UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark one)
☒ | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Year Ended December 31, 2018
☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number: 000-55601
REDWOOD MORTGAGE INVESTORS IX, LLC
(Exact name of registrant as specified in its charter)
Delaware |
| 26-3541068 |
(State or other jurisdiction of incorporation or organization) |
| (I.R.S. Employer Identification Number) |
177 Bovet Road, Suite 520, San Mateo, CA |
| 94402 |
(Address of principal executive offices) |
| (Zip Code) |
(650) 365-5341
(Registrant’s telephone number, including area code)
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Securities registered pursuant to Section 12(b) of the Act: |
| None |
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Securities registered pursuant to Section 12(g) of the Act: |
| Units of Limited Liability Company Interests |
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ☐ YES ☒ NO
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. ☐ YES ☒ NO
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ☒ YES ☐ NO
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). ☒ YES ☐ NO
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K . ☒
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer |
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| Accelerated filer |
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Non-accelerated filer |
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| Smaller reporting company |
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| Emerging Growth Company |
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If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ YES ☒ NO
The registrant’s units of limited liability company interests are not publicly traded and therefore have no market value. The registrant is conducting an ongoing public offering of its units pursuant to a Registration Statement on Form S-11 (File No. 333-208315), which are being sold at $1.00 per unit. The registrant had 80,340,505 limited liability company interests outstanding as of February 28, 2019.
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Index to Form 10-K
December 31, 2018
i
Certain statements in this Report on Form 10-K which are not historical facts may be considered forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), including statements regarding the company’s expectations, hopes, intentions, beliefs and strategies regarding the future. Forward-looking statements, which are based on various assumptions (some of which are beyond our control), may be identified by reference to a future period or periods or by use of forward-looking terminology, such as “may,” “will,” “believe,” “expect,” “anticipate,” “continue,” “possible” or similar terms or variations on those terms or the negative of those terms. Forward-looking statements include statements regarding trends in the California real estate market; future interest rates and economic conditions and their effect on the company and its assets; estimates as to the allowance for loan losses; forecasts of future sales and redemptions of units, forecasts of future funding of loans; loan payoffs and the possibility of future loan sales (and the gain thereon, net of expenses) to third parties, if any; forecasts of future financial support by the manager including the eventual elimination of financial support; future fluctuations in the net distribution rate; and beliefs relating to how the company will be affected by current economic conditions and trends in the financial and credit markets. Actual results may be materially different from what is projected by such forward-looking statements. Factors that might cause such a difference include, but are not limited to, the following:
| • | changes in economic conditions, interest rates, and/or changes in California real estate markets; |
| • | the impact of competition and competitive pricing for mortgage loans; |
| • | the ability to grow our mortgage lending business in line with future unit sales; |
| • | the manager’s ability to make and arrange for loans that fit our investment criteria; |
| • | whether we will have any future loan sales to unaffiliated third parties, and if we do, the gain, net of expenses, and the volume/timing of loan sales to unaffiliated third parties, which to date have provided only immaterial gains to us; |
| • | the timing and dollar amount of the decreasing financial support from the manager and the corresponding impact on the net distribution rate to members; |
| • | the concentration of credit risks to which we are exposed; |
| • | increases in payment delinquencies and defaults on our mortgage loans; and |
| • | changes in government regulation and legislative actions affecting our business. |
All forward-looking statements and reasons why results may differ included in this Form 10-K are made as of the date hereof, and we assume no obligation to update any such forward-looking statement or reason why actual results may differ.
Redwood Mortgage Investors IX, LLC (we, RMI IX or the company) is a Delaware limited liability company formed in October 2008 to engage in business as a mortgage lender and investor by making and holding-for-investment loans secured by California real estate, primarily through first and second deeds of trust.
The company is externally managed by Redwood Mortgage Corp (“RMC” or “the manager”). The manager is solely responsible for managing the business and affairs of the company, subject to the voting rights of the members on specified matters. The manager acting alone has the power and authority to act for and bind the company. RMC provides the personnel and services necessary for us to conduct our business as we have no employees of our own. The manager is required to contribute to capital one tenth of one percent (0.1%) of the aggregate capital accounts of the members. The mortgage loans the company funds and/or invests in are arranged and generally are serviced by RMC.
1
The rights, duties and powers of the members and manager of the company are governed by the Ninth Amended and Restated Limited Liability Company Operating Agreement of RMI IX (the “Operating Agreement”), the Delaware Limited Liability Company Act and the California Revised Uniform Limited Liability Company Act.
The following is a summary of certain provisions of the Operating Agreement and is qualified in its entirety by the terms of the agreement itself. Members should refer to the company’s Operating Agreement for complete disclosure of its provisions.
The company’s primary investment objectives are to:
| • | yield a favorable rate of return from the company’s business of making and/or investing in loans; |
| • | preserve and protect the company’s capital by making and/or investing in loans secured by California real estate, preferably income-producing properties geographically situated in the San Francisco Bay Area and the coastal metropolitan regions of Southern California; and, |
| • | generate and distribute cash flow from these mortgage lending and investing activities. |
The ongoing sources of funds for loans are the proceeds (net of redemption of members’ capital and operating expenses) from:
| • | sale of members’ units net of reimbursement to RMC of organization and offering expenses (“O&O expenses”) and net of amounts advanced for the formation loan to RMC; |
| • | units sold pursuant to our distribution reinvestment plan (“DRIP”); |
| • | payments from RMC on the outstanding balance of the formation loan; |
| • | borrowers’ monthly principal and interest payments; |
| • | loan payoffs; |
| • | loan sales to unaffiliated 3rd parties and loan transfers by executed assignment to affiliated mortgage funds; and |
| • | a line of credit, if obtained. |
Net income or loss is allocated among the members according to their respective capital accounts monthly after one percent (1%) of the net income or loss is allocated to the manager. The monthly results are subject to subsequent adjustment as a result of quarterly and year-end accounting and reporting. Investors should not expect the company to provide tax benefits of the type commonly associated with limited liability company tax shelter investments. Federal and state income taxes are the obligation of the members, if and when taxes apply, other than the annual California franchise tax and any California limited liability company cash receipts taxes paid by the company.
Members representing a majority of the outstanding units may, without the concurrence of the managers, vote to: (i) dissolve the company, (ii) amend the Operating Agreement, subject to certain limitations, (iii) approve or disapprove the sale of all or substantially all of the assets of the company or (iv) remove or replace one or all of the managers. Where there is only one manager, a majority in interest of the members is required to elect a new manager to continue the company business after a manager ceases to be a manager due to its withdrawal.
Distribution policy
Cash available for distribution at the end of each calendar month is allocated ninety-nine percent (99%) to the members and one percent (1%) to the manager. Cash available for distribution means cash flow from operations (excluding repayments for loan principal and other capital transaction proceeds) less amounts set aside for creation or restoration of reserves. The manager may withhold from cash available for distribution otherwise distributable to the members with respect to any period the respective amounts of O&O expenses allocated to the members’ accounts for the applicable period pursuant to the company’s reimbursement to RMC and allocation to members’ accounts of organization and offering expenses policy. The amount otherwise distributable, less the respective amounts of O&O expenses allocated to members, is the net distribution. Per the terms of the company’s Operating Agreement, cash available for distribution allocated to the members is allocated among the members in proportion to their percentage interests (except with respect to differences in the amounts of organization and offering expenses allocated to the respective members during the applicable period) and in proportion to the number of days during the applicable month that they owned such percentage interests.
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See Note 3 (Manager and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for a detailed discussion on the allocation of O&O expenses to members’ accounts, which presentation is incorporated by this reference into this Item 1.
Cash available for distributions allocable to members, other than those participating in the DRIP and the manager, is distributed at the end of each calendar month. Cash available for distribution allocable to members who participate in the DRIP is used to purchase additional units at the end of each calendar month. The manager’s allocable share of cash available for distribution is also distributed not more frequently than with cash distributions to members.
To determine the amount of cash to be distributed in any specific month, the company relies in part on its forecast of full year profits, which takes into account the difference between the forecasted and actual results in the year and the requirement to maintain a cash reserve. At December 31, 2018 cumulative year to date earnings (estimated) allocated to members’ accounts was $4,766,822 and net income available to members (actual) was $4,742,369. The difference between earnings allocated to members’ account and net income available to members of $24,453 is expected to be offset by future earning in excess of the net distribution rate in 2019.
The company’s net income, cash available for distribution, and net-distribution rate fluctuates depending on:
| • | loan origination volume and the balance of capital available to lend; |
| • | the current and future interest rates negotiated with borrowers; |
| • | the timing and amount of gains received from loan sales, if any; |
| • | payment of fees and cost reimbursements to RMC; |
| • | the amount and timing of other operating expenses, including expenses for professional services; |
| • | financial support, if any, from RMC; and |
| • | payments from RMC on the outstanding balance of the formation loan. |
Financial Support from RMC
Since commencement of operations in 2009, RMC, at its sole discretion, provided significant financial support to the company which increased the net income, cash available for distribution, and the net-distribution rate, by:
| • | charging less than the maximum allowable fees; |
| • | not requesting reimbursement of qualifying costs attributable to the company (“Costs from RMC”) on the Statements of Income); and/or, |
| • | absorbing some, and in certain periods, all of the company’s direct expenses, such as professional fees. |
Such fee and cost-reimbursement waivers and the absorption of the company’s expenses by RMC were not made for the purpose of providing the company with sufficient funds to satisfy any required level of distributions, as the Operating Agreement has no such required level of distributions, nor to meet withdrawal requests. Any decision to waive fees or cost-reimbursements and/or to absorb direct expenses, and the amount (if any) to be waived or absorbed, is made by RMC in its sole discretion.
Financial support from RMC maintained the company’s annual 6.5% net distribution rate for periods prior to February 28, 2018. In March 2018, RMC communicated to the members’ planned and ongoing reductions in financial support from RMC and that net income, cash available for distribution and the net distribution rate were expected to decrease correspondingly.
In March 2018 the net distribution rate as an annualized percentage of members’ capital decreased from 6.5% to 6.0%. In April 2018, the company commenced paying in full its direct expenses for professional-service fees (legal and audit/tax compliance) and other operating expenses (postage, printing etc.).
The total financial support increased year over year, however the amount of direct cash support in the form of expenses absorbed by RMC decreased from 2017 to 2018. The amount of support in the form of waived fees, such as loan administrative fees, asset management fees, and costs from RMC, increased during the same period due to increased loan and capital balances. The loan and capital balances are used as a base for the calculation for fees charged by RMC, and increases or decreases in the balances will have a similar effect on the total amount chargeable by RMC.
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RMC had communicated in March 2018 its intent for the company to be paying RMC in full the fees and reimbursements for the qualifying costs attributed to the company entitled to the manager under the Operating Agreement by July 2019. As of March 2019, while reserving its right to collect the amounts owing to it under the Operating Agreement, RMC plans to phase in the collection of the asset management fee of 75 basis points (0.75%) during 2019, such that the full chargeable amount of the asset management fee will be collected in the 4th quarter of 2019, and there will be a similar incremental phase in of the collection of cost reimbursements in 2020.
The net distribution rate, as an annualized percentage of members’ capital, for December 2018 was 5.70%. The net distribution rate for the year ended December 31, 2018 was 5.95%.
Distribution reinvestment plan
The DRIP provision of the Operating Agreement permits members to elect to have all or a portion of their monthly distributions reinvested in additional units. Members may withdraw from the DRIP with written notice.
Liquidity and unit redemption program
There are substantial restrictions on transferability of units, and there is no established public trading and/or secondary market for the units and none is expected to develop. In order to provide liquidity to members, the company’s Operating Agreement includes a unit redemption program, whereby beginning one year from the date of purchase of the units, a member may redeem all or part of their units, subject to certain limitations.
The price paid for redeemed units is based on the lesser of the purchase price paid by the redeeming member or the member’s capital account balance as of the date of each redemption payment. Redemption value is calculated based on the period from date of purchase as follows:
| • | after one year, 92% of the purchase price or of the capital account balance, whichever is less; |
| • | after two years, 94% of the purchase price or of the capital account balance, whichever is less; |
| • | after three years, 96% of the purchase price or of the capital account balance, whichever is less; |
| • | after four years, 98% of the purchase price or of the capital account balance, whichever is less; |
| • | after five years, 100% of the purchase price or of the capital account balance, whichever is less. |
The company redeems units quarterly, subject to certain limitations as provided for in the Operating Agreement. The maximum number of units which may be redeemed per quarter per individual member shall not exceed the greater of (i) 100,000 units, or (ii) 25% of the member’s total outstanding units. For redemption requests requiring more than one quarter to fully redeem, the percentage discount amount that, if any, applies when the redemption payments begin continues to apply throughout the redemption period and applies to all units covered by such redemption request regardless of when the final redemption payment is made.
The company has not established a cash reserve from which to fund redemptions. The company’s capacity to redeem units upon request is limited by the availability of cash and the company’s cash flow. As provided in the Operating Agreement, the company will not, in any calendar year, redeem more than five percent (5%) of the weighted average number of units outstanding during the twelve-month period immediately prior to the date of the redemption. In the event unit withdrawal requests exceed 5% in any calendar year, units will be redeemed in the priority provided in the Operating Agreement.
Lending and investment guidelines, objectives and criteria
Our loans generally have shorter maturity terms than typical mortgages. In the event a borrower is unable to repay in full the principal owing on the loan at maturity, we may consider extending the term through a loan modification or may foreclose and take back the property for sale.
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Generally, interest rates on our mortgage loans are not affected directly by market movements in interest rates. If, as expected, we continue to make and invest in fixed rate loans primarily, and interest rates were to rise, a possible result would be lower prepayments of the company’s loans. This increase in the duration of time loans are on the books may reduce overall liquidity, which itself may reduce our investment into new loans at higher interest rates. Conversely, if interest rates were to decline, we could see a significant increase in borrower prepayments. If we then invest in new loans at lower rates of interest, a lower yield to members may possibly result.
Our primary investment objectives are to:
| • | yield a favorable rate of return from our business of making and/or investing in loans; |
| • | preserve and protect our capital by making and/or investing in loans secured by California real estate, preferably income-producing properties geographically situated in the San Francisco Bay Area and the coastal metropolitan regions of Southern California; and |
| • | generate and distribute cash flow from these mortgage lending and investing activities. |
Loans are arranged and generally are serviced by RMC. We generally funds loans at fixed interest rates that provide for:
| • | monthly payments of either (i) interest only with a balloon payment at maturity or (ii) principal and interest based on a 30-year amortization schedule with a balloon payment at maturity; and |
| • | having maturities of 5 years or less. |
The cash flow and the income generated by the real property securing the loan factor into the credit decisions, as does the general creditworthiness, experience and reputation of the borrower. However, for loans secured by real property, other than owner-occupied personal residences, such considerations are subordinate to a determination that the value of the real property is sufficient, in and of itself, as a source of repayment. The amount of the loan combined with the outstanding debt and claims secured by a senior deed of trust on the real property generally will not exceed a specified percentage of the appraised value of the property (the “loan-to-value ratio”, or LTV) as determined by an independent written appraisal at the time the loan is made. The LTV generally will not exceed 80% for residential properties (including multi-family), 75% for commercial properties, and 50% for land. The excess of the value of the collateral securing the loan over our debt and any senior debt owing on the property is the “protective equity.”
We believe our LTV policy gives us more potential protective equity than competing lenders who fund loans with a higher LTV. However, we may be viewed as an “asset” lender based on our emphasis on LTV in our underwriting process. Being an “asset” lender may increase the likelihood of payment defaults by borrowers. Accordingly, the company may have a higher level of payment delinquency and loans designated as impaired for financial reporting purposes than that of lenders, such as banks and other financial institutions subject to federal and state banking regulations, which are typically viewed as “credit” lenders.
See Note 4 (Loans) to the financial statements included in Part II, Item 8 of this report for a detailed presentation on the secured loan portfolio, which presentation is incorporated by this reference into this Item 1.
Competition
The San Francisco Bay Area, including the South Bay/Silicon Valley, and the coastal metropolitan regions of Southern California are our most significant locations of lending activity and the economic vitality of these regions – as well as the stability of the national economy and the financial markets – is of primary importance in determining the availability of new lending opportunities and the performance of previously made loans.
The mortgage-lending business is highly competitive, and we compete with numerous established entities, some of which have more financial resources and experience in the mortgage lending business than our manager. We will encounter significant competition from banks, insurance companies, savings and loan associations, mortgage bankers, real estate investment trusts (“REITs”) and other lenders with objectives similar in whole or in part to ours.
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Regulations
We are engaged in business as a mortgage lender and investor by making and holding-for-investment loans secured by California real estate, primarily through first and second deeds of trust. We and RMC, which arranges and generally services our loans, are heavily regulated by laws governing lending practices at the federal, state and local levels. In addition, proposals for further regulation of the financial services industry continually are being introduced. The laws and regulations to which we and RMC are subject include rules and restrictions pertaining to:
| • | the conduct of a mortgage lending business by a licensed California real estate broker under state and federal law; |
| • | real estate settlement procedures; |
| • | fair lending; |
| • | truth in lending; |
| • | federal and state loan disclosure requirements; |
| • | the establishment of maximum interest rates, finance charges and other charges; |
| • | loan-servicing procedures; |
| • | secured transactions and foreclosure proceedings; |
| • | privacy regulations providing for the use and safeguarding of non-public personal financial information of borrowers; and |
| • | with respect to the company and the offering of member units, required filings with the Securities and Exchange Commission (“SEC”) pursuant to federal securities laws, including periodic reports such as Form 10-K and Form 10-Q, and with the States’ securities agencies. |
Key federal and state laws, regulations, and rules relating to the conduct of our business include the following:
| • | California Real Estate Law. |
The California Real Estate Law, codified in California Business and Professions Code Sections 10000 et seq., together with the Real Estate Commissioner’s rules thereunder, govern the licensing, administration and activities of licensed real estate brokers (including mortgage loans brokers) in the State of California, including rules relating to, among other things, licensing, borrower and investor disclosures, compensation and fees, disciplinary action, and transactions involving trust deeds and real property sale contracts generally. We are not a licensed real estate broker but our manager, RMC, is so licensed and will be subject to those laws and regulations.
