I was recently doing some research on property deeds and titles when I ran across an online discussion about loan position. I fully understood what was being discussed because I have been writing about hard money and mortgage lending for years. But I realized many people probably have no idea what loan position means or why it matters. Let us rectify that.
Loan position is important to anyone who invests in property. Likewise for the lenders who fund property investments. But it should also be important to the average homeowner. It certainly is to the banks that provide residential mortgages. Needless to say that loan position is worth being familiar with.
A Lien on Your Property
If you were to buy a piece of property using a loan from a licensed lender, that lender would place a lien on the property. A lien is a legal instrument that establishes the lender’s financial interest in another’s property. Liens remain in force until loans are paid off.
So here’s the deal: if you own a house on which you still owe, the bank or mortgage lender who made you the loan has placed a lien on your property. That lien will not be removed until your debt is paid in full. Technically, there is also a lien on your car if you purchased it through a bank, financing company, or a loan program from the manufacturer. But liens on cars are slightly different compared to liens on real estate.
More Than One Lien
Now that you understand the lien principle, let us explain how we end up with first, second, and third position. The position on a loan dictates the priority of the loan’s respective liens. We can use your house as an example. The bank or private lender who wrote your mortgage is in the first position. That means it was the first institution to file a lien on your property.
Let’s say you went out and got a home equity loan five years into your mortgage. The bank through which you obtained that loan has also put a lien on your house. It is now in the second position. But wait. Let us also say that you had extensive renovations done but have been slow to pay your general contractor. He has also put a lien on your house. He is in the third position behind the two banks.
What It All Means
Loan position matters a great deal, but only in the event of default. As long as you pay everything you owe and don’t get into tax trouble, you will eventually clear the liens and own your house outright. But if you default and your house is sold to pay your debts, your lien holders will be paid in order of position.
The first position lender will get paid first, followed by the second and third. If there is not enough money to pay the second or third lien holders, they are pretty much out of luck.
This is why hard money lenders like Utah-based Actium Partners prefer not to lend on the second or third position. They want first position or nothing at all. Why? Because hard money tends to go toward more risky projects. Lenders do not want to exacerbate the risk by taking second or third position.
Loan position refers to the order in which lien holders will be paid when a property is sold. The farther down the loan position food chain you are, the less likely you will get paid in the event that things do not go as originally planned.
