Under the SOP 50 10 5 (K), SBA loan proceeds may be used to finance the purchase of real estate as part of an eligible project such as ground-up construction or improvements to an existing building. When loan proceeds are used to finance the purchase of an existing building, the borrower may need to evict a bad tenant or a squatter who refuses to leave the premises. The legal options available to evict a party under these circumstances vary from state to state. This article will briefly discuss potential solutions and ways to mitigate risk to participating lenders.
First and foremost, the legal process of removing a bad tenant from the premises is vastly different than removing a squatter. Generally, a person or an entity is classified as a “tenant” when they take possession of the premises subject to the terms and conditions of a lease agreement. Under the terms of a lease agreement, tenants (even those in default) have certain rights that allow them to remain in possession of the premises until they are physically removed by a county’s sheriff. The legal process of removing a bad tenant from the premises can be long and tedious since many choose to appeal unfavorable judgments for possession. This poses a risk to participating lenders when they are financing acquisition of real estate because any timely-filed appeal will delay the borrower from taking possession of the property, which will prevent the borrower from completing any renovations to the building and commencing its business operation.
By way of example, imagine a situation where the lender closes a 7(a) loan and the borrower is stuck litigating through eviction proceedings in its attempt to remove a bad tenant instead of setting up its business operation. If the borrower cannot gain access to the premises, it cannot start its business and generate revenue. If the borrower cannot generate revenue, it will likely not be able to make its monthly payments to the lender. As a result, a worst-case scenario, the borrower defaults even before it takes possession of the premises.
The best practice for lenders to mitigate this risky situation is to postpone the closing until the seller is able to acquire a final and unappealable order from the court granting immediate possession of the premises to the seller. Moreover, lenders should also carefully review the title commitment for the real estate being acquired by the borrower in order to make sure that all exceptions in the policy pertaining to unrecorded leases are removed.
The process of removing squatters from the premises varies from state to state, but it is generally done by way of ejectment action, not an eviction. In other words, if the current owner of the property never had a landlord-tenant relationship with the squatter, the only way of removing said squatter from the premises is through ejectment. This legal process is expensive, and in certain jurisdictions can take up to ten months to complete, especially if challenged by the squatting-defendant. In such situations, to expedite the closing of the loan, a better option may be for the seller to do a “cash-for-key” agreement with the squatter. As part of this agreement, the squatter will agree to move out by certain date and waive its rights to appeal. Once the agreement is finalized, the order granting immediate possession of the premises should be promptly recorded on court’s docket.
The best practice for lenders to mitigate a squatter-related risk is to postpone the loan closing until the seller is able to obtain a final and unappealable order granting immediate possession of the premises to the seller and also verify that final title policy pertaining to the real estate will not have any exceptions for rights or claims of parties in possession. For further assistance with closing and litigation, please contact the attorneys at Starfield & Smith, PC at 215-542-7070.