RMC’s loan files and other books and records are subject to examination by the California Department of Real Estate. Such examinations, as well as new regulations that may be issued in the future, could ultimately increase RMC’s and our administrative burdens and costs.
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| • | Dodd-Frank Wall Street Reform and Consumer Protection Act. |
This federal law passed in 2010 imposes significant regulatory restrictions on the origination of residential mortgage loans, under sections concerning “Mortgage Reform and Anti-Predatory Lending.” For example, when a consumer loan is made, the lender is required to make a reasonable and good faith determination, based on verified and documented information concerning the consumer’s financial situation, as to whether the consumer has a reasonable ability to repay a residential mortgage loan before extending the loan. The act calls for regulations prohibiting a creditor from extending credit to a consumer secured by a high-cost mortgage without first receiving certification from an independent counselor approved by a government agency. The act also adds new provisions prohibiting balloon payments for defined high-cost mortgages. The act established the Consumer Financial Protection Bureau (CFPB), giving it regulatory authority over most federal consumer-lending laws, including those relating to residential mortgage lending, and oversight over companies that provide consumer financial products or services, including us. Many of the federal regulations governing mortgage lending have been significantly amended and expanded through the passage of the Dodd Frank Act.
The act also enhanced regulatory requirements on banking entities and other organizations considered significant to U.S. financial markets and provides for reform of the asset-backed securitization market. We do not expect these particular regulatory changes will have a material direct effect on our business or operations.
| • | Real Estate Settlement Procedures Act (“RESPA”). |
RESPA is a federal law passed in 1974 with the purpose of establishing settlement procedures for consumer real estate purchase and refinance transactions on residential (1-4 unit) properties. It establishes rules relating to affiliated business relationships, escrow accounts for property taxes and hazard insurance and loan servicing, among other things. It prohibits unearned referral fees from being charged in a covered transaction. RESPA also governs the format of the Loan Estimate and the Closing Disclosure forms provided to consumers in real estate transactions.
| • | Truth in Lending Act (“TILA”). |
TILA is a federal law passed in 1968 for the purpose of regulating consumer financing. For real estate lenders, TILA requires, among other things, advance disclosure of certain loan terms, calculation of the costs of the loan as demonstrated through an annual percentage rate, and the right of a consumer in a refinance transaction on their primary residence to rescind their loan within three days following signing of the loan document.
| • | Home Ownership and Equity Protection Act (“HOEPA”) and California Covered Loan Law. |
HOEPA is a federal law passed in 1994 to provide additional disclosures for certain closed-end home mortgages. These “high-cost” closed-end home mortgages are loans with interest rates and fees in excess of certain percentage or amount thresholds. These regulations primarily focus on additional disclosure with respect to the terms of the loan to the borrower, the timing of such disclosures, and the prohibition of certain loan terms, including balloon payments and negative amortization. Failure to comply with the regulations will render the loan rescindable for up to three years. Lenders can be held liable for attorneys’ fees, finance charges and fees paid by the borrower and certain other money damages. Similarly, in California, Financial Code Section 4970, et. seq., became effective in 2002. It provides for state regulation of “high-cost” consumer residential mortgage loans (also called “covered loans”) secured by liens on real property. Section 4970 defines covered loans as consumer loans on primary residences in which the original principal balance of the loan does not exceed the most current conforming loan limit for a single-family first mortgage loan established by the Federal National Mortgage Association, with interest rates and/or fees exceeding one of the statutorily defined percentage or amount thresholds. The law prohibits certain lending practices with respect to high-cost loans, including the making of a loan without regard to the borrower’s income or obligations. When making such loans, lenders must provide borrowers with a consumer disclosure and provide for an additional rescission period prior to closing the loan.
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| • | Mortgage Disclosure Improvement Act. |
This federal law enacted in 2008, regulates the timing and delivery of loan disclosures for all mortgage loan transactions governed under the Real Estate Settlement Procedures Act.
| • | Home Mortgage Disclosure Act (“HMDA”). |
This federal law enacted in 1975 provides for public access to information on a lender’s loan activity. It requires lenders to report to their federal regulator certain information about mortgage loan applications it receives, such as the race and gender of its customers, the disposition of the mortgage application, income of the borrowers and interest rate (i.e., APR) information. Amendments to HMDA became effective on January 1, 2018. Under the amended regulation lenders are required to report 40 additional data points on their loan applications, including borrower age and credit data, lender fees, debt-to-income ratios and loan-to-value ratios.
| • | Red Flags Rule. |
This federal rule was issued in 2007 under Section 114 of the Fair and Accurate Credit Transactions Act of 2003 and amended by the Red Flag Program Clarification Act of 2010. It requires lenders and creditors to implement an identity theft prevention program to identify and respond to account activity in which the misuse of a consumer’s personal identification may be suspected.
| • | Gramm-Leach-Bliley Act (aka Financial Services Modernization Act of 1999). |
This federal act passed in 1999 requires all businesses that have access to consumers’ personal identification information to implement a plan providing for security measures to protect that information. As part of this program, we provide applicants and borrowers with a copy of our privacy policy.
| • | The California Homeowner Bill of Rights (“HOBR”). |
This series of state laws, which initially became effective January 1, 2013, and was reinstated by Senate Bill No. 818 on September 14, 2018, is intended to ensure fair lending and borrowing practices for California homeowners by guaranteeing basic fairness and transparency during the foreclosure process. Key provisions include restrictions on dual-track foreclosures, a guaranteed single point of contact, civil penalties for lenders filing unverified documents, and protections for tenants of foreclosed properties. HOBR also provides borrowers with the authority to seek redress of material violations of its rules, such as by an injunction (prior to foreclosure sale) or recovery of damages (after foreclosure sale).
In addition, key federal and state laws, regulations, and rules are applicable as a result of the offering of our units.
| • | Federal Securities Laws: The Securities Act of 1933 and The Exchange Act of 1944 |
Because our offering of units has been registered under the Securities Act and we have registered the units pursuant to Section 12(g) of the Exchange Act, we are a public reporting company. As a public reporting company, we are required to file annual, quarterly and other periodic reports with the SEC and comply with applicable provisions of the Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley”) and the related rules and regulations promulgated by the SEC. However, as discussed in Item 9.A. of this report, the company is externally managed by RMC and many of the requirements of Sarbanes-Oxley are not directly applicable to us since we do not have a board of directors, including an independent board member. The registration of our units pursuant to Section 12(g) of the Exchange Act, along with the satisfaction of certain other requirements under the Employee Retirement Income Security Act of 1974 (“ERISA”), enables the units to qualify as “publicly-offered securities” for purposes of ERISA and regulations issued thereunder. See Section 9.A. of this report.
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| • | Sarbanes-Oxley Act of 2002 |
RMC, as our manager, is responsible for establishing and maintaining adequate internal control over financial reporting with respect to us as required by Section 404 of Sarbanes-Oxley and rules and regulations of the SEC thereunder. RMC is required to review and evaluate on an annual basis our internal control over financial reporting, and on a quarterly basis, to evaluate changes in our internal control over financial reporting.
| • | Financial Industry Regulatory Authority Regulatory Notice 15-02 |
In 2015 the SEC approved amendments to rules of the Financial Industry Regulatory Authority (“FINRA”) applicable to securities of direct participation programs, such as our units and to non-listed real estate investment trusts. The amendments, which became effective on April 11, 2016, provide, among other things, that (i) FINRA members distributing our units must include in customer account statements our per unit estimated value that must be developed using a methodology reasonably designed to ensure our per unit estimated value’s reliability; and (ii) our per unit estimated value disclosed from and after 150 days following the second anniversary of the admission of investors in our public offering must be based on an appraised valuation methodology developed by, or with the material assistance of, a third-party expert and updated on at least an annual basis. The rule changes also provide that the account statements must include additional disclosure regarding the sources of our distributions to unit holders.
| • | Blue Sky Laws |
We are subject to the state securities laws (“blue sky laws”) of the states in which we intend to offer for sale our units. Under these blue sky laws, we have to register the offering of units being made pursuant to the prospectus before we can begin to sell in a state. Also, many of the states have adopted or apply the Mortgage Program Guidelines adopted by the North American Securities Administrators Association (“NASAA”). The NASAA Mortgage Program Guidelines require us to include certain offering terms and conditions that we might not have included if we were not subject to the state blue sky laws. Provisions imposed by the NASAA Mortgage Program Guidelines include restrictions on:
| • | the requirements of sponsors (i.e., the manager), such as the required experience and net worth of the sponsor; |
| • | the fiduciary duty obligations of the sponsor; |
| • | the suitability of the investors, including the economic suitability, the factors that must be reviewed in determining that the investor is suitable and the representations that can be required of the investor in the subscription agreement for the investment; |
| • | the fees and compensation that can be charged and paid to the sponsor as well as the expenses that can be reimbursed to the sponsor; |
| • | the handling of certain conflicts of interest between us and the sponsor; and |
| • | investment restrictions on our activities and restrictions on the sponsor related to our activities. |
Term of the company
The term of the company will continue until October 2028, unless sooner terminated as provided in the Operating Agreement.
The following risk factors and other information included in this Annual Report on Form 10-K should be carefully considered, in addition to the other information presented elsewhere in this report, in evaluating us and our business. Additional risks and uncertainties not presently known to us or that we presently deem less significant may also adversely affect our business operations. If any of the following risks or additional risks and uncertainties actually occur, our business, operating results, and financial condition could be adversely affected.
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INVESTMENT RISKS
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We established the $1 per unit offering price on an arbitrary basis.
| We arbitrarily determined the $1 per unit selling price for the offering of units we are currently conducting as well as the $1 per unit price for reinvestment of distributions. Such price also is not necessarily the amount you may receive pursuant to your limited right to redeem units, subject to certain requirements. The amount that a redeeming member will receive is the lesser of the purchase price for the redeemed units or the redeeming member’s capital account balance as of the date of each redemption payment. The fair market value of your interest in the company will be irrelevant in determining amounts to be paid upon redemption.
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Our manager may purchase units which generally will give our manager the same rights as members.
| Our manager, in its discretion, may purchase units for its own account. Upon any such purchases of units, our manager will have the same rights as other members in respect of the units owned by them, including the right to vote on matters that are subject to the vote of members, subject to certain exceptions.
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Your interest in us will be diluted if we issue additional units, which could reduce the value of your investment in us.
| Our investors do not have any preemptive rights to any units we issue in the future. Pursuant to our operating agreement, we may issue additional units in the future without your consent or the consent of any other members. To the extent we issue additional equity interests after an investor purchases our units, an investor’s percentage ownership interest in us will be diluted. In addition, depending on the terms and pricing of any additional offerings and the value of our investments, an investor may also experience dilution in the book value of his or her units.
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Our interests in our properties may not be insured or may be underinsured against certain types of losses.
| We will require comprehensive insurance, including fire and extended coverage, which is customarily obtained for or by a lender, on properties in which we acquire a security interest. Generally, such insurance will be obtained by and at the cost of the borrower. However, there are certain types of losses (generally of a catastrophic nature, such as civil disturbances or terrorism and acts of God such as earthquakes, floods and land or mud slides) which are either uninsurable or not economically insurable. Should such a disaster occur to, or cause the full or partial destruction of, any property serving as collateral for a loan, we could lose both our invested capital and anticipated profits from such investment. In addition, on certain real estate owned by us as a result of foreclosure, we may require homeowner’s liability insurance. However, insurance may not be available on such real estate owned for the following: •theft; •terrorism; •vandalism; •land or mud slides; •hazardous substances; or earthquakes. Thus, losses from such events would adversely affect our profitability.
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If payments are not made on the formation loan under certain circumstances, such as our manager’s removal, it may reduce your rate of return or affect our capital available to fund new loans.
| We have and will continue to advance to our manager funds in an amount equal to the sales commissions for our units and premiums paid to investors in connection with unsolicited sales of our units. The principal balance of the formation loan will increase as additional sales of units are made. The formation loan is an unsecured loan that will not bear interest and will be repaid in annual installments. If our manager was removed or unable to repay the formation loan when due, we would incur a significant loss in the amount of the formation loan then owing. See “Investment Risks – Our manager has various conflicts of interests.” A portion of the amount we receive from redeeming members as early redemption penalties may first be applied to reduce the principal balance of the formation loan. This will have the effect of reducing the amount owed by our manager to us. If our manager is removed as a manager by the vote of a majority in interest of the members and a successor or additional manager, which is elected without the concurrence of the manager, begins using any other loan brokerage firm for the placement of loans or loan servicing, our manager will be immediately released from any further payment obligation under the formation loan. If the manager is removed, no other manager is elected, the company is liquidated or our manager is no longer receiving payments for services rendered, we will forgive the debt on the formation loan and our manager will be immediately released from any further obligations under the formation loan. In addition, if we and our manager agree to suspend formation loan payments for a period of time, then as a result of such suspended payments we would have less capital to invest in loans during that period, which could adversely affect our profitability.
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Upon liquidation, you may experience delays in receiving distributions, you may not be able to fully recover your investment or you may not receive any distributions.
| Under our operating agreement, we will continue to operate until October 8, 2028, unless our term is extended by the vote of a majority in interest of the members. We do not currently intend to cease operations prior to the end of our term. We could be dissolved and terminated earlier by operation of law or upon the occurrence of various events described in our operating agreement. Upon our dissolution, our manager will seek to promptly liquidate our assets for the best price reasonably obtainable, to use any proceeds to satisfy our debts and to distribute any remaining proceeds to our members and manager in accordance with the terms of our operating agreement. Accordingly, your ability to recover all or any portion of your investment under such circumstances will depend on the amount of funds so realized and claims to be satisfied from those proceeds. Our manager may not be successful in liquidating us regardless of whether it occurs on our anticipated termination date or on an earlier dissolution date. Delays in liquidation could arise due to market conditions and other factors beyond the control of our manager. In the event we are unable to liquidate on or prior to the end of our anticipated term and depending on the amount of liquidation proceeds the manager is able to obtain, you and other members may not receive distributions of remaining proceeds, if any, in a timely manner or at all.
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We cannot precisely determine compensation to be paid to our manager that may not be commensurate with your rate of return.
| Our manager is unable to predict the amounts of its compensation to be paid to it. Any such prediction would necessarily involve assumptions of future events and operating results which cannot be made at this time. As a result, there is a risk that members will not have the opportunity to judge ahead of time whether the compensation realized by our manager is commensurate with the return generated by the loans. |
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We are dependent on information systems and systems failures could significantly disrupt our business, which may, in turn, negatively affect our liquidity, financial condition or results of operations.
| Our business is dependent on third party communications and information systems. Any failure or interruption of those systems, including as a result of the termination of an agreement with any third party service providers, could cause delays or other problems in our activities. Our financial, accounting, data processing, backup or other operating systems and facilities may fail to operate properly or become disabled or damaged as a result of a number of factors including events that are wholly or partially beyond our control. There could be:
•sudden electrical or telecommunications outages; •natural disasters such as earthquakes, tornadoes and hurricanes; •disease pandemics; •events arising from local or larger scale political or social matters, including terrorist acts; and •cyber attacks. These events, in turn, could have a material adverse effect on our operating results and negatively affect the value of our units and our ability to pay distributions.
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Cybersecurity risks and cyber incidents may adversely affect our business by causing a disruption to our operations, a compromise or corruption of our confidential information, and/or damage to our business relationships, all of which could negatively impact our financial results.
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A cyber incident is considered to be any adverse event that threatens the confidentiality, integrity or availability of our information resources. These incidents may be an intentional attack or an unintentional event and could involve gaining unauthorized access to our information systems for purposes of misappropriating assets, stealing confidential information, corrupting data or causing operational disruption. The result of these incidents may include:
•disrupted operations; •misstated or unreliable financial data; •liability for stolen assets or information; •increased cybersecurity protection and insurance costs; •litigation; and •damage to our investor relationships. As our reliance on technology has increased, so have the risks posed to our information systems, both internal and those we have outsourced. Third parties with which we do business (including those that provide services to us) also may be targets of cyber-attacks or sources of other technological risks. We outsource certain functions and these relationships allow for the storage and processing of our information and assets, as well as certain investor, counterparty, employee and borrower information. While we engage in actions to reduce our exposure resulting from outsourcing, ongoing threats may result in unauthorized access, loss, exposure or destruction of data, or other cybersecurity incidents, with increased costs and other consequences, including those described above. Privacy and information security laws and regulation changes, and compliance with those changes, may also result in cost increases due to system changes and the development of new administrative processes.
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Our processes and controls to mitigate cyber security risks may not be efficient in preventing a cyber incident.
| We have implemented processes, procedures and internal controls to help mitigate cybersecurity risks and cyber intrusions, but these measures, as well as our increased awareness of the nature and extent of a risk of a cyber incident, do not guarantee that our financial results, operations, business relationships or confidential information will not be negatively impacted by such an incident.
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As a public company, we are subject to regulations not applicable to private companies, such as provisions of the Sarbanes-Oxley Act. Efforts to comply with such regulations have and will involve significant expenditures.
| As a public company, we are subject to regulations not applicable to private companies, including provisions of the Sarbanes-Oxley Act and the related rules and regulations promulgated by the SEC. Our management will be required to report on our internal control over financial reporting pursuant to Section 404 of the Sarbanes-Oxley Act and rules and regulations of the SEC thereunder. We are required to review on an annual basis our internal control over financial reporting, and on a quarterly and annual basis, to evaluate and disclose changes in our internal control over financial reporting. In the past, we have identified material weaknesses in our internal control over financial reporting, and while we remediated those material weaknesses as of September 30, 2017, we may be unable in future periods to maintain an effective system of internal controls and maintain compliance with the Sarbanes-Oxley Act and related rules.
If we identify material weaknesses in our internal controls over financial reporting, if we are unable to comply with the requirements of Section 404 of the Sarbanes-Oxley Act in a timely manner or to assert that our internal controls over financial reporting is effective investors may lose confidence in the accuracy and completeness of our financial reports, and we could become subject to investigations by the SEC, or other regulatory authorities, which could require additional financial and management resources. In addition, we have incurred significant expenses to comply with the Sarbanes-Oxley Act and other regulations and may be required to spend significant amounts in the future to remain in compliance. Such expenditures may reduce amounts available for distribution and may have a material adverse effect on our financial condition and results of operations.
