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Under the case, Tyrone vs Kelly, 9 Cal. 3d 1, the court defined a “finder” as a person whose employment is limited to bringing parties together, so that they may negotiate their own contract…”

The California Attorney General issued an opinion in 1995, (78OPS CAL ATTY GEN 71) that confirmed that a real estate broker can pay a commission to an unlicensed person for providing the name, telephone number and address of a prospective borrower provided that the unlicensed person did not obtain the information in the course of soliciting borrowers or lenders on behalf of another or others. The opinion also stated that the finder’s exemption can only apply if the activity is limited to arranging an introduction between the parties and the unlicensed person cannot be involved in any role in the negotiation of the loan.

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While the California law does not prohibit the payment of a referral fee when the payment is from one broker to another broker, there may be requirements for disclosure to the principals by each broker and there are prohibitions on salespersons from giving or receiving
payment, and in certain transactions from paying the person making the referral. There are
several statutes in California the deal directly and indirectly with referral fees. Business and Professions (B&P) Code Section 10176(g) gives the Department authority to suspend or revoke a real estate license for the “claiming or taking by a licensee of any secret or undisclosed amount of compensation, commission or profit.” Any broker who makes an otherwise lawful referral in return for a referral fee is responsible for disclosure of that fee to the principal(s) in the transaction. 

B&P Code Section 10137, prohibits a salesperson licensee from accepting compensation from any person other than his or her employing broker and from paying a fee to another licensee except through his or her employing broker if the transaction requires a license. Any fee for an
otherwise lawful referral must first be paid to the employing broker who can then compensate the salesperson.

Except for very narrowly defined exceptions, real estate licensees are also prohibited from claiming, demanding or receiving fees for the referral of customers to any escrow agent, structural pest control firm, home protection company, title insurer or escrow company (B&P Code Section 10177.4).

Section 8 of the Real Estate Settlement Procedures Act (RESPA). Regulation X, 24 CFR (Code of Federal Regulations) Section 3500.14 forbids any person to pay or receive any fee, kickback, or anything of value that is incident to a settlement service involving a federally-related mortgage loan. A referral of a settlement service is not a compensable act. Essentially a real estate broker or agent cannot be compensated for merely referring his or her client to a mortgage broker, lender, title or escrow company, etc., without providing certain services, goods or facilities. RESPA covers most transactions involving single-family residences or 1-4 units. To emphasis, the language in the statute states that the law applies to “federally-related” mortgage loans. This is a broad definition, so therefore careful analysis must be done relative to each mortgage loan transaction. An in-depth review of this issue is beyond the scope of this White Paper.

Under RESPA, the definition of “Settlement Services” can be summarized anything related to a real estate settlement, including anything which relates to title searches, examinations, insurance, services rendered by an attorney, preparation of documents, credit reports, appraisals, pest control activities, services rendered by a real estate agent or broker and any other service related to a mortgage loan… 12 USC 2603 (3). The law requires that the services have actually been performed. 12 USC 2607 (b). A violation of this law carries criminal and civil penalties. When you are analyzing a fee paid under federal law, you must first determine if RESPA applies, what are the circumstances of the transaction and can fees be paid contractually.

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In City of Morgan Hill v. Bushey (6th Dist., No. H043426, May 30, 2017) a zoning ordinance was allowed to be placed on the ballot even when the result was potentially to leave in place pre-existing zoning that is inconsistent with the general plan.  

The city council of Norco adopted an ordinance to bring zoning for certain property into consistency with the city’s recently-amended general plan. Norco voters opposed the zoning ordinance by presenting a referendum petition, but the city council refused to place the referendum on the ballot. The council’s position was that the repealing the ordinance would reinstate the prior zoning which was inconsistent with the general plan, therefore creating an invalid zoning scheme.  The court did not agree and allowed referendum on the ballot. The court argued that the referendum does not enact inconsistent zoning; it maintains the status quo by preventing a council-enacted zoning ordinance from taking effect. The referendum at issue targeted a zoning ordinance that represented a portion of the otherwise consistent zoning plan.   Because the council could comply with consistency requirements by adopting different zoning if the referendum had succeeded, the referendum did not prevent the city from complying with its duty to bring inconsistent zoning into consistency with the general plan within a reasonable time.

