Get Legal Advice BEFORE You Invest

Why should you seek legal assistance as part of your due diligence when considering an investment opportunity?  For starters, it might be a lot less expensive than seeking legal assistance after something goes wrong.  To be perfectly honest, I would really prefer not to hear a client tell me “I wish I’d talked to you sooner.”  Actually, there are several ways an attorney can be a valuable member of your real estate investment team.  Here are a few points to consider when making the decision how to maximize the return on your legal dollar.

For starters, you need to focus on your goals.  Most successful real estate investors have a clear focus on their financial objectives.  If you have a plan and are focused on clearly defined and realistic objectives, you’ll be able to communicate these objectives to your investment team.  By staying focused, you can avoid distractions and concentrate on your goals.  How can you expect your advisors to help you get where you’re going if you don’t know where you want to end up?

The next step is to make sure you consult with an attorney familiar with real estate issues.  Not all attorneys are equally knowledgeable in all areas of the law.  You wouldn’t hire a plumber to do your electrical work, or consult with a foot doctor for a head injury.  For the same reason, a brilliant patent lawyer may not be the best choice for evaluating a real estate investment opportunity.   If you are not sure — ask.  It will save both you and the attorney time — and money.

Next, heed the age-old maxim:  “You get what you pay for.”  Don’t start the conversation “Do you give free advice?”  The right attorney is going to provide you with valuable advice that will be worth the cost.  The attorney – client relationship is not only privileged, and over a period of time your attorney can become a very valuable and trusted member of your investment team.  Work on developing a long-term professional relationship with your attorney, and you will realize a good return on your investment.

Spend wisely.  Let the attorney know your budget.  Most attorneys will work with you, so long as you have realistic expectations and take a reasonable approach.  At the same time, recognize that the true measure of value of professional advice is avoiding the loss of your investment.  If you are investing $50,000 in a project that promises to yield a 10% return, you need to measure your legal costs against the risk of losing the entire $50,000, not as a percentage of your profit.  Remember, you will hopefully be able to apply good legal advice over and over — thus maximizing your return on your legal investment.

Avoid litigation.  One of the reasons to do your due diligence is to avoid situations that will result in litigation.  Unfortunately, there are many:  poorly drafted investment contracts; easement disputes; zoning violations; and overzealous promises, to name a few.  No one benefits from litigation except trial attorneys.  Aside from the costs, there are the inevitable delays, fractured relationships, and lost opportunities.  Again:  Avoid litigation.

Follow the advice.  You paid for it — so use it!  Of course, it’s your choice.  But you should at least give the legal advice some consideration before you take action.  Many times, an attorney cannot unequivocally state that a particular real estate investment complies 100% with all applicable state and federal laws, tax codes, SEC regulations, etc.  Each investor should recognize that there is no such thing as 100% certainty, and adjust their risk tolerance accordingly.

Ultimately, the decision whether to proceed with an investment is up to the individual investor.  Seeking advice from financial planners, tax advisors, real estate professionals and attorneys, as well as from experienced investors, is all part your due diligence.  Getting legal advice before you invest is often a smart investment strategy.

Arbitration: Be Careful What You Ask For

In the past I’ve written about the importance of reading and understanding the Arbitration Clause in your contracts, and warned you not to sign until you fully understood the consequences. I also noted that the U.S. Supreme Court had granted certiorari to hear arguments in a case that raised the question whether the arbitrator had interpreted the parties” contract in determining that the parties had authorized a class action.  The case, Oxford Health Plans LLC v. Sutter, 675 F.3d 215, was affirmed on June 10 by the U.S. Supreme Court.