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We cannot predict far-reaching consequences and market distortions that may stem from governmental intervention in the economic and financial system or from regulatory reform of the oversight of financial markets.
| In July 2010, the U.S. Congress enacted the Dodd-Frank Act, in part to impose significant investment restrictions and capital requirements on banking entities and other organizations that are significant to U.S. financial markets. For instance, the Dodd-Frank Act has imposed significant restrictions on the proprietary trading activities of certain banking entities and subject other systemically significant organizations regulated by the U.S. Federal Reserve to increase capital requirements and quantitative limits for engaging in such activities. The Dodd-Frank Act also seeks to reform the asset-backed securitization market (including the mortgage backed securities, or MBS, market) by requiring the retention of a portion of the credit risk inherent in the pool of securitized assets and by imposing additional registration and disclosure requirements. The Dodd-Frank Act also imposes significant regulatory restrictions on the origination and securitization of commercial mortgage loans. Also, the significant changes to Regulation AB could lead to sweeping changes to commercial and residential mortgage loan securitization markets as well as to the market for the re-securitization of MBS. The Dodd-Frank Act also created a new regulator, the Consumer Financial Protection Bureau, or the CFPB, which oversees many of the core laws which regulate the mortgage industry, including the Real Estate Settlement Procedures Act and the Truth in Lending Act. While the full impact of the Dodd-Frank Act and the role of the CFPB cannot be assessed until all implementing regulations are released, the Dodd-Frank Act’s extensive requirements may have a significant effect on the financial markets, and may affect the availability or terms of our targeted loans, which may have an adverse effect on our financial condition and results of operations. From time to time, there may be other governmental intervention in the economic and financial system or regulatory reform measures relating to the oversight of financial markets and other laws that may be enacted which could have an adverse impact on our financial condition and results of operations.
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MORTGAGE LENDING AND REAL ESTATE RISKS
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Increased competition and new entrants in the market for mortgage loan originations could adversely impact our ability to originate and acquire real estate-related loans at attractive risk-adjusted returns.
| New entrants in our target markets for mortgage loan originations could adversely impact our ability to execute our investment strategy on terms favorable to us. In originating our loans, we may compete with REITs, numerous regional and community banks, specialty finance companies, savings and loan associations, mortgage bankers, insurance companies, mutual funds, institutional investors, investment banking firms, other lenders and other entities, and we expect that others may be organized in the future. The effect of the existence of other institutions may be an increase in competition for the available supply of loans suitable for investment by us, which may cause us to reduce the interest rate that can be charged on our loans. Some competitors may have a lower cost of funds and access to funding sources that may not be available to us. In addition, some of our competitors may have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of real estate-related loans and establish more relationships than us. We cannot assure you that the competitive pressures we may face will not have a material adverse effect on our business, financial condition and results of operations. Also, as a result of this competition, desirable loans may be limited in the future and we may not be able to take advantage of attractive lending opportunities from time to time, as we can provide no assurance that we will be able to identify and make loans that are consistent with our investment objectives.
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Some of our loans are junior in priority to first and second liens that may make it more difficult and costly to protect our junior security interest.
| We anticipate that our loans will eventually be diversified as to priority approximately as follows:
•first mortgages – 40 to 60%; •second mortgages (junior to first mortgages) – 40 to 60%; and •third mortgages (junior to other two mortgages) – 0 to 10%. There is no assurance that we will be able to diversify our loans as set forth above or that this diversification strategy, if successfully implemented, will provide us with the best risk adjusted returns and/or decrease our risk of loss.
The lien securing each loan will not be junior to more than two other encumbrances (a first and, in some cases, a second deed of trust) on the real property which is to be used as security for the loan. In the event of foreclosure under a second or third deed of trust, the debt secured by a senior deed(s) of trust must be satisfied before any proceeds from the sale of the property can be applied toward the debt owed to us. As a result, we may not recover some or all of our investment. To protect our junior security interest, we may be required to make substantial cash outlays for such items as loan payments to senior lien holders to prevent their foreclosure, property taxes, insurance, repairs, maintenance and any other expenses associated with the property. These expenditures could have an adverse effect on our profitability.
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Our commercial loans are dependent on the ability of the commercial property owner to generate net income from operating the property, which may result in the inability of such property owner to repay a loan, as well as the risk of foreclosure.
| Our commercial loans may be secured by office, retail, mixed use, warehouse, and other types of commercial properties and are subject to risks of delinquency, foreclosure and of loss that may be greater than similar risks associated with loans made on the security of single-family residential property. The ability of a borrower to repay a loan secured by an income-producing property typically is dependent primarily upon the successful operation of such property rather than upon the existence of independent income or assets of the borrower. If the net operating income of the property is reduced, the borrower's ability to repay the loan may be impaired.
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Loans to small businesses involve a high degree of business and financial risk, which can result in substantial losses that would adversely affect our business, results of operation and financial condition.
| Our operations and activities may include loans to small, privately owned businesses to purchase or refinance real estate used in their operations or by investors seeking to acquire or refinance small office, retail, mixed use or warehouse properties. Often, there is little or no publicly available information about these businesses. Accordingly, we must rely on our own due diligence to obtain information in connection with our investment decisions. Our borrowers may not meet net income, cash flow and other coverage tests typically imposed by banks. A borrower's ability to repay its loan may be adversely impacted by numerous factors, including a downturn in its industry or other negative local or more general economic conditions. Deterioration in a borrower's financial condition and prospects may be accompanied by deterioration in the collateral for the loan. In addition, small businesses typically depend on the management talents and efforts of one person or a small group of people for their success. The loss of services of one or more of these persons could have a material and adverse impact on the operations of the small business. Small companies are typically more vulnerable to customer preferences, market conditions and economic downturns and often need additional capital to expand or compete. These factors may have an impact on loans involving such businesses. Loans to small businesses, therefore, involve a higher degree of business and financial risk, which can result in substantial losses.
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We may make construction loans which may subject us to greater risks.
| Construction loans are those loans made to borrowers constructing entirely new structures or dwellings, whether residential, commercial or multi-family properties. We may make construction loans up to a maximum of 10% of our then gross offering proceeds. Investing in construction loans subjects us to greater risk than loans related to properties with operating histories. If we foreclose on property under construction, construction generally will have to be completed before the property can begin to generate an income stream or be sold. We may not have adequate cash reserves on hand with respect to junior encumbrances and/or construction loans at all times to protect our security. If we have inadequate cash reserves, we could suffer a loss of our investment. Additionally, we may be required to obtain permanent financing of the property in addition to the construction loan which could involve the payment of significant fees and additional cash obligations for us. As of December 31, 2018, we did not have any construction loans.
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Your tax liability may exceed the cash you receive.
| Your tax liabilities associated with an investment in the units for a given year may exceed the amount of cash we distribute to you during such year. As a member, you will be taxed on your allocable share of our taxable income whether or not you actually receive cash distributions from us. Your taxable income could exceed cash distributions you receive, for example, if you elect to reinvest into additional units the cash distributions you would otherwise have received. Taxable income in excess of cash distributions also could result if we were to generate so-called “phantom income” (taxable income without an associated receipt of cash). Phantom income could be recognized from a number of sources, including, without limitation, any established loan loss reserves or fluctuation thereof, repayment of principal on loans incurred by the company as well as imputed income due to original issue discount, market discount, imputed interest and significant modifications to existing loans. Under very limited circumstances, you could receive a special distribution to enable you to pay taxes on specified types of income. We take the position that we are engaged in a lending trade or business, as a result of which all or a portion of the income earned by members with respect to their investment in our units will be treated as ordinary income.
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We expect to generate unrelated business taxable income.
| Tax-exempt investors (such as an employee pension benefit plan or an IRA) may be subject to tax to the extent that income from the units is treated as unrelated business taxable income, or UBTI. We may realize UBTI from the sale of loans if we are deemed to be a “dealer” in the business of selling loans to customers in the ordinary course of our trade or business and a particular loan or loans are deemed to be “dealer property.” In addition, we borrow funds on a limited basis, which can cause a portion of our income to be treated as UBTI. We may also receive income from services rendered in connection with making or securing loans, which is likely to constitute UBTI. Furthermore, any rental income that we receive from a lease of personal property would constitute UBTI unless the personal property is leased along with real property and the rents received from the personal property are an incidental amount of the total rents received under the lease. While we do not currently intend to own and lease personal property, it is possible we may do so as a result of a foreclosure upon a default. Although we will use reasonable efforts to prevent any borrowings and leases of personal property from causing any significant amount of income from the units to be treated as UBTI, we expect that some portion of our income will be UBTI. Prospective investors that are tax-exempt entities are urged to consult their own tax advisors regarding the suitability of an investment in units. In particular, an investment in units may not be suitable for charitable remainder trusts.
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Tax audits could result in adjustments to your tax returns.
| The IRS and state tax authorities could challenge certain federal and state income tax positions, respectively, taken by us if we are audited. Any adjustment to our return resulting from an audit by a tax authority would result in adjustments to your tax returns and might result in an examination of items in such returns unrelated to your investment in the units or an examination of tax returns for prior or later years. Moreover, we and our members could incur substantial legal and accounting costs in contesting any challenge by a tax authority, regardless of the outcome. Our manager generally will have the authority and power to act for, and bind the company in connection with, any such audit or adjustment for administrative or judicial proceedings in connection therewith.
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You may be subject to state and local tax laws.
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The state in which you reside may impose an income tax upon your share of our taxable income. Furthermore, states such as California, in which we will own property, generally impose income tax upon a member’s share of the company’s taxable income considered allocable to such states, whether or not a member resides in that state. As a result, a nonresident member may be required to file a tax return in California and any other such state. Differences may exist between federal income tax laws and state and local income tax laws. We may be required to withhold state taxes from distributions to members in certain instances. You are urged to consult with your own tax advisers with respect to state and local tax consequences of an investment in our units.
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The IRS may argue that our allocations to you do not have substantial economic effect.
| For U.S. federal income tax purposes, allocations to you of our items of income, gain, loss, deduction and credit will be governed by our operating agreement if such allocations have “substantial economic effect.” Because our operating agreement generally allocates profits and losses (and taxable items) in the same manner as cash distributions are made, we believe these allocations should be respected. However, there can be no assurance that the IRS will not challenge the allocations and will not attempt to reallocate profits and losses (and taxable items) among the members. Any successful challenge by the IRS to such allocations could have a material adverse effect on your investment in our units.
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Recent tax legislation may have unanticipated effects on us.
| On December 22, 2017, the tax legislation commonly referred to as the Tax Cuts and Jobs Act was signed into law and contains significant changes to the Internal Revenue Code generally applying in taxable years beginning after December 31, 2017. In addition to reducing corporate and individual tax rates, the Tax Cuts and Jobs Act eliminates or restricts various deductions for taxable years beginning after December 31, 2017 and before January 1, 2026. The reduction or limitation of these tax deductions could adversely affect the real estate prices in California which has high state and local taxes and higher property values. In addition, changes in the tax deductions could increase taxes payable by certain borrowers, thereby reducing their available cash and adversely impacting their ability to make payment on the loans, which in turn, could cause a rise in delinquencies. The impact of these changes has yet to be determined, but the limitations on these deductions could have an adverse impact on the California real estate market which could negatively impact our business or financial results.
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Changes in tax laws could have an adverse effect on your investment.
| Changes in federal, state or local tax law could have an adverse effect on the rate of return on your investment in our units or on the market value of our assets. You are urged to consult with your own tax advisor with respect to the impact of legislative, regulatory or administrative developments and proposals and their potential effect on an investment in our units.
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ERISA RISKS
Risks of investment by benefit plan investors and other tax-exempt investors. | If you elect to participate in the DRIP, you should consider the same factors that you had to consider when considering an investment in the units initially, including if you are a Benefit Plan Investor subject to the requirements of the Employee Retirement Income Security Act (“ERISA”), you should consider, among other things, (i) whether the investment satisfies the diversification requirements of Section 404(a)(1)(C) of ERISA; (ii) whether the investment is prudent, since it is not expected that there will be a market created in which you can sell or otherwise dispose of the units. In addition if you are a Benefit Plan Investor that is a tax-qualified pension or 401(k) plan, an IRA or a similar plan, you should consider (i) whether a distribution of units in kind from the plan or IRA would be accepted as a rollover by a trustee or custodian of a successor plan or IRA, and if not accepted, whether the automatic 20% income tax withholding would create the need to effectuate the rollover using assets other than the units; and (ii) whether a required distribution from a tax-qualified pension or 401(k) plan or IRA commencing on the April 1 following the calendar year in which the beneficiary attains age 70 1⁄2 (or if later with respect to a tax-qualified plan distribution, the date the beneficiary retires) could cause the beneficiary to become subject to income tax that the beneficiary would need to satisfy out of assets other than the units if such beneficiary were not able to transfer the units for cash. Finally, all Benefit Plan Investors, including tax-qualified pension and 401(k) plans and IRAs, should consider (i) whether the investment will impair the liquidity of your plan, IRA or other entity; and (ii) whether interests in us or the underlying assets owned by us constitute “plan assets” for purposes of Section 406 of ERISA or Section 4975 of the Code which could cause certain transactions with us to constitute non-exempt prohibited transactions. ERISA requires that the assets of a plan be valued at their fair market value as of the close of the plan year, and it may not be possible to adequately value the units from year to year, since there will not be a market for those units and the appreciation of any property may not be shown in the value of the units until we sell or otherwise dispose of our investments. If you are an employee benefit plan subject to federal, state or local law that is substantially similar to ERISA, you should consider whether an investment in the units would satisfy the requirements of such similar law.
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The U.S. Department of Labor’s regulation expanding the definition of fiduciary investment advice under ERISA could adversely affect our ability to raise funds. | On April 6, 2016, the U.S. Department of Labor (the “DOL”) issued its final regulation redefining “investment advice fiduciary” under ERISA and the Internal Revenue Code. The final regulation significantly expands the class of advisers and the scope of investment advice that are subject to fiduciary standards, imposing the same fiduciary standards on advisers to individual retirement accounts that have historically only applied to plans covered by ERISA. The DOL also finalized certain prohibited transaction exemptions that allow investment advisers to receive compensation for providing investment advice under arrangements that would otherwise be prohibited due to conflicts of interest. Part of the DOL regulations took effect on April 10, 2017, but due to continuing actions on the part of the federal executive branch and the DOL, and also due to decisions of courts which have adjudicated the validity and continuing effect of the DOL regulations, there is substantial uncertainty regarding the general impact of the DOL regulations and the applicability of the DOL regulations to specific transactions. Because the changes required by the DOL regulations are triggering significant changes in the operations of financial advisors and broker-dealers and because of the uncertainties surrounding the DOL regulations, the status of the DOL regulations may impact our ability to raise funds. |
Item 1B – Unresolved Staff Comments
We are a smaller reporting company as defined by Rule 12b-2 of the Exchange Act and are not required to provide the information under this item.
We have not owned any real property since inception.
In the normal course of business, we may become involved in legal proceedings (such as assignment of rents, bankruptcy proceedings, appointment of receivers, unlawful detainers, judicial foreclosure, etc.) to collect the debt owed under the promissory notes, to enforce the provisions of the deeds of trust, to protect our interest in the real property subject to the deeds of trust and to resolve disputes with borrowers, lenders, lien holders and mechanics. None of these actions, in and of themselves, typically would be of any material financial impact to the net income or balance sheet of the company. As of the date hereof, we are not involved in any legal proceedings other than those that would be considered part of the normal course of business.
Item 4 – Mine Safety Disclosures
Not Applicable.
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Item 5 – Market for the Registrant’s Units, Related Unitholder Matters and Issuer Purchases of Equity Securities
Investors will have limited ability to sell their units. Our units are not listed on an exchange or quoted through a quotation system, and there is no secondary market nor do we expect that any will develop in the foreseeable future. Units are not freely transferable, and they may not be acceptable by a lender as security for borrowing. Our operating agreement also imposes substantial restrictions upon your ability to transfer units. Therefore, an investment in our units is not suitable for investors who expect to require short-term liquidity from their investments. See “Liquidity and unit redemptions program” in Part I of this Report. As of February 28, 2019, we had approximately 1,400 unit holders, who held 80,340,505 units.
Recent sales of unregistered securities
All sales of our units within the past three years were registered under the Securities Act.
Ongoing public offerings of units/ SEC registrations
Since October 2009, we have offered and sold units pursuant to registration statements on Form S-11. In June 2016, the company’s Registration Statement on Form S-11 filed with the SEC (SEC File No. 333-208315) to offer up to 120,000,000 units ($120,000,000) to the public and 20,000,000 units ($20,000,000) to its members pursuant to the distribution reinvestment plan (DRIP) became effective and continues in effect for up to three (3) years thereafter. As of December 31, 2018, the company had sold approximately 85,941,000 units– 39,407,000 units under previous registration statements and approximately 46,534,000 units under the June 2016 registration statement. Correspondingly, gross proceeds from unit sales at $1 per unit (including units issued under the distribution reinvestment plan) were approximately $39,407,000 and $46,534,000, respectively.
The units have been registered pursuant to Section 12(g) of the Exchange Act of 1934 (or the Exchange Act). Such registration of the units, along with the satisfaction of certain other requirements under ERISA, enables the units to qualify as “publicly-offered securities” for purposes of ERISA and regulations issued thereunder. By satisfying those requirements, the underlying assets of the company should not be considered assets of a “benefit plan investor” (as defined under ERISA) by virtue of the investment by such benefit plan investor in the units.
The June 2016 registration statement expires June 6, 2019, and unit sales to other than members of record or their successors as of April 30, 2019 will cease due to the company electing not to update its S-11 filing prior to April 30, 2019, as doing so would not be cost effective. Redwood Mortgage Corp. (RMC) is considering a registration statement to be filed in the second quarter of 2019 to continue to offer units pursuant to the DRIP.