This case is interesting as it reinforces the requirement that the zoning use must be consistent with a city or county’s general plan.  We can provide a legal analysis of your potential change of zoning use and the need for a general plan amendment.  We also look to structure strategic ventures with land owners who wish to sell their undeveloped property at a premium. 

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My firm specializes in transactions, regulations, strategic alliances and mixed collateral loan transactions in the real estate and financial services industries. We are positioned in a unique space in that my many years in big firm law and my expertise in complex mixed collateral transactions, mergers and acquisitions, private funds, fintech  and bank regulation allow us to provide consulting services and training  in-house for commercial and real estate lenders.

As a result of the 2016 election, there has been renewed interest in the Dodd-Frank Law and other laws regulating  banks and mortgage lenders.   Additionally,  private real estate funds organized under Regulation D are increasingly concerned about the requirements and changes affecting the prospectus disclosures.

The Consumer Financial Protection Bureau (“CFPB”), created under Dodd-Frank to protect consumers has been very active and we are now beginning to see cases where the power of the Agency, through its structure, is being litigated.  Dodd-Frank was intended to primarily protect consumers against certain residential lending practices, but some of the rules have already reached  the commercial real estate market, as the Credit Risk Retention Rule that went into effect, Dec. 24, 2016  also applies to securitization of commercial real estate loans.

Sponsors in the CMBS market are concerned about compliance with this rule.  Since the FDIC has seen a sharp drop in de novo bank applications, a new advisory handbook is now going through a comment period.  The OCC, has now decided that it will grant limited charters to fintech companies.  We do not know yet what the requirements will be and what compliance rules and procedures must be put into effect for each new entity.

We are also working with financial institutions, to provide education and training for the commercial, middle market and real estate lenders.  Although some lenders use certain form loan documents, the loan processors need to understand the documents, changes in the law must be updated into these documents and the lenders must learn to negotiate the loan documents, amendments and workouts to reduce the risk of lender liability claims by borrowers and guarantors.   Corporate training in a lender’s core business reduces risk and litigation costs  to the financial institution.

We consult with investment advisory firms and structure private real estate funds under Regulation D.  Our role can be that of consultant or strategic partner to in-house or outside counsel, accounting firms and investment advisors.   We work with real estate brokers, marketplace lenders,  community banks and finance lenders to create value between different lending platforms,  in compliance with state and federal law.   There are a number of new cases, one most recently in Ca. which address the structure of a strategic alliance between a marketplace and traditional lender.    We will be consulting with our clients on the new FDIC requirements to own and operate an FDIC insured financial institution and  the new OCC limited charters for fintech.  Our consulting and training will be essential to reducing costs and risk to your fund, institution, advisory or brokerage firm.

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The Dodd-Frank statute also led to the adoption of Regulation 15G of the Securities and Exchange Act of 1934 (15 U.S.C.A. § 78o-11), which requires the sponsor in a CMBS securitization to retain a 5% stake in the credit risk of the underlying commercial real estate asset. The purported purpose of the regulations is to require CMBS lenders to stay involved in the process and the transaction. The rules were finalized on October 22, 2014, but become effective for CMBS transactions on December 24, 2016.

Under the standard risk retention options, the sponsor must retain certain securities or find B-piece investors as follows.

1. 5% of the face value of each class of securities issued in the CMBS transaction.
2. 5% of the fair value of all CMBS securities issued, but only of the most subordinate class of securities.
3. 5% of the value of transaction through a combination of either of the above options.
4. An alternative option allows the sponsor to find up to two B-piece investors willing to assume the risk retention obligation of the sponsor, subject to certain restrictions.

The practical implications are additional transaction costs in complying with this statute.  It could create more due diligence and a slower closing process for the commercial real estate lender.

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We are consulting with an investment management firm on potential changes in commercial real estate.

