed for bankruptcy.
5. No fraud or willful evasion. You cannot receive a discharge of tax debt if you have been deemed guilty of any intentional act of evading any tax law. if you file a joint return, the taxing authority must prove that both you and your spouse committed an act of fraud related to the applicable return or willfully attempted to evade the tax in order to deny a discharge of the tax debt.

To put all of this is a nutshell, if your tax debt is income-related, from 3 or more years ago, and you filed your return(s) relatively timely without any major incidents or problems, your tax debt is likely dischargeable under Chapter 7.

THE FOLLOWING TAX RELATED DEBTS ARE NOT DISCHARGEABLE UNDER CHAPTER 7:

1. Tax Liens. If you have tax liens, also known as secured taxes, a Chapter 7 discharge will not remove the liens from your property. A discharge under Chapter 7 will wipe out your personal obligations related to the debt, and will prevent the taxing authority from going after your bank account or wages; however, the lien(s) will still be attached to your affected property. This rule only applies to liens recorded against your property before you file for bankruptcy. In other words, while you may be not be personally liable for the tax debt, you will have to pay the lien from any profits left over when you sell the property.
   That being said, if the lien is based on a dischargeable debt, the debt itself is subject to discharge as outlined above, there may be options to remove the debt.
2. Recent Property Taxes. If a property tax is incurred before you file for bankruptcy, the tax is nondischargeable. However, this only applies to property taxes last payable within one year of your bankruptcy filing. You can discharge your personal liability for property taxes that were payable (without penalty) more than one year before your bankruptcy filing. Keep in mind, though, that many counties attach a lien to your property upon assessment or one year afterwards. If you have a lien against your property for the property tax, that lien will remain after your Chapter 7 discharge (although your personal liability will be removed).
3. Third Party “Trust Fund” Taxes. The so called “trust fund” taxes, that is, taxes that a third party is required to collect or withhold, such as FICA, Medicare, and income taxes that an employer must withhold from the pay of employees, and sales taxes paid by the debtor’s customers that the debtor is required to send to a governmental unit, are not discharged under Chapter 7.
4. Non-punitive Tax Penalties. Non-punitive tax penalties on nondischargeable taxes are not dischargeable in a Chapter 7 bankruptcy if the transaction or event that sparked the penalty occurred less than three years before filing the bankruptcy petition.
5. Erroneous Tax Refunds. If the IRS made a mistake and erroneously issued you a refund or credit related to nondischargeable taxes, you cannot discharge the IRS’ error.