Proceeds from sales of units from inception (October 2009) through December 31, 2018 are summarized below.
| Proceeds |
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From investors - admitted | $ | 76,938,987 |
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From members under our DRIP |
| 8,653,123 |
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From premiums paid by RMC(1) |
| 349,199 |
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Total proceeds from unit sales | $ | 85,941,309 |
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| (1) | If a member acquired units through an unsolicited sale (i.e., without a broker/dealer) the member’s capital account is credited with their capital contribution plus a premium paid by RMC equal to the amount of the sales commissions that otherwise would have been paid to a broker-dealer by RMC. This premium is reported in the year paid as taxable income to the member. |
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The ongoing sources of funds for loans are the proceeds (net of redemption of members’ capital and operating expenses) from:
| • | sale of members’ units net of reimbursement to RMC of organization and offering expenses (“O&O expenses”) and net of amounts advanced for the formation loan to RMC; |
| • | units sold pursuant to our DRIP; |
| • | payments from RMC on the outstanding balance of the formation loan; |
| • | borrowers’ monthly principal and interest payments; |
| • | loan payoffs; |
| • | loan sales to unaffiliated 3rd parties and loan transfers by executed assignment to affiliated mortgage funds; and |
| • | a line of credit, if obtained. |
Cash generated from loan payoffs and borrower payments of principal and interest is used for operating expenses, reimbursements to RMC of O&O expenses, and unit redemptions. The cash flow, if any, in excess of these uses is reinvested in new loans.
Redemptions are made once a quarter, on the last business day of the quarter. The unit redemption program is ongoing and available to members beginning one year after the purchase of the units. The maximum number of units that may be redeemed in any year and the maximum amount of redemption available in any period to members are subject to certain limitations including, but limited to, the company will not:
| • | in any calendar year, redeem more than 5%; or |
| • | in any calendar quarter, redeem more than 1.25%, of the weighted average number of units outstanding during the twelve (12) month period immediately prior to the date of the redemption. |
In addition, the manager may, in its sole discretion, further limit the percentage of the total members’ units that may be redeemed or may adjust the timing of scheduled redemptions (including deferring withdrawals indefinitely), to the extent that such redemption would cause the company to be treated as a “publicly traded partnership” within the meaning of Section 7704 of the Code or any Treasury Regulations promulgated thereunder (determined without reference to Code Section 469(i)).
In the event that redemption requests in excess of the foregoing limitations are received by the managers, such redemption requests will be honored in the following order of priority:
| • | first, to redemptions upon the death of a member; and |
| • | next, to other redemption requests until all other requests for redemption have been met. |
All redemption requests shall be honored on a pro rata basis, based on the amount of redemption requests received in the preceding quarter plus unfulfilled redemption requests that the company was unable to honor in prior quarter(s).
On June 20, 2018, RMC, the company’s manager, approved an amendment of our Operating Agreement to delete Section 7.4(c) effective June 7, 2018. The California Department of Business Oversight (the “Department”) in connection with the company’s annual renewal of its California securities registration required that Section 7.4(c) be deleted from the Operating Agreement. Section 7.4(c) required that instruments evidencing the company’s membership interests include a legend stating it is unlawful to consummate a sale or transfer of the company’s membership interests without the prior written consent of the Commissioner of Corporations of the State of California, except as permitted in the Commissioner’s rules. The company was advised by the Department that this requirement is no longer applicable.
39
Use of Proceeds from sale of units
We will use the proceeds from the sale of the units to
| • | make additional loans; |
| • | fund working capital reserves; |
| • | pay RMC up to 4.5% of proceeds from the sale of units for organization and offering expenses; and, |
| • | fund a formation loan to RMC at up to 7% of proceeds from sale of units. |
Commissions for unit sales to be paid to broker-dealers (B/D sales commissions) and premiums paid to certain investors upon the purchase of units are paid by RMC and are not paid directly by us out of offering proceeds. Instead, the company advances to RMC, from offering proceeds, amounts sufficient to pay the B/D sales commissions and premiums to be paid to investors. Such advances in total may not exceed seven percent (7%) of offering proceeds. The receivable arising from the advances is unsecured and non-interest bearing and is referred to as the “formation loan.” As of December 31, 2018, such advances totaled $5,439,910, of which $4,179,344 remains outstanding. Please refer to the information under “—Unit sales commissions paid to broker-dealers/formation loan” in Note 1 (Organization and General) and “—Reimbursement and allocation of organization and offering expenses” in Note 3 (Manager and Related Parties) to the financial statements included in Part II, Item 8 of this report for a discussion of the formation loan and organization and offering expenses, which discussions are incorporated herein by this reference.
RMC is required to make annual payments on the formation loan in the amount of one tenth of the principal balance outstanding at December 31 of the prior year.
Distributions
Distributions totaled $4,462,623 and $3,596,449 in 2018 and 2017, respectively. See “Distribution policy” under Item 1- Business in Part I of this annual report, which discussion is incorporated by reference herein.
Distribution reinvestment plan
The DRIP provision of the Operating Agreement permits members to elect to have all or a portion of their monthly distributions reinvested in additional units. During 2018 and 2017, 2,420,528 and 1,987,151 units, respectively, were distributed to members under the DRIP.
Liquidity and unit redemption program
Units redeemed in 2018 and 2017 by quarter are presented in the following table.
Units Redeemed |
| 2018 |
|
| 2017 |
| ||
Q1 |
| $ | 403,400 |
|
| $ | 400,310 |
|
Q2 |
|
| 299,240 |
|
|
| 53,152 |
|
Q3 |
|
| 787,524 |
|
|
| 346,800 |
|
Q4 |
|
| 1,243,607 |
|
|
| 478,884 |
|
Total |
| $ | 2,733,771 |
|
| $ | 1,279,146 |
|
All redemptions are made on the last business day of the quarter, and valued at $1 per unit.
40
Fair market value / unit value
In compliance with FINRA Rule 2310 concerning direct-participation-program value per unit estimates, RMC obtained information regarding fair market valuations of the net assets and unit value as of December 31, 2018, for RMI IX. The valuations were performed with the assistance of an independent valuation firm that provides asset valuations to retirement plan sponsors, plan administrators, banking and trust companies, and ERISA plans. The fair values of the individual properties were taken from appraisals which referenced the most current available market information such as listing agreements, offers, and pending and closed sales. Industry standard valuation approaches, including the Income Approach, were utilized in deriving the fair values, as appropriate. There is no assurance that this estimated fair value of the membership units is or will remain accurate, and it does not determine the amount that a member is entitled to receive upon redemption of units. The redemption amount is determined by the applicable provisions of the Operating Agreement.
The fair value of a unit of RMI IX was determined to be $1.00, after consideration of the fair values of the net assets held, the restrictions in the unit redemption program in the Operating Agreement and the restrictions on transferability of units with consideration to the expected net distribution rate on the units.
The fair value of loan balances secured by deeds of trust, per the Market Approach, is deemed to approximate the recorded amount (per the financial statements) as our loans:
| • | are of shorter terms at origination than commercial real estate loans by institutional lenders; |
| • | are written without a prepayment penalty causing uncertainty/a lack of predictability as to the expected duration of the loan; and |
| • | have limited marketability and are not yet sellable into an established secondary market. |
The two loan sales in 2018 were negotiated between our manager and the buyer who was not yet willing to pay a significant premium commensurate with the interest rate premium of the loans and the low loan to value ratios, the location (i.e. San Francisco Bay Area and Los Angeles, coastal Southern California) and other characteristics of the underlying collateral.
For 2017 and prior year ends, the portfolio of secured loans was valued based on the application of the discounted cash flow approach as comparable loan sales were not available. Companies or individuals originating loans similar to those originated by RMC on behalf of the company typically intend to hold the loans until maturity as the average contractual term of the loans is shorter than conventional mortgages, substantially all of which have a prepayment-penalty provision.
Market Approach - The market approach measures value based on what other purchasers in the market have paid for assets that can be considered reasonably similar to those being valued. When the market approach is utilized, data are collected on the prices paid for reasonably comparable assets. Adjustments are made to the comparable assets to compensate for differences between those assets and the asset being valued. In the case of real estate for example, adjustments might be made for location, quality or construction, and/or building amenities. The application of the market approach results in an estimate of the price reasonably expected to be realized from the sale of the property.
Income Approach - The income approach is a valuation technique that provides an estimation of the fair value of an asset, such as RMI IX’s loans, based on the cash flows that an asset can be expected to generate over its estimated remaining economic term. This approach begins with an estimation of the annual cash flows a prudent investor would expect the subject asset to generate over a discrete projection period. The estimated cash flows for each of the years in the discrete projection period are then converted to their present value equivalent using a rate of return appropriate for the risk of achieving the asset’s projected cash flows.
Item 6 – Selected Financial Data
We are a smaller reporting company as defined by Rule 12b-2 of the Exchange Act and are not required to provide the information under this item.
41
Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis should be read in conjunction with the audited financial statements and notes thereto, which are included in Part II, Item 8 of this report.
Manager and Other Related Parties
See Notes 1 (Organization and General) and 3 (Manager and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for a detailed presentation of the company activities for which related parties are compensated and related transactions, including the formation loan to RMC, which presentation is incorporated by this reference into this Item 7.
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”). requires management to make estimates and assumptions about the reported amounts of assets and liabilities, and disclosures of contingent assets and liabilities, at the dates of the financial statements and the reported amounts of revenues and expenses during the reported periods. Such estimates relate principally to the determination of the allowance for loan losses, including, when applicable, the valuation of impaired loans (which itself requires determining the fair value of the collateral), and the valuation of real estate held for sale and held as investment, at acquisition and subsequently. Actual results could differ significantly from these estimates.
Fair value estimates
GAAP defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.
Fair values of assets and liabilities are determined based on the fair-value hierarchy established in GAAP. The hierarchy is comprised of three levels of inputs to be used:
| • | Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the company has the ability to access at the measurement date. An active market is a market in which transactions occur with sufficient frequency and volume to provide pricing information on an ongoing basis. |
| • | Level 2 inputs are inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly in active markets and quoted prices for identical assets or liabilities that are not active, and inputs other than quoted prices that are observable or inputs derived from or corroborated by market data. |
| • | Level 3 inputs are unobservable inputs for the asset or liability. Unobservable inputs reflect the company’s own assumptions about the assumptions market participants would use in pricing the asset or liability (including assumptions about risk). Unobservable inputs are developed based on the best information available in the circumstances and may include the company’s own data. |
The fair value of collateral is determined by exercise of judgment based on management’s experience informed by appraisals (by licensed appraisers), brokers’ opinion of values and publicly available information on in-market transactions. Appraisals of commercial real property generally present three approaches to estimating value: 1) market comparables or sales approach; 2) cost to replace; and 3) capitalized cash flows or investment approach. These approaches may or may not result in a common, single value. The market-comparables approach may yield several different values depending on certain basic assumptions, such as, determining highest and best use (which may or may not be the current use); determining the condition (e.g., as-is, when-completed or for land when-entitled); and determining the unit of value (e.g., as a series of individual unit sales or as a bulk disposition).
42
Management has the requisite familiarity with the real estate markets it lends in generally and of the properties lent on specifically to analyze sales-comparables and assess their suitability/applicability. Management is acquainted with market participants – investors, developers, brokers, lenders – that are useful, relevant secondary sources of data and information regarding valuation and valuation variability. These secondary sources may have familiarity with and perspectives on pending transactions, successful strategies to optimize value and the history and details of specific properties – on and off the market – that enhance the process and analysis that is particularly and principally germane to establishing value in distressed markets and/or property types.
Allowance for loan losses
Loans and the related accrued interest and advances (i.e. the loan balance) are analyzed on a periodic basis for ultimate recoverability. Collateral fair values are reviewed quarterly and the protective equity for each loan is computed. As used herein, “protective equity” is the dollar amount by which the fair value of the collateral, net of any senior liens exceeds the loan balance, where “loan balance” is the sum of the unpaid principal, advances and the recorded interest thereon. This computation is done for each loan (whether impaired or performing), and while loans secured by collateral of similar property type are grouped, there is enough distinction and variation in the collateral that a loan-by-loan, collateral-by-collateral analysis is appropriate.
For loans designated impaired, a provision is made for loan losses to adjust the allowance for loan losses to an amount such that the net carrying amount (unpaid principal less the specific allowance) is reduced to the lower of the loan balance or the estimated fair value of the related collateral, net of any senior loans and net of any costs to sell in arriving at net realizable value.
Loans determined not to be individually impaired are grouped by the property type of the underlying collateral, and for each loan and for the total by property type, the amount of protective equity or amount of exposure to loss (i.e., the dollar amount of the deficiency of the fair value of the underlying collateral to the loan balance) is computed.
The company charges off uncollectible loans and related receivables directly to the allowance account once it is determined the full amount is not collectible.
At foreclosure any excess of the recorded investment in the loan (accounting basis) over the net realizable value is charged against the allowance for loan losses.
Real estate owned (REO)
Real estate owned, or REO, is property acquired in full or partial settlement of loan obligations generally through foreclosure, and is recorded at acquisition at the property’s net realizable value, which is the fair value less estimated costs to sell, as applicable. After acquisition, costs incurred relating to the development and improvement of property are capitalized to the extent they do not cause the recorded value to exceed the net realizable value, whereas costs relating to holding and disposition of the property are expensed as incurred. After acquisition, REO is analyzed periodically for changes in fair values and any subsequent write down is charged to operations expenses. Any recovery in the fair value subsequent to such a write down is recorded and is not to exceed the value recorded at acquisition. Recognition of gains on the sale of real estate is dependent upon the transaction meeting certain criteria related to the nature of the property and the terms of the sale including potential seller financing.
43
Results of Operations
General economic conditions – California
All of our mortgage loans are secured by California real estate. Our secured-loan investment activity and the value of the real estate securing our loans is dependent significantly on economic activity and employment conditions in the California. Wells Fargo’s Economics Group periodically provides timely, relevant information and analysis in its reports and commentary regarding California’s employment and economic conditions. Highlights from a recently issued report from Wells Fargo Securities Economics Group is presented below.
In the publication “A Modest Start to 2019 for California Payrolls” dated March 12, 2019:
Nonfarm employers added just 3,000 net new jobs during January. Strong gains in professional & business services (4,200) and healthcare (5,600) were nearly wiped out by a sharp 7,200 decline in the trade, transportation & utilities sector.
Through the monthly volatility, hiring has moderated recently. Job gains have averaged 15,200 over the past three months, below the 35,800 averaged over the same period last year.
The unemployment rate ticked up to 4.2% during the month as a 0.3% gain the labor force out-paced a 0.2% rise in household employment. The number of unemployed increased to 817,600.
January's data include annual benchmark revisions, which reflect actual employment counts from the QCEW and updated seasonal factors. Employment growth was 1.6% in 2018, just a touch slower than the initial estimate of 1.7%.
44
Key performance indicators
Key performance indicators are presented in the following table for 2018 and 2017.
|
| 2018 |
|
| 2017 |
|
| ||
Secured loans – end of period balance |
| $ | 62,115,713 |
|
| $ | 54,768,689 |
|
|
Secured loans – average daily balance |
| $ | 61,069,000 |
|
| $ | 47,410,000 |
|
|
Portfolio interest rate(1) |
|
| 8.50 | % |
|
| 8.52 | % |
|
|
|
|
|
|
|
|
|
|
|
Interest on loans, gross |
| $ | 5,206,579 |
|
| $ | 4,031,706 |
|
|
Effective yield rate(2) |
|
| 8.53 | % |
|
| 8.52 | % |
|
|
|
|
|
|
|
|
|
|
|
Amortization of loan administrative fees, net(7) |
| $ | 5,878 |
|
| $ | — |
|
|
|
|
|
|
|
|
|
|
|
|
Interest on loans, net |
| $ | 5,200,702 |
|
| $ | 4,031,706 |
|
|
Percent of average daily balance(2) |
|
| 8.52 | % |
|
| 8.50 | % |
|
|
|
|
|
|
|
|
|
|
|
Provision for loan losses |
| $ | — |
|
| $ | — |
|
|
Percent of average daily balance(2) |
|
| 0.00 | % |
|
| 0.00 | % |
|
|
|
|
|
|
|
|
|
|
|
Total operations expense(7) |
| $ | 457,848 |
|
| $ | 185,599 |
|
|
|
|
|
|
|
|
|
|
|
|
Net Income(7) |
| $ | 4,790,272 |
|
| $ | 3,869,045 |
|
|
Percent of average members’ capital(3)(4) |
|
| 6.40 | % |
|
| 6.96 | % |
|
|
|
|
|
|
|
|
|
|
|
Member Distributions, net |
| $ | 4,462,623 |
|
| $ | 3,596,449 |
|
|
Percent of average members’ capital(3)(4)(5) |
|
| 5.95 | % |
|
| 6.54 | % |
|
|
|
|
|
|
|
|
|
|
|
Members’ capital, gross – end of period balance |
| $ | 79,198,453 |
|
| $ | 66,450,424 |
|
|
Members’ capital, gross – average daily balance |
| $ | 74,469,000 |
|
| $ | 55,007,000 |
|
|
|
|
|
|
|
|
|
|
|
|
Member Redemptions(6) |
| $ | 2,733,771 |
|
| $ | 1,279,146 |
|
|
(1) | Stated note interest rate of secured loans - weighted daily average |
(2) | Percent of secured loans – average daily balance |
(3) | Percent of members’ capital, gross – average daily balance |
(4) | Percent based on the net income available to members (excluding 1% allocated to the manager) |
(5) | Members Capital Distributed during 2018 is net of O&O costs allocated to members during the year. |
(6) | Scheduled member redemptions as of December 31, 2018 were $1,253,669, payable in 2019. Scheduled member redemptions as of December 31, 2017 were $584,149. |
(7) See Note 3 (Manager and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for a detailed discussion on fees waived and costs absorbed by the manager, which presentation is incorporated by this reference into this Item 7.
Secured loans
The secured loan balance at December 31, 2018 of $62,115,713 was an increase of approximately 13.4% ($7.3 million) over 2017’s $54,768,689.The increased balance of the secured loan portfolio is due to the 1) increased balance of members’ capital which provides additional capital for funding loans, and 2) the favorable economic environment generally and to increased investment in California real estate markets specifically, both of which expand the opportunity for new loans. Secured loans as a percent of member’s capital (based on average balances) was 82.0% and 86.2% for 2018 and 2017, respectively.