Dr. Sutton is a pediatrician who provided medical services under contract with Oxford Health Plan.  The contract included a binding arbitration clause for any contractual disputes. Alleging that Oxford had failed to fully and promptly pay him and other physicians with similar contracts, Dr. Sutton filed a proposed class action.  Oxford moved to compel arbitration, and the court granted the motion. The parties agreed that the arbitrator should decide whether or not the contract authorized class arbitration, and the arbitrator concluded that it did. Oxford then filed a motion to vacate the arbitrator”s decision, claiming he had exceeded his powers under Section 10(a)(4) of the Federal Arbitration Act.

While the case was pending, the U.S. Supreme Court issued a ruling in the case of Stolt-Nielson S.A. v. AnimalFeeds Int”l Corp., 559 U.S. 662 (2010), which held that an arbitrator may employ class procedures only if the parties have authorized them.  In Stolt-Nielson, the parties stipulated they had never reached an agreement on class arbitration, so the arbitrator”s decision approving the class action in the Stolt-Nielson case was held casino online to be in excess of his powers.  Based on the ruling in Stolt-Nielson, Oxford asked the arbitrator to reconsider his decision. The arbitrator issued a new opinion saying that Stolt-Nielson did not apply; in the Oxford case the parties disputed whether the contractual language authorized class actions, whereas in Stolt-Nielson, the parties agreed they had not established intent.  The arbitrator in the Oxford case reaffirmed his conclusion that class arbitration was permitted based on the intent of the parties.

The key lesson of Oxford is the extremely limited scope of judicial review available to vacate arbitration rulings. Under the Federal Arbitration Act (FAA), courts may vacate the arbitrator”s decision “only in very unusual circumstances.” The Court goes on to note that FAA Section 10(a)(4) authorizes a federal court to set aside an arbitration award where the arbitrator exceeded his powers, but declares that a party seeking relief bears “a heavy burden.” “It is not enough … to show that the arbitrator committed an error–or even a serious error.”  The Oxford Court went on to declare that “the sole question … is whether the arbitrator (even arguably) interpreted the parties” contract, not whether he got its meaning right or wrong.” (Oxford; emphasis added.)  In other words, The arbitrator”s decision, even if he committed a serious error or got it wrong, will withstand a legal challenge to vacate unless the aggrieved party can show that arbitrator”s actions were outside the scope of his contractually delegated authority.

Driving home the point, the Court ruled that Oxford chose arbitration, and “it must now live with that choice.” Even if the arbitrator made a “grave error,” it would not be sufficient to vacate the award. “The potential for those mistakes is the price of agreeing to arbitration.” Agreeing to submit a dispute to arbitration is a bargained-for risk.

In other words – be careful what you ask for!

Flippers and Rehabbers Beware

The primary goal of flipping houses is to make a profit. Investors seek out properties with the intent of making basic improvements and reselling them. An experienced flipper with a skilled crew can turn a distressed property into an attractive turn-key investment opportunity. However, there are several traps that await the investor/flipper. Even a technical violation of state contractor licensing requirements could expose the investor to substantial risk of serious financial consequences.

In addition, if the contractor you hired is not licensed, or does not have workers” compensation insurance, the workers brought onto the job site might be classified as employees of the property owner! Check – and double-check – whether your contractor is currently licensed and has proof of workers” compensation insurance!

Many states, such as California, require anyone who does any improvement work on real estate that requires a permit must declare they are licensed as a contractor, or demonstrate that they are exempt from the licensing requirement. Some investors seek to take advantage of the “Owner-Builder” exemption and bypass the need to hire a licensed general contractor, doing some of the work themselves and hiring subcontractors as necessary. For those investors with the required skills and know-how, this could result in significant cost reductions and boost the profit margins. For those whose experience is limited to watching a few episodes of “Flip this House,” it could result in a disaster.

Qualifying for the Owner-Builder exemption is not easy. The Contractors State License Board (CSLB) division of the California Department of Consumer Affairs provides a checklist for Owner-Builders in a brochure appropriately titled: “Owner-Builders Beware!” Among the requirements is that the Owner-Builder must register with both the State and Federal Government as an employer, and be responsible for complying with various payroll withholding requirements. Most importantly, the Owner-Builder must provide Workers’ Compensation insurance. The Owner-Builder is responsible for supervising the job, obtaining building permits and all inspections, and making sure that all workers and material suppliers are paid.

