As a real estate attorney in Nashville, I’ve seen countless mutually beneficial real estate opportunities in which all parties benefit from the transaction and leave our offices smiling. On the other hand, however, I’ve also worked with a number of well-intended clients who have fallen victim to a real estate scam or need our help extricating themselves from the web of an unscrupulous developer/investor. Because we’d much rather leave the closing table to a sea of all-around smiles, we decided to put together a post on some of the most common real estate scams and questionable property flipping schemes. Knowledge is power.
What is Property Flipping?
Before we get into the details of fraudulent property flipping, let’s start with the basics. What, exactly, is flipping? Property flipping is the process by which an investor or buyer purchases a home or piece of property and then quickly sells it for a sizeable profit. Let’s say that you buy a fixer-upper house in an up-and-coming neighborhood in January for $250,000. Then, you spend $25,000 and plenty of sweat equity to clean, paint, landscape, and renovate the kitchen and bathrooms. Once the renovations have been completed (the quicker the better), you sell the home a few months later for $325,000; a price that is reflective of actual market value. This is an example of a wise investment and a legitimate business transaction. In fact, many hard-working investors make an honest living by finding attractive investment properties and then working diligently to improve them.
When Does Flipping Become Fraud?
Sadly, not all flips are ethical and not all flips are legal. Here are three increasingly common ways in which home buyers can be scammed.
Inaccurate Appraisals
House flipping becomes fraud when a property is purchased and then resold at artificially inflated prices. Be on the lookout for inaccurate, inflated, or downright fraudulent appraisals that indicate work has been done when in reality, only minor cosmetic tweaks have been done. Or, even worse, when absolutely nothing has been done to improve the property’s value.
To avoid falling victim to this particular scam, make sure you retain an independent and reputable appraiser. You’ll also want to invest in a detailed home inspection by a certified inspector. If you’re purchasing a property As-Is, be sure to retain a real estate attorney to help make sure that all disclosures and disclaimers are clearly stated.
Cash-Out Deals
“Sell Your Home for Cash!” We’ve all seen the signs nailed to utility poles, right? You heard it here first: be wary of cash-out deals! In a hot real estate market, such as Nashville’s, these scams are increasingly common. How does it work? Here’s what Freddie Mac has to say:
- The buyer/borrower approaches the seller of the property and makes an offer considerably higher than the current list price.
- The offer will include a stipulation that the additional amount over the asking price will be given to the buyer/borrower at closing.
- The stipulation for cash back to the buyer/borrower will often be documented in an addendum to the purchase contract.
- An inflated value charged to non-existent home improvements will be used to support the inflated sales price.
Let’s say that you’ve listed your property for $150,000. Suddenly a too-good-to-be-true cash offer comes in for $199,000! While it’s tempting to think you’ve hit the jackpot, be sure to pay careful attention to the fine print. Instead of making out like a king, here’s what could happen, “At closing, the seller will receive net proceeds on the $150,000 asking price and the surplus of $49,000 from the loan amount is disbursed to the buyer/borrower at or through closing. Often, these types of loans end up as first payment or early payment defaults and most likely in foreclosure” (Federal Home Loan Mortgage Corporation).
Don’t let dollar signs get in the way of reason. Some common red flags may include an inflated offer on a house that’s been on the market for a while, a cash buyer who comes knocking at your door, a modified sales contract with an addendum about payment to the borrower, a suspiciously inflated appraisal value, straw buyers, false funding source, or a preliminary HUD-1 form that indicates a portion of the net proceeds going back to the borrower. If you’re suspicious, contact us for a no-risk consultation.
Wielding the LLC Like a Weapon
This one is particularly close to our hearts here at Rochford Law & Real Estate Title. We represented a client who invested hundreds of thousands of dollars in purchasing a home as an investment here in Nashville. Our client was approached by an investor offering to help fun the purchase . Our well-intentioned client saw an opportunity to renovate a property with cultural significance and to potentially enjoy a profit from the transaction. He was presented with an investment agreement in which an LLC (Limited Liability Company) was formed to acquire and sell the property. Unfortunately, our client did not have legal representation at the time the document was signed and it was drafted in such a way that he now stands to lose money on the transaction.
One of the main reasons people form LLCs is to protect themselves from personal liability. However, there are still ways in which individuals can be held responsible for company debts.
- You’ve co-signed or personally guaranteed business debts. This action makes you as responsible as the LLC for repayment.
- You’ve pledged your personal property as collateral.
- The corporate veil has been pierced. The online legal encyclopedia website, NOLO, writes: “The corporate veil is usually pierced if the creditor can show that the corporation or LLC was a shell created only to provide liability protection for its owners or the company was practically inseparable from or an alter ego of its owners.”
Thinking about flipping a property? Thinking about buying a property that may have been flipped? We’re here to help make sure you’re best interests are at the front of every real estate transaction. Contact Rochford Law & Real Estate Title for more information.