45
Loans generally are funded at a fixed interest rate with a loan term of up to five years. Loans acquired are generally done so within the first six months of origination, and purchased at the current par value, which approximates fair value. As of December 31, 2018, 77 of the company’s 83 loans (representing 97% of the aggregate principal of the company’s loan portfolio) had a loan term of five years or less from loan inception. The remaining loans had terms longer than five years. Substantially all loans are written without a prepayment-penalty provision. As of December 31, 2018, 60 loans outstanding (representing 62% of the aggregate principal balance of the company’s loan portfolio) provide for monthly payments of principal and interest, typically calculated on a 30-year amortization, with the remaining principal balance due at maturity. The remaining loans provide for monthly payments of interest only, with principal due in full at maturity.
We have sought to exercise strong discipline in underwriting loan applications and lending against collateral at amounts that create a mortgage portfolio that has substantial protective equity (i.e., safety margins to outstanding debt) as indicated by the overall conservative weighted average loan-to-value ratio (LTV) which at December 31, 2018 was approximately 54.5%. Thus, per the appraisal-based valuations at the time of loan inception, borrowers have, in the aggregate, equity of 45.5% in the property, and we as lenders have lent in the aggregate 54.5% (including other senior liens on the property) against the properties we hold as collateral for the repayment of our loans.
On June 27, 2018 and December 12, 2018, the company closed on the sales of whole loans (servicing released) comprising a combined principal of $21,995,851 and interest owing of $102,658 to an unaffiliated bank pursuant to an Asset Sale Agreement. The Asset Sale Agreement contains customary representations, warranties, and covenants. The loan sale transactions were arranged by a third-party, unaffiliated national firm engaged by RMC. The transactions generated an immaterial gain (net of expenses). Loan sales do provide the opportunity to redeploy the proceeds, possibly on better terms than the loans that were sold. Further, the loan originations generate fees to RMC under the Operating Agreement, which could enable RMC to retain staff and management, repay the formation loan which was the source of funds to pay commissions to broker-dealers for raising the company’s capital, to pay unreimbursed O&O expenses, and to have RMC’s cash flow exceed the carrying value of its intangible assets.
At December 31, 2018 and 2017 the company held no loans classified as held-for-sale. The determination that loans would be classified as held-for-sale in compliance with GAAP criteria and the completion of the sale occurred within the same reporting periods in 2018.
See Note 4 (Loans) to the financial statements included in Part II, Item 8 of this report for detailed presentations on the secured loan portfolio and on the allowance for loan losses, which presentations are incorporated by this reference into this Item 7.
Performance overview
Revenue from the interest on loans, net in 2018 increased by approximately $1,169,000, over 2017, due to the increased average loan balance of the secured loan portfolio. Operations expense for 2018 increased by approximately $272,000, over 2017 due primarily to the termination of financial support from RMC of our direct operating expenses (e.g., professional services and other direct operating expenses) beginning April 1, 2018, and an increase in mortgage servicing fee expense due to an increased loan portfolio. The net distribution rate, as an annualized percentage of members’ capital, at December 31, 2018 was 5.70%. The net distribution rate for the twelve months ending December 31, 2018 was 5.95%. In all periods presented, the manager, at its sole discretion, provided financial support that increased net income and the return to investors.
46
For the years ended December 31, 2018 and 2017 financial support from RMC totaled approximately $2,031,000 and $1,646,000, respectively. The total financial support increased year over year, however the amount of direct cash support in the form of expenses absorbed by RMC decreased from approximately $370,000 in 2017 to approximately $157,000 in 2018. The amount of support in the form of waived fees, such as loan administrative fees, asset management fees, and costs from RMC, increased during the same period due to increased loan and capital balances. The loan and capital balances are used as a base for the calculation for fees charged by RMC, and increases or decreases in the balances will have a similar effect on the total amount chargeable by RMC. The decision to waive all or a portion of these fees is made by RMC, in its sole discretion. RMC had communicated in March 2018 its intent, for the company to be paying RMC in full the fees and reimbursements for the qualifying costs attributable to the company entitled to the manager under the Operating Agreement by July 2019. As of March 2019, while reserving its right to collect the amounts owing to it under Operating Agreement, RMC plans to phase in the collection of the asset management fee of 75 basis points (0.75%) during 2019, such that the full chargeable amount of the asset management fee will be collected in the 4th quarter of 2019, and there will be a similar incremental phase in of the collection of the cost reimbursements in 2020. See Note 3 (Manager and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for a detailed discussion on fees waived and costs absorbed by the manager, which presentation is incorporated by this reference into this Item 7.
Analysis and discussion of income from operations 2018 v. 2017
Significant changes to revenue and expenses during 2018 and 2017 are summarized in the following table.
|
| Interest on loans, net |
|
| Provision For Loan Losses |
|
| Operations Expense |
|
| Net Income |
| ||||
For the years ended |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2018 |
| $ | 5,200,702 |
|
|
| — |
|
|
| 457,848 |
|
|
| 4,790,272 |
|
December 31, 2017 |
|
| 4,031,706 |
|
|
| — |
|
|
| 185,599 |
|
|
| 3,869,045 |
|
Change |
| $ | 1,168,996 |
|
|
| — |
|
|
| 272,249 |
|
|
| 921,227 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan balance increase |
| $ | 1,158,649 |
|
|
| — |
|
|
| 35,168 |
|
|
| 1,123,481 |
|
Loan portfolio effective yield rate |
|
| 10,347 |
|
|
| — |
|
|
| — |
|
|
| 10,347 |
|
Gain on sale, loans |
|
| — |
|
|
| — |
|
|
| — |
|
|
| 27,133 |
|
Late fees |
|
| — |
|
|
| — |
|
|
| — |
|
|
| (2,653 | ) |
Capital balance increase |
|
| — |
|
|
| — |
|
|
| 315,931 |
|
|
| (315,931 | ) |
RMC fees/costs waived |
|
| — |
|
|
| — |
|
|
| (315,931 | ) |
|
| 315,931 |
|
Reduced support from RMC |
|
| — |
|
|
| — |
|
|
| 212,620 |
|
|
| (212,620 | ) |
Other |
|
| — |
|
|
| — |
|
|
| 24,461 |
|
|
| (24,461 | ) |
Change |
| $ | 1,168,996 |
|
|
| — |
|
|
| 272,249 |
|
|
| 921,227 |
|
The table above displays only significant changes to net income for the period, and is not intended to cross foot.
See Note 3 (Manager and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for a detailed discussion on fees waived and costs absorbed by the manager, which presentation is incorporated by this reference into this Item 7. See “Performance Overview” for a discussion of RMC’s plans to reduce and eventually eliminate fee waivers and cost absorptions.
47
Interest on loans, net
Interest on loans increased due to growth of the secured loan portfolio. The portfolio has a strong payment history, with two loans (representing 0.9% of the aggregate principal balance of the company’s loan portfolio) currently designated as in non-accrual status. The Secured loans – average daily balance at December 31, 2018 increased approximately $13.7 million, or approximately 28.8%, over the average daily balance at December 31, 2017.
Provision for loan losses
At December 31, 2018 and 2017, the company had not recorded an allowance for loan losses as all loans had protective equity such that at December 31, 2018 and 2017, collection was deemed probable for amounts owed by the borrower.
Total principal amounts past due more than 90 days at December 31, 2018 and 2017 were $565,685 and $139,643 (representing 0.9% and 0.3% of the aggregate principal balance), respectively.
Operations expense
Operations expense as a percent of interest on loans, net was approximately 8.8% and 4.6% during 2018, and 2017, respectively. The increase in in operations expense was due primarily to RMC ceasing to absorb our direct operating expenses (e.g., professional service expense and other direct operating expenses), and an increase in the mortgage servicing fees due to an increased average daily loan balance in the secured loan portfolio.
Significant changes to operations expense during 2018 and 2017, are summarized in the following table.
|
| Mortgage Servicing Fees |
|
| Asset Management Fees, net |
|
| Costs From RMC, net |
|
| Professional Services, net |
|
| Other |
|
| Total |
| ||||||
For years ended |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2018 |
| $ | 151,457 |
|
|
| — |
|
|
| — |
|
|
| 289,053 |
|
|
| 17,338 |
|
|
| 457,848 |
|
December 31, 2017 |
|
| 116,289 |
|
|
| — |
|
|
| — |
|
|
| 63,053 |
|
|
| 6,257 |
|
|
| 185,599 |
|
Change |
| $ | 35,168 |
|
|
| — |
|
|
| — |
|
|
| 226,000 |
|
|
| 11,081 |
|
|
| 272,249 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan balance increase |
| $ | 35,168 |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| 35,168 |
|
Capital balance increase |
|
| — |
|
|
| 112,716 |
|
|
| 203,215 |
|
|
| — |
|
|
| — |
|
|
| 315,931 |
|
RMC fees/costs waived |
|
| — |
|
|
| (112,716 | ) |
|
| (203,215 | ) |
|
| — |
|
|
| — |
|
|
| (315,931 | ) |
Reduced support from RMC |
|
| — |
|
|
| — |
|
|
| — |
|
|
| 192,151 |
|
|
| 20,469 |
|
|
| 212,620 |
|
Other |
|
| — |
|
|
| — |
|
|
| — |
|
|
| 33,849 |
|
|
| (9,388 | ) |
|
| 24,461 |
|
Change |
| $ | 35,168 |
|
|
| — |
|
|
| — |
|
|
| 226,000 |
|
|
| 11,081 |
|
|
| 272,249 |
|
See Note 3 (Manager and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for a detailed discussion on fees waived and costs absorbed by the manager, which presentation is incorporated by this reference into this Item 7. See “Performance Overview” for a discussion of RMC’s plans to reduce and eventually eliminate fee waivers and cost absorptions.
Mortgage servicing fees
The increase in mortgage servicing fees of $35,168 was consistent with the increase in the average daily secured loan portfolio to $61,069,000, noted above in Key Performance Indicators, at the annual rate of 0.25%.
Asset management fees
The total amount of asset management fees chargeable were $419,820 and $307,104 for the years ended December 31, 2018 and 2017, respectively. The increase in asset management fees chargeable was due to the increase in total capital. Total members capital at December 31, 2018 and 2017 was approximately $79,198,000 and $66,450,000. Of the total amount chargeable, RMC, at its sole discretion, waived all asset management fees for the years ended December 31, 2018 and 2017, respectively.
48
The asset management fee is chargeable in an amount up to three-quarters of one percent (0.75%) annually of the portion of the capital originally committed to investment in mortgages, not including leverage, and including up to two percent (2%) of working capital reserves. This amount will be recomputed annually after the second full year of operations by subtracting from the then fair value of the company’s loans plus working capital reserves, an amount equal to the outstanding debt.
Costs from RMC, net
Cost incurred by RMC, for which reimbursement could have been requested were $744,901 and $541,686 for the years ended December 31, 2018 and 2017, respectively. RMC, at its sole discretion, waived all reimbursements for the years ended December 31, 2018 and 2017. The increase in costs from RMC, net chargeable was due primarily to an increase to the average daily balance of members’ capital.
RMC, per the Operating Agreement, may request reimbursement by the company for operations expense incurred on behalf of the company, including without limitation, postage and preparation of reports to members and out-of-pocket general and administration expenses. Certain of these qualifying costs (e.g., postage) can be tracked by RMC as specifically attributable to the company. Other costs (e.g., RMC’s accounting and audit fees, legal fees and expenses, qualifying payroll expenses, occupancy, and insurance premium) are allocated on a pro-rata basis (e.g., by the company’s percentage of total capital of all mortgage funds managed by RMC). Payroll and consulting fees are broken out first based on activity, and then allocated to the company on a pro-rata basis based on percentage of capital to the total capital of all mortgage funds.
Professional services
Professional services consist primarily of legal, audit and tax-compliance expenses. Professional service expense incurred during the years ended December 31, 2018 and 2017 was $432,205 and $398,356, respectively. The increase in professional service expense incurred of $33,849 was due primarily to an increase in audit and legal expenses relating to regulatory compliance. Beginning April 1, 2018, RMI IX paid for all professional service expenses directly. Prior to April 1, 2018, RMC, at its sole discretion, had elected to absorb some or all of RMI IX’s expenses for professional services. During the years ended December 31, 2018 and 2017, RMC, in its sole discretion, reimbursed $143,152 and $335,303 of professional services, respectively.
Summary comparison – 4th quarter v. 3rd quarter
Significant changes to income or expense items for the three-month period ended December 31, 2018 compared to the three-month period ended September 30, 2018 is summarized in the following table.
|
| Interest on loans, net |
|
| Provision For Loan Losses |
|
| Operations Expense |
|
| Net Income |
| ||||
For the three months ended |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2018 |
| $ | 1,402,011 |
|
|
| — |
|
|
| 157,910 |
|
|
| 1,262,258 |
|
September 30, 2018 |
|
| 1,305,044 |
|
|
| — |
|
|
| 128,665 |
|
|
| 1,181,152 |
|
Change |
| $ | 96,967 |
|
|
| — |
|
|
| 29,245 |
|
|
| 81,106 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan balance increase |
| $ | 85,331 |
|
|
| — |
|
|
| 5,047 |
|
|
| 80,284 |
|
Loan Portfolio Effective Yield Rate |
|
| 11,636 |
|
|
| — |
|
|
| — |
|
|
| 11,636 |
|
Gain on sale, loans |
|
| — |
|
|
| — |
|
|
| — |
|
|
| 12,887 |
|
Late fees |
|
| — |
|
|
| — |
|
|
| — |
|
|
| 497 |
|
Capital balance increase |
|
| — |
|
|
| — |
|
|
| 9,848 |
|
|
| (9,848 | ) |
RMC fees/costs waived |
|
| — |
|
|
| — |
|
|
| (9,848 | ) |
|
| 9,848 |
|
Other |
|
| — |
|
|
| — |
|
|
| 24,198 |
|
|
| (24,198 | ) |
Change |
| $ | 96,967 |
|
|
| — |
|
|
| 29,245 |
|
|
| 81,106 |
|
The table above displays only significant changes to net income for the period, and is not intended to cross foot.
49
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Members’ capital, cash flows and liquidity
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows by business activity are presented in the following table for 2018 and 2017.
|
| 2018 |
|
| 2017 |
| ||
Members’ capital |
|
|
|
|
|
|
|
|
Contributions by members |
| $ | 10,479,930 |
|
| $ | 22,214,654 |
|
Organization and offering costs, net |
|
| (510,692 | ) |
|
| (876,620 | ) |
Formation loan, net |
|
| (434,325 | ) |
|
| (1,274,451 | ) |
Distributions and redemptions, net |
|
| (4,814,556 | ) |
|
| (2,914,528 | ) |
Cash – members’ capital, net |
|
| 4,720,357 |
|
|
| 17,149,055 |
|
Loan principal/advances/interest |
|
|
|
|
|
|
|
|
Principal collected |
| $ | 41,506,194 |
|
| $ | 27,081,592 |
|
Loans sold to non-affiliate, net |
|
| 22,128,128 |
|
|
| — |
|
Loans transferred to affiliates |
|
| — |
|
|
| 999,995 |
|
Interest received, net |
|
| 5,042,952 |
|
|
| 3,930,881 |
|
Other loan income |
|
| 18,499 |
|
|
| 23,038 |
|
Loan funding & advances, net |
|
| (64,966,301 | ) |
|
| (42,716,323 | ) |
Loans transferred from affiliates |
|
| (5,889,819 | ) |
|
| — |
|
Cash – loans, net |
|
| (2,160,347 | ) |
|
| (10,680,817 | ) |
|
|
|
|
|
|
|
|
|
Operations expense |
|
| (394,909 | ) |
|
| (155,640 | ) |
|
|
|
|
|
|
|
|
|
Deposit on line of credit |
|
| — |
|
|
| 2,400 |
|
|
|
|
|
|
|
|
|
|
Net change in cash |
| $ | 2,165,101 |
|
| $ | 6,314,998 |
|
Distributions breakout by type are presented in the following table for 2018 and 2017.
|
| 2018 |
|
| 2017 |
| ||
DRIP |
| $ | 2,420,528 |
|
| $ | 1,987,151 |
|
Cash |
|
| 2,042,095 |
|
|
| 1,609,298 |
|
Total |
| $ | 4,462,623 |
|
| $ | 3,596,449 |
|
Percent of members’ capital, electing cash distribution |
|
| 46 | % |
|
| 45 | % |
Unit redemptions subject to penalty are presented in the following table for 2018 and 2017.
|
| 2018 |
|
| 2017 |
| ||
Capital redemptions-without penalty |
| $ | 1,923,685 |
|
| $ | 747,234 |
|
Capital redemptions-subject to penalty |
|
| 810,086 |
|
|
| 531,912 |
|
Total |
| $ | 2,733,771 |
|
| $ | 1,279,146 |
|
Scheduled redemptions at December 31, 2018 were $1,253,669, to be paid in 2019.
The ongoing sources of funds for loans are the proceeds (net of redemption of members’ capital and operating expenses) from:
| • | sale of members’ units net of reimbursement to RMC of O&O expenses and net of amounts advanced for the formation loan to RMC; |
| • | units sold pursuant to the DRIP; |
| • | payments from RMC on the outstanding balance of the formation loan; |
| • | borrowers’ monthly principal and interest payments; |
| • | loan payoffs; |
| • | loan sales to unaffiliated 3rd parties and loan transfers by executed assignment to affiliated mortgage funds; and |
50
| • | a line of credit, if obtained. |
The company’s loans generally have shorter maturity terms than typical mortgages. As a result, constraints on the ability of our borrowers to refinance their loans at maturity possibly would have a negative impact on their ability to repay their loans. In the event a borrower is unable to repay at maturity, the company may consider extending the term through a loan modification or foreclosing on the property. A reduction in loan repayments would reduce the company’s cash flows and restrict the company’s ability to invest in new loans and/or, if ongoing for an extended period, provide earnings distributions and redemptions of members’ capital.
Generally, within a broad range, the company’s rates on mortgage loans is not affected by market movements in interest rates. If, as expected, we continue to make and invest in fixed rate loans primarily, and interest rates were to rise, a possible result would be lower prepayments of the company’s loans. This increase in the duration of time loans are on the books may reduce overall liquidity, which itself may reduce the company’s investment into new loans at higher interest rates. Conversely, if interest rates were to decline, we could see a significant increase in borrower prepayments. If we then invest in new loans at lower rates of interest, a lower yield to members may possibly result.
|
|
|
|
|
|
|
|
|
Contractual obligations
Scheduled redemptions of members' capital as of December 31, 2018 are presented in the following table.