Moreover, in order to qualify for the exemption, the Owner-Builder must sign an affidavit, under penalty of perjury, affirming they have read, understood and agree to comply with the applicable provisions of State law. The declarant must affirm that the property is your personal residence that you have occupied for 12 months prior to completion of the work; that the work must be performed prior to the sale of the home; and the exemption can only be used twice in any three-year period. For those flippers who seek to turn properties more often, the exemption is not available.When hiring a general contractor or subcontractor, investors, flippers and homeowners are cautioned to check and casino online confirm that the contractor is licensed and in good standing before signing the contract, and should recheck to ensure that the contractor remains in compliance at all times for the duration of the work. This can be done by checking the CSLB website ( and checking the name and number provided by the contractor. It is very important to confirm that the name the contractor is using on the contract is the same, exact name registered with the CSLB. Also, check to confirm that the contractor has a workers’ compensation policy in full force and effect for the full duration of the contract.If a contractor’s workers’ compensation policy expires and is not renewed, the contractor’s license is automatically suspended. Although this would prohibit the contractor from recovering any compensation under the contract, it may also expose the property owner to liability for any claims from any of the contractor’s workers or subcontractors.

Private lenders involved with rehab projects should be aware that if a contractor’s license expires or is automatically terminated for technical reasons (i.e., expiration of a worker’s compensation policy; improper transfer to a different entity, etc.), the contractor may be required to disgorge all compensation received under the contract. (B&PC 7031) Having an experienced contractor can make a big difference in the success of a rehab project. Taking a few minutes to confirm that your contractor or subcontractors are properly licensed and in compliance with state requirements can be the best investment in your investment project.

Taking Stock of The Fools Advice

The Motley Fool provides a wealth of information and tips for stock market investors.  In a recent article, “Stock Market Risk Reduction,” offered some excellent tips for reduce risk in the stock market.  These same tips would easily apply to real estate investors.

1.  Be a long-term investor, not a short-term speculator.  The Fool warns that holding stock for only a short period of time is “not investing – it”s gambling.”  The same is certainly true of real estate. Building wealth in real estate takes time. Even Flippers soon realize that the real value of their business model is doing many deals over a longer period of time, some of which will make more than others. The law of averages will catch up.

2.  Increase your knowledge.  The Fool puts it well:  “The more you know, the fewer mistakes you”ll likely make.” So true!  The Fool cautions against relying on the “tips from friends or strangers.”  Many novice investors jump at prospects based on what they heard from their buddy or a promotional event they attended.  Due diligence is the process of obtaining relevant information in order to reduce the risk of loss. You need to take time to understand the market, the area, and the factors that will impact your investment. Attend a real estate investing association that provides educational programs and training, not sales pitches.  Read books and articles, and topical blogs such as those provided by The Bigger Pockets.

3.  Limit your downside.  The Fool recommends that in investing in stocks, you need to consider the valuation of the company. The same applies to real estate. Learn to assess the true value of real estate that you are considering. Experts often say you make Du kan l?se om dem alle her pa online. your money on the purchase, not the sale. Spending too much on a property, compounded by failure to control rehab costs, can quickly wipe out your return and even result in a loss!

4.  Avoid futures, commodities, option, penny stocks, shorting and margin – at least until you”ve learned a lot about them.  Good advice for stock investors! In real estate, there are numerous examples of complicated investment schemes that are extremely risky, and should be avoided until you understand and accept the risk involved. Unfortunately, there are a lot of promoters who make a lot of money selling program packages for the novice real estate investor with promises of quick riches that involve complex schemes that are at best risky, and at worst, might be illegal in some states! Stick to the basics and learn the fundamentals before you venture into the deep end!

