Equity Stripping

Warda's book about asset protection mentions one technique called equity stripping. I'm curious how this works exactly. What role, if any, does a hard money lender play in this. Anyone have opinions or experience along this lines?

Comments(2)

  • tbouman23rd December, 2004

    Yes, this topic can get pretty complicated. However, the concept is simple to understand. If real estate has a loan attached to it, its equity equals FMV minus loan balance. By carrying the loan on the property, its equity has been "stripped". A judgment creditor could force a sale of the property, but would only get what's left over after the lender is paid back. Since a forced sale may not actually get FMV, the property becomes less attractive to the creditor. Equity stripping is encumbering property with legitimate debt in order to lower its FMV and make it less attractive to potential creditors.

    An advantage of equity stripping is that especially when a commercial lender is used the transfer is for "value" under the Fraudulent Transfer Laws, thus clearing you of problems there. This makes the strategy very effective.

    A disadvantage is that you're bringing in another party (the lender) who has the right to make demands; i.e receive payments. It may be difficult to keep up payments if a creditor is going after you because cash is inaccessible.

  • tbouman24th December, 2004

    Yeah, that's one of the downsides. Equity stripping with this kind of asset is a little challenging because of the typical 80% rule & the high interest rates for amounts beyond that. So you're leaving a portion unprotected and the subsequent appreciation is also unprotected until another refinance, which can be expensive.

    One alternative you'll see is where a very trusted friendly party acts as lender. They might be much more flexible should you not be able to make payments for a while.

    Beyond that you can have the commercial lender transfer the note to a private finance company controlled by the friiendly party. This arrangement hides the ball a little bit -- a creditor would assume that the lender sold the original note anyway so the new owner probably wouldn't arouse suspicion.

    Another option is to get a loan for the entire value of the property by bringing in a 2nd security interest. I've never actually seen this kind of thing, but I've read about it.

    But you're right ... having a line of credit ready to tap is a simpler way. The most important thing here is to do it "now" ... as opposed to right before the judgment is entered. Otherwise, you're running into fraudulent transfer problems.

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