2019 |
| $ | 1,253,669 |
|
2020 |
|
| — |
|
2021 |
|
| — |
|
2022 |
|
| — |
|
Total |
| $ | 1,253,669 |
|
The company is obligated, per the Operating agreement, to reimburse RMC for O&O expenses at 4.5% of gross proceeds of future unit sales. As of December 31, 2018, RMC had incurred $3,510,299 of O&O expenses in excess of the 4.5% cap, and which may be reimbursed to RMC contingent upon the proceeds of future unit sales and future O&O expenses incurred by RMC.
At December 31, 2018, the company had no construction or rehabilitation loans outstanding.
The company has no off-balance sheet arrangements as such arrangements are not permitted by the Operating Agreement.
51
Item 7A – Quantitative and Qualitative Disclosures About Market Risk
We are a smaller reporting company as defined by Rule 12b-2 of the Exchange Act and are not required to provide the information under this item.
Item 8 – Financial Statements and Supplementary Data
A – Financial Statements
The following financial statements of Redwood Mortgage Investors IX, LLC at and for the years ended December 31, 2018 and 2017 are included in Item 8:
| 53 | |
| 54 | |
| 55 | |
| 56 | |
| 57 | |
| 58 |
B – Financial Statement Schedules
None.
52
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Members
Redwood Mortgage Investors IX, LLC
San Mateo, California
Opinion on the Financial Statements
We have audited the accompanying balance sheets of Redwood Mortgage Investors IX, LLC (a Delaware Limited Liability Company) (the “Company”) as of December 31, 2018 and 2017, the related statements of income, changes in members’ capital, and cash flows for each of the two years in the period ended December 31, 2018, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2018 and 2017, and the results of their operations and their cash flows for each of the two years in the period ended December 31, 2018, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Emphasis of a Matter
As discussed in Note 3, in 2018 and 2017 Redwood Mortgage Corp (the “Manager”), at its sole discretion, provided financial support to the Company that improved net income and the return to investors in the form of waived fees, and by the decision not to seek reimbursement for certain operating costs incurred by the Manager for which reimbursement is allowable under the operating agreement. Collectively, these actions increased net income to the Company during the years ended December 31, 2018 and 2017 by approximately $2,030,610 and $1,646,077, respectively.
/s/ BDO USA, LLP
We have served as the Company's auditor since 2015.
San Francisco, California
April 1, 2019
53
REDWOOD MORTGAGE INVESTORS IX, LLC
December 31, 2018 and 2017
|
| 2018 |
|
| 2017 |
| ||
ASSETS |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
| $ | 10,674,953 |
|
| $ | 8,509,852 |
|
Loans |
|
|
|
|
|
|
|
|
Principal |
|
| 62,115,713 |
|
|
| 54,768,689 |
|
Advances |
|
| 21,041 |
|
|
| 13,989 |
|
Accrued interest |
|
| 473,966 |
|
|
| 409,867 |
|
Loan balances secured by deeds of trust |
|
| 62,610,720 |
|
|
| 55,192,545 |
|
Loan administrative fees, net |
|
| — |
|
|
| 9,008 |
|
Total assets |
| $ | 73,285,673 |
|
| $ | 63,711,405 |
|
|
|
|
|
|
|
|
|
|
LIABILITIES, INVESTORS IN APPLICANT STATUS, AND MEMBERS’ CAPITAL |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities - Accounts payable and accrued liabilities |
| $ | 9,321 |
|
| $ | 180 |
|
|
|
|
|
|
|
|
|
|
Commitments and contingencies (Note 5) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investors in applicant status |
|
| 651,500 |
|
|
| 3,270,312 |
|
|
|
|
|
|
|
|
|
|
Members’ capital, net |
|
| 76,804,195 |
|
|
| 64,218,001 |
|
Receivable from manager (formation loan) |
|
| (4,179,343 | ) |
|
| (3,777,088 | ) |
Members’ capital, net, less formation loan |
|
| 72,624,852 |
|
|
| 60,440,913 |
|
Total liabilities, investors in applicant status and members’ capital |
| $ | 73,285,673 |
|
| $ | 63,711,405 |
|
The accompanying notes are an integral part of these financial statements.
54
REDWOOD MORTGAGE INVESTORS IX, LLC
For the Years Ended December 31, 2018 and 2017
|
| 2018 |
|
| 2017 |
| ||
Revenues, net |
|
|
|
|
|
|
|
|
Interest income |
|
| 5,200,702 |
|
| $ | 4,031,706 |
|
Late fees |
|
| 20,285 |
|
|
| 22,938 |
|
Gain on sale, loans |
|
| 27,133 |
|
|
| — |
|
Total revenues |
|
| 5,248,120 |
|
|
| 4,054,644 |
|
|
|
|
|
|
|
|
|
|
Provision for loan losses |
|
| — |
|
|
| — |
|
|
|
|
|
|
|
|
|
|
Operations expense |
|
|
|
|
|
|
|
|
Mortgage servicing fees |
|
| 151,457 |
|
|
| 116,289 |
|
Asset management fees, net (Note 3) |
|
| — |
|
|
| — |
|
Costs from Redwood Mortgage Corp., net (Note 3) |
|
| — |
|
|
| — |
|
Professional services, net (Note 3) |
|
| 289,053 |
|
|
| 63,053 |
|
Other |
|
| 17,338 |
|
|
| 6,257 |
|
Total operations expense |
|
| 457,848 |
|
|
| 185,599 |
|
Net income |
| $ | 4,790,272 |
|
| $ | 3,869,045 |
|
Members (99%) |
|
| 4,742,369 |
|
|
| 3,830,355 |
|
Managers (1%) |
|
| 47,903 |
|
|
| 38,690 |
|
|
| $ | 4,790,272 |
|
| $ | 3,869,045 |
|
The accompanying notes are an integral part of these financial statements.
55
REDWOOD MORTGAGE INVESTORS IX, LLC
Statements of Changes in Members’ Capital
For the Years Ended December 31, 2018 and 2017
|
|
|
|
|
| Members' Capital, net |
| |||||||||||||
|
| Investors In Applicant Status |
|
| Members’ Capital |
|
| Manager’s Capital |
|
| Unallocated Organization and Offering Expenses |
|
| Members’ Capital, net |
| |||||
Balance at December 31, 2017 |
| $ | 3,270,312 |
|
| $ | 66,450,424 |
|
| $ | 102,902 |
|
| $ | (2,335,325 | ) |
| $ | 64,218,001 |
|
Contributions on application |
|
| 10,413,923 |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
Contributions admitted to members' capital |
|
| (13,025,630 | ) |
|
| 13,025,630 |
|
|
| 13,085 |
|
|
| — |
|
|
| 13,038,715 |
|
Premiums paid on application by RMC |
|
| 52,990 |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
Premiums admitted to members' capital |
|
| (60,095 | ) |
|
| 60,095 |
|
|
| — |
|
|
| — |
|
|
| 60,095 |
|
Net income |
|
| — |
|
|
| 4,742,369 |
|
|
| 47,903 |
|
|
| — |
|
|
| 4,790,272 |
|
Earnings distributed to members |
|
| — |
|
|
| (4,462,623 | ) |
|
| (38,690 | ) |
|
| — |
|
|
| (4,501,313 | ) |
Earnings distributed used in DRIP |
|
| — |
|
|
| 2,420,528 |
|
|
| — |
|
|
| — |
|
|
| 2,420,528 |
|
Members’ redemptions |
|
| — |
|
|
| (2,733,771 | ) |
|
| — |
|
|
| — |
|
|
| (2,733,771 | ) |
Organization and offering expenses |
|
| — |
|
|
| — |
|
|
| — |
|
|
| (591,907 | ) |
|
| (591,907 | ) |
Organization and offering expenses allocated |
|
| — |
|
|
| (304,199 | ) |
|
| — |
|
|
| 304,199 |
|
|
| — |
|
Organization and offering expenses rebated by RMC |
|
| — |
|
|
| — |
|
|
| — |
|
|
| 81,215 |
|
|
| 81,215 |
|
Early withdrawal penalties |
|
| — |
|
|
| — |
|
|
| — |
|
|
| 22,360 |
|
|
| 22,360 |
|
Balance at December 31, 2018 |
| $ | 651,500 |
|
| $ | 79,198,453 |
|
| $ | 125,200 |
|
| $ | (2,519,458 | ) |
| $ | 76,804,195 |
|
|
|
|
|
|
| Members' Capital, net |
| |||||||||||||
|
| Investors In Applicant Status |
|
| Members’ Capital |
|
| Manager’s Capital |
|
| Unallocated Organization and Offering Expenses |
|
| Members’ Capital, net |
| |||||
Balance at December 31, 2016 |
| $ | 1,408,185 |
|
| $ | 45,405,776 |
|
| $ | 69,965 |
|
| $ | (1,698,731 | ) |
| $ | 43,777,010 |
|
Contributions on application |
|
| 22,061,531 |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
Contributions admitted to members' capital |
|
| (20,204,759 | ) |
|
| 20,204,759 |
|
|
| 20,332 |
|
|
| — |
|
|
| 20,225,091 |
|
Premiums paid on application by RMC |
|
| 132,699 |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
Premiums admitted to members' capital |
|
| (127,344 | ) |
|
| 127,344 |
|
|
| — |
|
|
| — |
|
|
| 127,344 |
|
Net income |
|
| — |
|
|
| 3,830,355 |
|
|
| 38,690 |
|
|
| — |
|
|
| 3,869,045 |
|
Earnings distributed to members |
|
| — |
|
|
| (3,596,449 | ) |
|
| (26,085 | ) |
|
| — |
|
|
| (3,622,534 | ) |
Earnings distributed used in DRIP |
|
| — |
|
|
| 1,987,151 |
|
|
| — |
|
|
| — |
|
|
| 1,987,151 |
|
Members’ redemptions |
|
| — |
|
|
| (1,279,146 | ) |
|
| — |
|
|
| — |
|
|
| (1,279,146 | ) |
Organization and offering expenses |
|
| — |
|
|
| — |
|
|
| — |
|
|
| (919,870 | ) |
|
| (919,870 | ) |
Organization and offering expenses allocated |
|
| — |
|
|
| (229,366 | ) |
|
| — |
|
|
| 229,366 |
|
|
| — |
|
Organization and offering expenses rebated by RMC |
|
| — |
|
|
| — |
|
|
| — |
|
|
| 43,252 |
|
|
| 43,252 |
|
Early withdrawal penalties |
|
| — |
|
|
| — |
|
|
| — |
|
|
| 10,658 |
|
|
| 10,658 |
|
Balance at December 31, 2017 |
| $ | 3,270,312 |
|
| $ | 66,450,424 |
|
| $ | 102,902 |
|
| $ | (2,335,325 | ) |
| $ | 64,218,001 |
|
The accompanying notes are an integral part of these financial statements.
56
REDWOOD MORTGAGE INVESTORS IX, LLC
For the Years Ended December 31, 2018 and 2017
|
| 2018 |
|
| 2017 |
| ||
Operations |
|
|
|
|
|
|
|
|
Interest received |
| $ | 5,039,822 |
|
| $ | 3,909,607 |
|
Other loan income |
|
| 18,499 |
|
|
| 23,038 |
|
Loan administrative fee reimbursed (paid) |
|
| 3,130 |
|
|
| 21,274 |
|
Operations expense |
|
| (394,909 | ) |
|
| (155,640 | ) |
Total cash provided by (used in) operations |
|
| 4,666,542 |
|
|
| 3,798,279 |
|
Investing – loan principal/advances |
|
|
|
|
|
|
|
|
Principal collected on loans |
|
| 41,506,194 |
|
|
| 27,081,592 |
|
Loans originated |
|
| (64,959,250 | ) |
|
| (42,726,883 | ) |
Loans sold to non-affiliate, net |
|
| 22,128,128 |
|
|
| — |
|
Loans transferred to affiliates |
|
| — |
|
|
| 999,995 |
|
Loans transferred from affiliates |
|
| (5,889,819 | ) |
|
| — |
|
Advances (made) received on loans |
|
| (7,051 | ) |
|
| 10,560 |
|
Total cash provided by (used in) investing |
|
| (7,221,798 | ) |
|
| (14,634,736 | ) |
Financing – members’ capital |
|
|
|
|
|
|
|
|
Deposit on line of credit |
|
| — |
|
|
| 2,400 |
|
Contributions by members, net |
|
|
|
|
|
|
|
|
Contributions by members |
|
| 10,479,930 |
|
|
| 22,214,654 |
|
Organization and offering expenses paid, net |
|
| (510,692 | ) |
|
| (876,620 | ) |
Formation loan funding |
|
| (779,964 | ) |
|
| (1,509,594 | ) |
Formation loan collected |
|
| 345,639 |
|
|
| 235,143 |
|
Total cash provided by members, net |
|
| 9,534,913 |
|
|
| 20,063,583 |
|
Distributions to members |
|
|
|
|
|
|
|
|
Earnings distributed |
|
| (2,080,785 | ) |
|
| (1,635,382 | ) |
Redemptions |
|
| (2,733,771 | ) |
|
| (1,279,146 | ) |
Cash distributions to members |
|
| (4,814,556 | ) |
|
| (2,914,528 | ) |
Total cash provided by (used in) financing |
|
| 4,720,357 |
|
|
| 17,151,455 |
|
Net increase (decrease) in cash |
|
| 2,165,101 |
|
|
| 6,314,998 |
|
Cash, beginning of period |
|
| 8,509,852 |
|
|
| 2,194,854 |
|
Cash, December 31, |
| $ | 10,674,953 |
|
| $ | 8,509,852 |
|
|
| 2018 |
|
| 2017 |
| ||
Net income |
| $ | 4,790,272 |
|
| $ | 3,869,045 |
|
Adjustments to reconcile net income to net cash provided by (used in) operating activities |
|
|
|
|
|
|
|
|
(Gain) on sale, loans |
|
| (27,133 | ) |
|
| — |
|
Amortization of loan administrative fees |
|
| 5,878 |
|
|
| — |
|
Change in operating assets and liabilities |
|
|
|
|
|
|
|
|
Accrued interest |
|
| (166,758 | ) |
|
| (122,101 | ) |
Loan administrative fees reimbursed (paid) |
|
| 3,130 |
|
|
| 21,274 |
|
Accounts payable |
|
| 3,419 |
|
|
| — |
|
Other |
|
| 57,734 |
|
|
| 30,061 |
|
Total adjustments |
|
| (123,730 | ) |
|
| (70,766 | ) |
Total cash provided by (used in) operations |
| $ | 4,666,542 |
|
| $ | 3,798,279 |
|
The accompanying notes are an integral part of these financial statements.
57
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
December 31, 2018 and 2017
NOTE 1 – ORGANIZATION AND GENERAL
Redwood Mortgage Investors IX, LLC (RMI IX or the company) is a Delaware limited liability company formed in October 2008 to engage in business as a mortgage lender and investor by making and holding-for-investment mortgage loans secured by California real estate, primarily through first and second deeds of trust.
The company is externally managed by Redwood Mortgage Corp (“RMC” or “the manager”). The manager is solely responsible for managing the business and affairs of the company, subject to the voting rights of the members on specified matters. The manager acting alone has the power and authority to act for and bind the company. RMC provides the personnel and services necessary for the company to conduct its business as the company has no employees of its own. The manager is required to contribute to capital one tenth of one percent (0.1%) of the aggregate capital accounts of the members. The mortgage loans the company funds and/or invests in are arranged and generally are serviced by RMC.
The rights, duties and powers of the members and manager of the company are governed by the Ninth Amended and Restated Limited Liability Company Operating Agreement of RMI IX (the “Operating Agreement”), the Delaware Limited Liability Company Act and the California Revised Uniform Limited Liability Company Act.
The following is a summary of certain provisions of the Operating Agreement and is qualified in its entirety by the terms of the agreement itself. Members should refer to the company’s Operating Agreement for complete disclosure of its provisions.
The company’s primary investment objectives are to:
| • | yield a favorable rate of return from the company’s business of making and/or investing in loans; |
| • | preserve and protect the company’s capital by making and/or investing in loans secured by California real estate, preferably income-producing properties geographically situated in the San Francisco Bay Area and the coastal metropolitan regions of Southern California; and, |
| • | generate and distribute cash flow from these mortgage lending and investing activities. |
The ongoing sources of funds for loans are the proceeds (net of redemption of members’ capital and operating expenses) from
| • | sale of members’ units net of reimbursement to RMC of organization and offering expenses (“O&O expenses”) and net of amounts advanced for the formation loan to RMC, including units sold by reinvestment of distributions; |
| • | payments from RMC on the outstanding balance of the formation loan; |
| • | borrowers’ monthly principal and interest payments; |
| • | loan payoffs; |
| • | loan sales to unaffiliated 3rd parties and loan transfers by executed assignment to affiliated mortgage funds; and |
| • | a line of credit, if obtained. |
Net income or loss is allocated among the members according to their respective capital accounts monthly after one percent (1%) of net income or loss is allocated to the manager. RMC’s allocated one percent (1%) of the net income was $47,903 and $38,690 for the years ended December 31, 2018 and 2017, respectively. The monthly results are subject to subsequent adjustment as a result of quarterly and year-end accounting and reporting. Investors should not expect the company to provide tax benefits of the type commonly associated with limited liability company tax shelter investments. Federal and state income taxes are the obligation of the members, if and when taxes apply, other than the annual California franchise tax and any California LLC cash receipts taxes paid by the company.
58
Members representing a majority of the outstanding units may, without the concurrence of the managers, vote to: (i) dissolve the company, (ii) amend the Operating Agreement, subject to certain limitations, (iii) approve or disapprove the sale of all or substantially all of the assets of the company or (iv) remove or replace one or all of the managers. Where there is only one manager, a majority in interest of the members is required to elect a new manager to continue the company business after a manager ceases to be a manager due to its withdrawal.