Don”t be a Fool – learn before you earn!

Is your LLC Doing Business in California?

Do you use an out-of-state or “foreign” LLC for your real estate investments? Due to recent changes in California law, you may be considered to be “Doing Business” in California, and must register your foreign LLC with the State and pay the $800 tax anyway!

Many people ask me “What state should I register my LLC in?”  “I don”t want to pay the $800 tax in California.  Are there any disadvantages of registering my LLC in another state?”  No matter what, you must register your LLC in any State where you are “doing business.”  Up until recently (2011), this meant – in most cases –  if you were a California resident, had formed a Nevada LLC, and owned an investment property in Arizona, you would only need to make sure you registered your Nevada LLC in the State of Arizona.  Many investors seek to maximize their returns, and avoiding the $800 franchise tax levied by California is a common reason given for forming out-of-state or “foreign” LLCs.  However, in 2011, California changed the rules in 2011 as to how it determines whether or not you are “doing business” in California.  Be sure to review the Examples below – they may surprise you!

California defines doing business as “actively engaging in any transaction for the purpose of financial or pecuniary gain or profit” (R&TC § 23101(a)). In addition, LLCs are considered “doing business” in California if:

•   It is a nonregistered foreign LLC that is a Although you may come across as a superficial person owing to your gemini horoscope Ascendant, you actually seek the true meaning of your life, and you value meaningful interpersonal relations. member of an LLC that does business in California.

•   It is a general partner in a partnership or limited partnership that does business in California.

•    Any of the LLC”s members, managers, or other agents conducts business in California on behalf of the LLC.  (Emphasis added)

For tax years that begin on or after January 1, 2011, a taxpayer is also doing business in California if any of the following apply:

•   The casino online taxpayer is organized or commercially domiciled in California.

•    Sales, as defined in subdivision (e) or (f) of R&TC § 25120, including sales by the taxpayer”s agents and independent contractors, in California, exceed the lesser of $500,000 or 25 percent online pokies of the taxpayer”s total sales.

•   Real or tangible property of the taxpayer in California, exceed the lesser of $50,000 or 25 percent of the taxpayer”s total real and tangible property.

•    The amount paid in California by the taxpayer for compensation, as defined in subdivision (c) of R&TC §25120, exceeds the lesser of $50,000 or 25 percent of the total compensation paid by the taxpayer.

For the preceding conditions, the sales, property, and payroll of the taxpayer include the taxpayer”s pro rata or distributive share of pass-through entities (R&TC § 23101(d)).

Regardless of where LLCs primarily conduct business, if any of their members, managers, or other agents conduct business in California on behalf of the LLC, the FTB considers the LLC as doing business in California (R&TC § 23101). [Go to and search for doing business for more information.]

Example 1

Paul is a California resident and a member of a Nevada LLC. The Nevada LLC owns property in Nevada. The LLC hires a Nevada management company to collect rents and provide maintenance. Paul has the right to hire and fire the management company. He occasionally has telephone discussions with the management company regarding the property. He is ultimately responsible for the property and oversees the management company. Paul conducts business in California on behalf of the LLC. The LLC must file Form 568.

Example 2

Rachel is a California resident and member of an Oregon LLC. The Oregon LLC has a retail store in Oregon. Rachel uses a California address for the LLC”s tax filings and a California accountant to prepare the LLC”s tax returns. Rachel conducts business in California on behalf of the LLC. The LLC must file Form 568.

Example 3

Sara is a California resident and a member of a Texas LLC. The Texas LLC receives royalties from Texas oil wells. Sara maintains a California business bank account and secures financing in California for the LLC”s Texas investments. Sara conducts business in California on behalf of the LLC. The LLC must file Form 568.

(The foregoing is taken from FTB Form 3556 LLC MEO 4-2011.  For more information, go to, and consult with your Attorney or tax professional.)