Our client has asked for an overview of  how the Trump presidency might affect the CMBS risk retention rules and High Volatility Commercial Real Estate(“HVCRE”) rules. 

The scope of our review also includes an analysis on GSE’s and possible effects of privatization and concerns regarding the management of commercial real estate concentrations.  Other discussion issues entail a review of a possible “roll-back” of some of the Dodd-Frank statute and regulations.

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What’s Next?

Some experts in the financial services industry, believe that the new Trump administration may change or roll-back a portion of the Dodd-Frank legislation.

Financial institutions, mortgage companies, securitization sponsors, etc.  must continue to treat  current regulatory requirements as applicable to the business.  It is important to differentiate the commitment to protection of consumers in lending and other banking and financial services transactions from commercial lending.

I think we will continue to see a concern for the protection of consumers and the continuation of  legislation that provides these protections, both at the state and federal level.  However, the question becomes whether rules such as the “credit risk retention rule” which relate to both consumer and commercial securitizations, will be expanded beyond the current legislation.

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The court held that a guarantor’s waiver of anti-deficiency protections under Code Civ. Proc. Section 580d was enforceable because a sham guaranty defense under Civ. Code Sections 2287 and 2856 lacked merit absent substantial evidence that the lender structured the transaction to avoid anti-deficiency laws. 

The court found, as a matter of law, that the evidence could not support the sham guaranty defense as: the fund was not the general partner of the single purpose limited liability company holding title, the fund  structured  the borrowing entity arrangements in accordance with its exiting practices, and there was no evidence that the lender  acted to conceal the identity of the true obligor by accepting the ownership structure of the parties.      The court  of appeals reversed the judgment of the trial court in favor of the guarantor  and remanded the case to the trial court.  The court  stated that an underwriting requirement of a guaranty from an affiliated person or entity does not, in itself, indicate a likelihood that the guaranty is a sham. The court noted that the Lender did not ignore the borrower’s  ability to repay the loan as the Lender obtained an appraisal of the real estate and took an assignment of leases and rents in the loan documents.   Another factor against the “sham guaranty” concept  was the guarantied amount was small relative to the loan amount.

The facts are as follows. Festival Retail Fund,  (“FF”), a real estate investment fund,  was looking to acquire and finance commercial real property in Beverly Hills, Ca.  To that end, a single purpose limited liability company  was formed to hold title to the real estate (“F357”).  The general partner of F357  ( to be called “FRF1”) was a limited liability company with membership interests owned  by F357 and FF.   FF  obtained two term sheets from the proposed lender, showing FF as the guarantor, and  initially showing the borrowing entity as “TBD” and later  identifying the borrower as F 357.    In connection with the loan, the lender obtained organizational documents for F357, FRF1 and FF, an appraisal of the property  and financial statements from FF.  The loan closed in the amount of $25,025,000 with FF providing a $1,500,000 partial guaranty of the loan. The loan went into default and the Lender made a demand on FF to pay the partial guaranty amount.  Following assignment of the loan from Lender to appellant (“Clover”), Clover foreclosed on the real  property collateral and filed this action  to recover under the guaranty.

At the trial court level, Clover’s motion for summary judgment to enforce the guaranty was denied, finding there were triable issues of fact as to whether the guaranty was a sham.  After a bench trial, the court denied enforcement of the guaranty, holding in favor of the guarantor.  The trial court theory was that the lender had required that FF enter into the guaranty, the Bank had drafted the loan documents and that there was a “unity of interest” between FRF1 and FF which  formed a “single business enterprise”.  The guarantor argued that it functioned as the borrower’s de facto general partner for purposes of Corp. Code Section 15904.04 under this alter ego theory based upon the failure of the general partner, an affiliate of the guarantor, to observe corporate formalities.  These arguments did not persuade the appellate court.

What do we learn from this case?  Real estate lending always requires careful underwriting and due diligence.  Because of lender liability issues, lenders do not want to dictate the corporate structure of the borrower and/or its affiliates.  Due diligence must include property value, cash flow, sources of repayment and properly drafted loan documents.  Also, if lenders are going to securitize these loans, certain conformity must apply to the various loan products.

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