Distribution policy
Cash available for distribution at the end of each calendar month is allocated ninety-nine percent (99%) to the members and one percent (1%) to the manager. Cash available for distribution means cash flow from operations (excluding repayments for loan principal and other capital transaction proceeds) less amounts set aside for creation or restoration of reserves. The manager may withhold from cash available for distribution otherwise distributable to the members with respect to any period the respective amounts of O&O expenses allocated to the members’ accounts for the applicable period pursuant to the company’s reimbursement to RMC and allocation to members’ accounts of organization and offering expenses policy. The amount otherwise distributable, less the respective amounts of organization and offering expenses allocated to members, is the net distribution. Per the terms of the company’s Operating Agreement, cash available for distribution allocated to the members is allocated among the members in proportion to their percentage interests (except with respect to differences in the amounts of organization and offering expenses allocated to the respective members during the applicable period) and in proportion to the number of days during the applicable month that they owned such percentage interests.
See Note 3 (Manager and Other Related Parties) to the financial statements for a detailed discussion on the allocation of O&O to members’ accounts.
Cash available for distributions allocable to members, other than those participating in the distribution reinvestment plan (DRIP) and the manager, is distributed at the end of each calendar month. Cash available for distribution allocable to members who participate in the DRIP is used to purchase additional units at the end of each calendar month. The manager’s allocable share of cash available for distribution is also distributed not more frequently than with cash distributions to members.
To determine the amount of cash to be distributed in any specific month, the company relies in part on its forecast of full year profits, which takes into account the difference between the forecasted and actual results in the year and the requirement to maintain a cash reserve. At December 31, 2018 cumulative year to date earnings (estimated) allocated to members’ accounts was $4,766,822 and net income available to members (actual) was $4,742,369. The difference between earnings allocated to members’ account and net income available to members of $24,453 is expected to be offset by future earning in excess of the net distribution rate in 2019.
The company’s net income, cash available for distribution, and net-distribution rate fluctuates depending on:
| • | loan origination volume and the balance of capital available to lend; |
| • | the current and future interest rates negotiated with borrowers; |
| • | the timing and amount of gains received from loan sales, if any; |
| • | payment of fees and cost reimbursements to RMC; |
| • | the amount and timing of other operating expenses, including expenses for professional services; |
| • | financial support, if any, from RMC; and |
| • | payments from RMC on the outstanding balance of the formation loan. |
Financial Support from RMC
Since commencement of operations in 2009, RMC, at its sole discretion, provided significant financial support to the company which increased the net income, cash available for distribution, and the net-distribution rate, by:
| • | charging less than the maximum allowable fees; |
| • | not requesting reimbursement of qualifying costs attributable to the company (“Costs from RMC”) on the Statements of Income); and/or, |
| • | absorbing some, and in certain periods, all of the company’s direct expenses, such as professional fees. |
59
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Such fee and cost-reimbursement waivers and the absorption of the company’s expenses by RMC were not made for the purpose of providing the company with sufficient funds to satisfy any required level of distributions, as the Operating Agreement has no such required level of distributions, nor to meet withdrawal requests. Any decision to waive fees or cost-reimbursements and/or to absorb direct expenses, and the amount (if any) to be waived or absorbed, is made by RMC in its sole discretion.
Financial support from RMC maintained the company’s annual 6.5% net distribution rate for periods prior to February 28, 2018. In March 2018, RMC communicated to the members’ planned and ongoing reductions in financial support from RMC and that net income, cash available for distribution and the net distribution rate were expected to decrease correspondingly.
In March 2018 the net distribution rate as an annualized percentage of members’ capital decreased from 6.5% to 6.0%. In April 2018, the company commenced paying in full its direct expenses for professional-service fees (legal and audit/tax compliance) and other operating expenses (postage, printing etc.).
RMC had communicated in March 2018 its intent, for the company to be paying RMC in full the fees and reimbursements for the qualifying costs attributable to the company entitled to the manager under the Operating Agreement by July 2019. While reserving its right to collect the amounts owing to it under Operating Agreement, RMC plans to phase in the collection of the asset management fee of 75 basis points (0.75%) during 2019, such that the full chargeable amount of the asset management fee will be collected for and in the 4th quarter and to similarly phase in collection of the cost reimbursements in 2020.
The net distribution rate, as an annualized percentage of members’ capital, for December 2018 was 5.70%. The net distribution rate for the year ended December 2018 was 5.95%.
Distribution reinvestment plan
The DRIP provision of the Operating Agreement permits members to elect to have all or a portion of their monthly distributions reinvested in additional units. Members may withdraw from the DRIP with written notice.
Liquidity and unit redemption program
There are substantial restrictions on transferability of units, and there is no established public trading and/or secondary market for the units and none is expected to develop. In order to provide liquidity to members, the company’s Operating Agreement includes a unit redemption program, whereby beginning one year from the date of purchase of the units, a member may redeem all or part of their units, subject to certain limitations.
The price paid for redeemed units is based on the lesser of the purchase price paid by the redeeming member or the member’s capital account balance as of the date of each redemption payment. Redemption value is calculated based on the period from date of purchase as follows:
| • | after one year, 92% of the purchase price or of the capital account balance, whichever is less; |
| • | after two years, 94% of the purchase price or of the capital account balance, whichever is less; |
| • | after three years, 96% of the purchase price or of the capital account balance, whichever is less; |
| • | after four years, 98% of the purchase price or of the capital account balance, whichever is less; |
| • | after five years, 100% of the purchase price or of the capital account balance, whichever is less. |
The company redeems units quarterly, subject to certain limitations as provided for in the Operating Agreement. The maximum number of units which may be redeemed per quarter per individual member shall not exceed the greater of (i) 100,000 units, or (ii) 25% of the member’s total outstanding units. For redemption requests requiring more than one quarter to fully redeem, the percentage discount amount that, if any, applies when the redemption payments begin continues to apply throughout the redemption period and applies to all units covered by such redemption request regardless of when the final redemption payment is made.
60
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
The company has not established a cash reserve from which to fund redemptions. The company’s capacity to redeem units upon request is limited by the availability of cash and the company’s cash flow. As provided in the Operating Agreement, the company will not, in any calendar year, redeem more than five percent (5%) of the weighted average number of units outstanding during the twelve-month period immediately prior to the date of the redemption. In the event unit withdrawal requests exceed 5% in any calendar year, units will be redeemed in the priority provided in the Operating Agreement.
Contributed capital
The manager is required to contribute to capital one tenth of one percent (0.1%) of the aggregate capital accounts of the members.
Manager’s interest
If a manager is removed, withdrawn or terminated, the company will pay to the manager all amounts then accrued and owing to the manager. Additionally, the company will terminate the manager’s interest in the company’s profits, losses, distributions and capital by payment of an amount in cash equal to the then-present fair value of such interest. The formation loan is forgiven if the manager is removed and RMC is no longer receiving payments for services rendered.
Unit sales commissions paid to broker-dealers/formation loan
Commissions for units sales to be paid to broker-dealers (B/D sales commissions) are paid by RMC and are not paid directly by the company out of offering proceeds. Instead, the company advances to RMC, from offering proceeds, amounts sufficient to pay the B/D sales commissions and premiums to be paid to investors. Such advances in total may not exceed seven percent (7%) of offering proceeds. The receivable arising from the advances is unsecured, and non-interest bearing and is referred to as the “formation loan.” As of December 31, 2018 the company had made advances totaling $5,439,910, of which $4,179,344 remain outstanding on the formation loan.
Term of the company
The term of the company will continue until 2028, unless sooner terminated as provided in the Operating Agreement.
Ongoing public offering of units/ SEC Registrations
Proceeds from sales of units from inception (October, 2009) through December 31, 2018 are summarized below.
| Proceeds |
| |
From investors - admitted | $ | 76,938,987 |
|
From members under our DRIP |
| 8,653,123 |
|
From premiums paid by RMC(1) |
| 349,199 |
|
Total proceeds from unit sales | $ | 85,941,309 |
|
| (1) | If a member acquired units through an unsolicited sale (i.e. without broker/dealer) the member’s capital account is credited with their capital contribution plus a premium paid by RMC equal to the amount of the sales commissions that otherwise would have been paid to a broker-dealer by RMC. This premium is reported in the year paid as taxable income to the member. |
61
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
In June 2016, the company’s Registration Statement on Form S-11 filed with the SEC (SEC File No. 333-208315) to offer up to 120,000,000 units ($120,000,000) to the public and 20,000,000 units ($20,000,000) to its members pursuant to the DRIP became effective and continues in effect for up to three (3) years thereafter. As of December 31, 2018, the company had sold approximately 85,941,000 units– 39,407,000 units under previous registration statements and approximately 46,534,000 units under the June 2016 registration statement. Correspondingly, gross proceeds from unit sales at $1 per unit (including units issued under the distribution reinvestment plan) were approximately $39,407,000 and $46,534,000, respectively.
The June 2016 registration statement expires June 6, 2019, and unit sales to other than members of record or their successors as of April 30, 2019 will cease due to the company electing not to update its S-11 filing prior to April 30, 2019 as doing so would not be cost effective. RMC is considering a registration statement to be filed in the second quarter of 2019 to continue to offer units pursuant to the DRIP.
Use of Proceeds from sale of units
The proceeds from the sale of the units will be used to
| • | make additional loans; |
| • | fund working capital reserves; |
| • | pay RMC up to 4.5% of proceeds from sale of units for organization and offering expenses; and |
| • | fund a formation loan to RMC at up to 7% of proceeds from sale of units. |
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of presentation
The financial statements are prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”).
Management estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions about the reported amounts of assets and liabilities, and disclosures of contingent assets and liabilities, at the dates of the financial statements and the reported amounts of revenues and expenses during the reported periods. Such estimates relate principally to the determination of the allowance for loan losses, including, when applicable, the valuation of impaired loans (which itself requires determining the fair value of the collateral), and the valuation of real estate held for sale and held as investment, at acquisition and subsequently. Actual results could differ significantly from these estimates.
Fair value estimates
GAAP defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.
62
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Fair values of assets and liabilities are determined based on the fair-value hierarchy established in GAAP. The hierarchy is comprised of three levels of inputs to be used:
| • | Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the company has the ability to access at the measurement date. An active market is a market in which transactions occur with sufficient frequency and volume to provide pricing information on an ongoing basis. |
| • | Level 2 inputs are inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly in active markets and quoted prices for identical assets or liabilities that are not active, and inputs other than quoted prices that are observable or inputs derived from or corroborated by market data. |
| • | Level 3 inputs are unobservable inputs for the asset or liability. Unobservable inputs reflect the company’s own assumptions about the assumptions market participants would use in pricing the asset or liability (including assumptions about risk). Unobservable inputs are developed based on the best information available in the circumstances and may include the company’s own data. |
The fair value of the collateral is determined by exercise of judgment based on management’s experience informed by appraisals (by licensed appraisers), brokers’ opinion of values and publicly available information on in-market transactions. Appraisals of commercial real property generally present three approaches to estimating value: 1) market comparables or sales approach; 2) cost to replace; and 3) capitalized cash flows or investment approach. These approaches may or may not result in a common, single value. The market-comparables approach may yield several different values depending on certain basic assumptions, such as, determining highest and best use (which may or may not be the current use); determining the condition (e.g., as-is, when-completed or for land when-entitled); and determining the unit of value (e.g., as a series of individual unit sales or as a bulk disposition).
Management has the requisite familiarity with the real estate markets it lends in generally and of the properties lent on specifically to analyze sales-comparables and assess their suitability/applicability. Management is acquainted with market participants – investors, developers, brokers, lenders – that are useful, relevant secondary sources of data and information regarding valuation and valuation variability. These secondary sources may have familiarity with and perspectives on pending transactions, successful strategies to optimize value and the history and details of specific properties – on and off the market – that enhance the process and analysis that is particularly and principally germane to establishing value in distressed markets and/or property types.
Cash and cash equivalents
The company considers all highly liquid financial instruments with maturities of three months or less at the time of purchase to be cash equivalents. At December 31, 2018, certain of the company’s cash balances in banks exceed federally insured limits of $250,000. The bank or banks in which funds are deposited are reviewed periodically for their general credit-worthiness/investment grade credit rating.
Performing loans are carried at amortized costs which is generally equal to the unpaid principal balance (principal). Management has discretion to pay amounts (advances) to third parties on behalf of borrowers to protect the company’s interest in the loan. Advances include, but are not limited to, the payment of interest and principal on a senior lien to prevent foreclosure by the senior lien holder, property taxes, insurance premiums and attorney fees. Advances generally are stated at the amounts paid out on the borrower’s behalf and any accrued interest on amounts paid out, until repaid by the borrower.
63
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
For performing loans, interest is accrued daily on the principal plus advances, if any. Impaired loans less than 180 days delinquent continue to recognize interest income as long as the loan is in the process of collection and is considered to be well-secured. Impaired loans are placed on non-accrual status if 180 days delinquent or at the earlier of management’s determination that the primary source of repayment will come from the foreclosure and subsequent sale of the collateral securing the loan (which usually occurs when a notice of sale is filed) or when the loan is no longer considered well-secured. When a loan is placed on non-accrual status, the accrual of interest is discontinued; however, previously recorded interest is not reversed. A loan may return to accrual status when all delinquent interest and principal payments become current in accordance with the terms of the loan agreement.
The company may fund a specific loan origination net of an interest reserve (one to two years) to insure timely interest payments at the inception of the loan. In the event of an early loan payoff, any unapplied interest reserves would be first applied to any accrued but unpaid interest and then as a reduction to the principal.
If events and or changes in circumstances cause management to have serious doubts about the collectability of the payments of interest and principal in accordance with the loan agreement, a loan may be designated as impaired. Impaired loans are included in management’s periodic analysis of recoverability. Any subsequent payments on impaired loans are applied to late fees, then to the accrued interest, then to advances, and lastly to principal.
In the normal course of the company’s operations, loans that mature may be renewed at then current market rates and terms for new loans. Such renewals are not designated as impaired, unless the renewed loan was previously designated as impaired.
From time to time, the company negotiates and enters into loan modifications with borrowers whose loans are delinquent. If the loan modification results in a significant delay or reduction in the cash flow compared to the original note, the modification is deemed a troubled debt restructuring and a loss is recognized.
Allowance for loan losses
Loans and the related accrued interest and advances (i.e. the loan balance) are analyzed on a periodic basis for ultimate recoverability. Collateral fair values are reviewed quarterly and the protective equity for each loan is computed. As used herein, “protective equity” is the dollar amount by which the fair value of the collateral, net of any senior liens exceeds the loan balance, where “loan balance” is the sum of the unpaid principal, advances and the recorded interest thereon. This computation is done for each loan (whether impaired or performing), and while loans secured by collateral of similar property type are grouped, there is enough distinction and variation in the collateral that a loan-by-loan, collateral-by-collateral analysis is appropriate.
For loans designated impaired, a provision is made for loan losses to adjust the allowance for loan losses to an amount such that the net carrying amount (unpaid principal less the specific allowance) is reduced to the lower of the loan balance or the estimated fair value of the related collateral, net of any senior loans and net of any costs to sell in arriving at net realizable value.
Loans determined not to be individually impaired are grouped by the property type of the underlying collateral, and for each loan and for the total by property type, the amount of protective equity or amount of exposure to loss (i.e., the dollar amount of the deficiency of the fair value of the underlying collateral to the loan balance) is computed.
The company charges off uncollectible loans and related receivables directly to the allowance account once it is determined the full amount is not collectible.
At foreclosure any excess of the recorded investment in the loan (accounting basis) over the net realizable value is charged against the allowance for loan losses.
64
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Real estate owned (REO)
Real estate owned, or REO, is property acquired in full or partial settlement of loan obligations generally through foreclosure, and is recorded at acquisition at property’s net realizable value, which is the fair value less estimated costs to sell, as applicable. The fair value estimates are derived from information available in the real estate markets including similar property, and often require the experience and judgment of third parties such as commercial real estate appraisers and brokers. The estimates figure materially in calculating the value of the property at acquisition, the level of charge to the allowance for loan losses and any subsequent valuation reserves. After acquisition, costs incurred relating to the development and improvement of property are capitalized to the extent they do not cause the recorded value to exceed the net realizable value, whereas costs relating to holding and disposition of the property are expensed as incurred. After acquisition, REO is analyzed periodically for changes in fair values and any subsequent write down is charged to operations expenses. Any recovery in the fair value subsequent to such a write down is recorded and is not to exceed the value recorded at acquisition. Recognition of gains on the sale of real estate is dependent upon the transaction meeting certain criteria related to the nature of the property and the terms of the sale including potential seller financing.
Recently issued accounting pronouncements
-Accounting and Financial reporting for Expected Credit Losses
The Financial Accounting Standards Board (FASB) issued an Accounting Standards Update (ASU) that significantly changes how entities will account for credit losses for most financial assets that are not measured at fair value through net income. The new standard will supersede currently in effect guidance and applies to all entities. Entities will be required to use a current expected credit loss (CECL) model to estimate credit impairment. This estimate will be forward-looking, meaning management will be required to use forecasts about future economic conditions to determine the expected credit loss over the remaining life of an instrument. This will be a significant change from the current incurred credit loss model, and generally may result in allowances being recognized in earlier periods than under the current credit loss model. The manager expects to adopt the ASU for interim and annual reporting in 2020.
RMI IX invests in real estate secured loans made with the expectation that the possibility of credit losses is remote as a result of substantial protective equity provided by the underlying collateral. The real estate secured programs and low loan-to-value ratios have caused RMC to conclude that the adoption of the CECL model from the incurred loss models presently in use as to credit loss recognition will likely not materially impact the reported results of operations or financial position.
-Accounting and Financial Reporting for Revenue Recognition
On May 28, 2014, the FASB issued a final ASU on revenue from contracts with customers. The standard issued as ASU 2014-09 outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The standard was effective January 1, 2018, and has been adopted using the modified retrospective approach.
Adoption of the revenue standard did not have an impact on the company’s current revenue recognition policies since the scope of guidance is not applicable to financial instruments including loans and therefore did not have an impact on the recognition of interest income or late fees.
NOTE 3 – MANAGER AND OTHER RELATED PARTIES
RMC is entitled to 1% of the net income or loss of the company. See Note 1 (Organization and General).
65
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Manager financial support (RMC support)
RMC support provided, as detailed below, totaled approximately $2,031,000 and $1,646,000 for the years ended December 31, 2018 and 2017, respectively. The total financial support increased year over year, however the amount of direct cash support in the form of expenses absorbed by RMC decreased from approximately $370,000 in 2017 to approximately $157,000 in 2018. The amount of support in the form of waived fees, such as loan administrative, asset management fees, and costs from RMC, increased during the same period due to increased loan and capital balances. The loan and capital balances are used as a base for the calculation for fees charged by RMC, and increases or decreases in the balances will have a similar effect on the total amount chargeable by RMC. The decision to waive all or a portion of these fees is made by RMC, in its sole discretion.
Loan administrative fees and operating expenses, including amounts for fees and cost reimbursements waived and/or expenses absorbed by RMC for the year ended December 31, 2018 is presented in the following table.
|
|
|
|
|
| Operating Expenses |
|
|
|
|
| |||||||||||||||||
|
| Loan Admin Fees |
|
| Mortgage Servicing Fees |
|
| Asset Management Fee |
|
| Costs from RMC |
|
| Professional Services |
|
| Other |
|
| Total |
| |||||||
2018 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Chargeable/reimbursable |
| $ | 708,491 |
|
| $ | 151,457 |
|
| $ | 419,820 |
|
| $ | 744,901 |
|
| $ | 432,205 |
|
| $ | 31,584 |
|
| $ | 2,488,458 |
|
RMC support |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Waived |
|
| (708,491 | ) |
|
| — |
|
|
| (419,820 | ) |
|
| (744,901 | ) |
|
| — |
|
|
| — |
|
|
| (1,873,212 | ) |
Expenses absorbed by RMC |
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| (143,152 | ) |
|
| (14,246 | ) |
|
| (157,398 | ) |
Total RMC support |
|
| (708,491 | ) |
|
| — |
|
|
| (419,820 | ) |
|
| (744,901 | ) |
|
| (143,152 | ) |
|
| (14,246 | ) |
|
| (2,030,610 | ) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net charged |
| $ | — |
|
| $ | 151,457 |
|
| $ | — |
|
| $ | — |
|
| $ | 289,053 |
|
| $ | 17,338 |
|
| $ | 457,848 |
|
Loan administrative fees and operating expenses, including amounts for fees and cost reimbursements waived and/or expenses absorbed by RMC for the year ended December 31, 2017 is presented in the following table
|
|
|
|
|
| Operating Expenses |
|
|
|
|
| |||||||||||||||||
|
| Loan Admin Fees |
|
| Mortgage Servicing Fees |
|
| Asset Management Fee (as Revised) |
|
| Costs from RMC |
|
| Professional Services |
|
| Other |
|
| Total |
| |||||||
2017 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Chargeable/reimbursable |
| $ | 427,269 |
|
| $ | 116,289 |
|
| $ | 307,104 |
|
| $ | 541,686 |
|
| $ | 398,356 |
|
| $ | 40,972 |
|
| $ | 1,831,676 |
|
RMC support |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Waived |
|
| (427,269 | ) |
|
| — |
|
|
| (307,104 | ) |
|
| (541,686 | ) |
|
| — |
|
|
| — |
|
|
| (1,276,059 | ) |
Expenses absorbed by RMC |
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| (335,303 | ) |
|
| (34,715 | ) |
|
| (370,018 | ) |
Total RMC support |
|
| (427,269 | ) |
|
| — |
|
|
| (307,104 | ) |
|
| (541,686 | ) |
|
| (335,303 | ) |
|
| (34,715 | ) |
|
| (1,646,077 | ) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net charged |
| $ | — |
|
| $ | 116,289 |
|
| $ | — |
|
| $ | — |
|
| $ | 63,053 |
|
| $ | 6,257 |
|
| $ | 185,599 |
|
Loan administrative fees
RMC is entitled to receive a loan administrative fee in an amount up to one percent (1%) of the principal amount of each new loan originated or acquired on the company’s behalf by RMC for services rendered in connection with the selection and underwriting of potential loans. Such fees are payable by the company upon the closing or acquisition of each loan. Beginning in August 2015, RMC, at its sole discretion, began waiving loan administrative fees. Loan administrative fees collected prior to August 2015 were amortized over the contractual life of the loan. The loan administrative fees were fully amortized at December 31, 2018.
66
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Mortgage servicing fees
RMC earns mortgage servicing fees from the company of up to one-quarter of one percent (0.25%) annually of the unpaid principal balance of the loan portfolio or such lesser amount as is reasonable and customary in the geographic area where the property securing the mortgage is located. RMC is entitled to receive these fees regardless of whether specific mortgage payments are collected. The mortgage servicing fees are accrued monthly on all loans. Remittance to RMC is made monthly unless the loan has been assigned a specific loss reserve, at which point remittance is deferred until the specific loss reserve is no longer required, or the property has been acquired by the company. An increase or decrease in this fee within the limits set by the Operating Agreement directly impacts the yield to the members.
Asset management fees
RMC is entitled to receive a monthly asset management fee for managing the business affairs of the company’s portfolio and operations in an amount up to three-quarters of one percent (0.75%) annually of the portion of the capital originally committed to investment in mortgages, not including leverage, and including up to two percent (2%) of working capital reserves. This amount will be recomputed annually after the second full year of operations by subtracting from the then fair value of the company’s loans plus working capital reserves, an amount equal to the outstanding debt.
RMC, at its sole discretion, may elect to accept less than the maximum amount of the asset management fee. An increase or decrease in this fee within the limits set by the Operating Agreement directly impacts the yield to the members. RMC intends to begin reducing these asset management fee waivers by the first quarter of 2019. Beginning in April 2018, the calculation of the asset management fees was adjusted to conform to the specifically applicable provisions of the Operating Agreement, accordingly the 2017 dollar amounts in the table above have been updated. The previously disclosed asset management fees was $408,535 for the year ended December 31, 2017. This update had no effect on net income or total operating expenses, as all asset management fees were waived in all periods presented.
Costs through RMC
RMC, per the Operating Agreement, may request reimbursement by the company for operations expense incurred on behalf of the company, including without limitation, postage and preparation of reports to members and out-of-pocket general and administration expenses. Certain of these qualifying costs (e.g., postage) can be tracked by RMC as specifically attributable to the company. Other costs (e.g., RMC’s accounting and audit fees, legal fees and expenses, qualifying payroll expenses, occupancy, and insurance premium) are allocated on a pro-rata basis (e.g., by the company’s percentage of total capital of all mortgage funds managed by RMC). Payroll and consulting fees are broken out first based on activity, and then allocated to the company on a pro-rata basis based on percentage of capital to the total capital of all mortgage funds.
RMC, at its sole discretion, has elected to request less than the maximum amount of reimbursement for operating expenses. An increase or decrease in this reimbursement, within the limits set by the Operating Agreement, directly impacts the yield to the members. RMC intends to initiate collecting qualifying expenses beginning in 2019 or 2020.
Professional Services
Professional services consist primarily of legal, regulatory (including SEC/FINRA compliance) and audit and tax compliance expenses.
Beginning April 1, 2018, RMI IX paid for all professional services directly. Prior to April 2018, RMC, at its sole discretion, had elected to absorb some or all of RMI IX’s expenses for professional services (and other operating expenses directly incurred by the company).
67
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Commissions and fees are paid by the borrowers to RMC
Brokerage commissions, loan originations
For fees in connection with the review, selection, evaluation, negotiation and extension of loans, RMC may collect a loan brokerage commission that is expected to range from approximately 1.5% to 5% of the principal amount of each loan made during the year. Total loan brokerage commissions are limited to an amount not to exceed 4% of the total company assets per year. The loan brokerage commissions are paid by the borrowers, and thus, are not an expense of the company.
Other fees
RMC receives fees for processing, notary, document preparation, credit investigation, reconveyance and other mortgage related fees. The amounts received are customary for comparable services in the geographical area where the property securing the loan is located, payable solely by the borrower and not by the company.
During 2018 and 2017 certain performing loans were transferred by an executed assignment between the affiliated mortgage funds in-full at par. Specifically, during 2018, Redwood Mortgage Investors VIII, LP, an affiliated mortgage fund, transferred to the company two performing loans in-full at par value, which approximates fair value, of approximately $5,890,000. The company paid cash for the loans and the affiliated mortgage fund has no continuing obligation or involvement on the loans. During 2017, the company transferred one loan at par value of approximately $1,000,000 to Redwood Mortgage Investors VIII, LP.
Formation loan
Formation loan transactions are presented in the following table.
|
| For the twelve months ended |
|
| Since Inception |
| ||
Balance, beginning of period |
| $ | 3,777,088 |
|
| $ | — |
|
Formation loan advances to RMC |
|
| 779,964 |
|
|
| 5,439,910 |
|
Payments received from RMC |
|
| (345,639 | ) |
|
| (1,199,716 | ) |
Early withdrawal penalties applied |
|
| (32,070 | ) |
|
| (60,851 | ) |
Balance, December 31, 2018 |
| $ | 4,179,343 |
|
| $ | 4,179,343 |
|
Subscription proceeds since inception |
|
|
|
|
| $ | 77,590,487 |
|
Formation loan advance rate |
|
|
|
|
|
| 7 | % |
The future minimum payments on the formation loan of December 31, 2018 are presented in the following table.
2019 |
| $ | 417,934 |
|
2020 |
|
| 417,934 |
|
2021 |
|
| 417,934 |
|
2022 |
|
| 417,934 |
|
2023 |
|
| 417,934 |
|
Thereafter |
|
| 2,089,673 |
|
Total |
| $ | 4,179,343 |
|
RMC is required to make annual payments on the formation loan of one tenth of the principal balance outstanding at December 31 of the prior year. The formation loan is forgiven if the manager is removed and RMC is no longer receiving payments for services rendered.
68
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
The table below presents the company’s unit redemptions for the years ended December 31, 2018 and 2017.
|
| 2018 |
|
| 2017 |
| ||
Capital redemptions-without penalty |
| $ | 1,923,685 |
|
| $ | 747,234 |
|
Capital redemptions-subject to penalty |
|
| 810,086 |
|
|
| 531,912 |
|
Total |
| $ | 2,733,771 |
|
| $ | 1,279,146 |
|
Reimbursement and allocation of organization and offering expenses
The manager is reimbursed for, or the company may pay directly, organization and offering expenses (or O&O expenses) incurred in connection with the organization of the company or offering of the units including, without limitation, attorneys’ fees, accounting fees, printing costs and other selling expenses (other than sales commissions) in a total amount not exceeding 4.5% of the original purchase price of all units (other than DRIP units) sold in all offerings (hereafter, the “maximum O&O expenses”), and the manager pays any O&O expenses in excess of the maximum O&O expenses. For each calendar quarter or portion thereof after December 31, 2015, that a member holds units (other than DRIP units) and for a maximum of forty (40) such quarters, a portion of the O&O expenses borne by the company is allocated to and debited from that member’s capital account in an annual amount equal to 0.45% of the member’s original purchase price for those units, in equal quarterly installments of 0.1125% each commencing with the later of the first calendar quarter of 2016 or the first full calendar quarter after a member’s purchase of units, and continuing through the quarter in which such units are redeemed. If at any time the aggregate O&O expenses actually paid or reimbursed by the company since inception are less than the maximum O&O expenses, the company shall first reimburse the manager for any O&O expenses previously borne by it so long as it does not result in the company bearing more than the maximum O&O expenses, and any savings thereafter remaining shall be equitably allocated among (and serve to reduce any subsequent such cost allocations to) those members who have not yet received forty (40) quarterly allocations of O&O expenses, as determined in the good faith judgment of the manager. Any O&O expenses with respect to a member’s units that remain unallocated upon redemption of such units shall be rebated to the company by the manager.
O&O expenses are summarized in the following table.
|
| 2018 |
|
| Since Inception |
| ||
Balance, January 1 |
| $ | 2,335,325 |
|
| $ | — |
|
O&O expenses reimbursed to RMC |
|
| 591,907 |
|
|
| 3,486,521 |
|
Early withdrawal penalties applied (1) |
|
| (22,360 | ) |
|
| (40,875 | ) |
O&O expenses allocated(2) |
|
| (304,199 | ) |
|
| (686,356 | ) |
O&O expenses rebated by RMC (3) |
|
| (81,215 | ) |
|
| (239,832 | ) |
Balance, December 31 |
| $ | 2,519,458 |
|
| $ | 2,519,458 |
|
| (1) | Early withdrawal penalties collected are applied to the next installment of principal due under the formation loan and to reduce the amount owed to RMC for O&O expenses. The amounts credited will be determined by the ratio between the amount of the formation loan and the amount of offering costs incurred by the company. |
| (2) | Beginning in 2016, O&O expenses reimbursed to RMC by RMI IX are allocated to members’ capital accounts over 40 quarters. |
| (3) | RMC rebates the company for any yet unallocated O&O expenses attributed to units redeemed prior to the 40 quarters. |
Per the Operating Agreement, RMI IX reimburses RMC for O&O expenses at 4.5% gross proceeds from future unit sales. At December 31, 2018, RMC had incurred $3,510,299 of cumulative O&O expenses in excess of the 4.5% cap, and which may be reimbursed to RMC from proceeds of future unit sales. Any O&O expenses with respect to a member’s units that remain unallocated upon redemption of such units shall be rebated to the company by the manager. As of December 31, 2018, the company estimated future rebates on scheduled redemptions to be $42,000.
69
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
NOTE 4 – LOANS
Loans generally are funded at a fixed interest rate with a loan term of up to five years. Loans acquired are generally done so within the first six months of origination and purchased at the current par value, which approximates fair value. As of December 31, 2018, 77 loans (representing 97% of the aggregate principal of the company’s loan portfolio) have a loan term of five years or less from loan inception. The remaining loans have terms longer than five years. Substantially all loans are written without a prepayment provision. As of December 31, 2018, 60 loans outstanding (representing 62% of the aggregate principal balance of the company’s loan portfolio) provide from monthly payments of principal and interest, typically calculated on a 30-year amortization schedule, with the remaining principal balance due at maturity. The remaining loans provide for monthly payments of interest only, with the principal balance due at maturity.
Secured loans unpaid principal balance (principal)
Secured loan transactions are summarized in the following table for the 2018 and 2017.
|
| 2018 |
|
| 2017 |
| ||
Principal, beginning of period |
| $ | 54,768,689 |
|
| $ | 40,123,393 |
|
Loans originated |
|
| 64,959,250 |
|
|
| 40,346,883 |
|
Loans transferred from affiliates |
|
| 5,889,819 |
|
|
| 2,380,000 |
|
Loans transferred to affiliates |
|
| — |
|
|
| (999,995 | ) |
Loans sold to non-affiliate |
|
| (21,995,851 | ) |
|
| — |
|
Principal payments received |
|
| (41,506,194 | ) |
|
| (27,081,592 | ) |
Principal, December 31, 2018 |
| $ | 62,115,713 |
|
| $ | 54,768,689 |
|
For the years ended December 31, 2018 and 2017, the company renewed eight and six loans respectively, at then market terms, with an aggregate principal balance of $5,004,614 and $1,823,000, which are not included in the activity shown in the table above. See Note 3 (Manager and Other Related Parties) for a description of loans transferred by executed assignments between affiliates. The company originates loans with the intent to hold the loans until maturity. From time to time the company may sell certain loans. Loans are classified as held-for-sale once a decision has been made to sell loans and loans held-for-sale have been identified.
On June 27, 2018 and December 12, 2018, the company closed on the sales of whole loans (servicing released) comprising a combined principal of $21,995,851 and interest owing of $102,658 to an unaffiliated bank pursuant to an Asset Sale Agreement. The Asset Sale Agreement contains customary representations, warranties, and covenants. The loan sale transaction was arranged by a third-party, unaffiliated national firm engaged by RMC. The transaction generated an immaterial gain (net of expenses).
At December 31, 2018 and 2017 the company held no loans classified as held-for-sale. The determination that loans would be classified as held-for-sale in compliance with GAAP criteria and the completion of the sale occurred within the same reporting periods in 2018.
70
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Loan characteristics
|
| December 31, |
|
| December 31, |
| ||
|
| 2018 |
|
| 2017 |
| ||
Number of secured loans |
|
| 83 |
|
|
| 93 |
|
Secured loans – principal |
| $ | 62,115,713 |
|
| $ | 54,768,689 |
|
Secured loans – lowest interest rate (fixed) |
|
| 7.0 | % |
|
| 6.9 | % |
Secured loans – highest interest rate (fixed) |
|
| 10.5 | % |
|
| 10.5 | % |
|
|
|
|
|
|
|
|
|
Average secured loan – principal |
| $ | 748,382 |
|
| $ | 588,911 |
|
Average principal as percent of total principal |
|
| 1.2 | % |
|
| 1.1 | % |
Average principal as percent of members’ capital, net |
|
| 1.0 | % |
|
| 0.9 | % |
Average principal as percent of total assets |
|
| 1.0 | % |
|
| 0.9 | % |
|
|
|
|
|
|
|
|
|
Largest secured loan – principal |
| $ | 4,000,000 |
|
| $ | 3,239,124 |
|
Largest principal as percent of total principal |
|
| 6.4 | % |
|
| 5.9 | % |
Largest principal as percent of members’ capital, net |
|
| 5.2 | % |
|
| 5.0 | % |
Largest principal as percent of total assets |
|
| 5.5 | % |
|
| 5.1 | % |
|
|
|
|
|
|
|
|
|
Smallest secured loan – principal |
| $ | 74,390 |
|
| $ | 52,562 |
|
Smallest principal as percent of total principal |
|
| 0.1 | % |
|
| 0.1 | % |
Smallest principal as percent of members’ capital, net |
|
| 0.1 | % |
|
| 0.1 | % |
Smallest principal as percent of total assets |
|
| 0.1 | % |
|
| 0.1 | % |
|
|
|
|
|
|
|
|
|
Number of California counties where security is located |
|
| 15 |
|
|
| 16 |
|
Largest percentage of principal in one California county |
|
| 25.0 | % |
|
| 22.6 | % |
|
|
|
|
|
|
|
|
|
Number of secured loans with filed notice of default |
|
| 2 |
|
|
| 1 |
|
Secured loans in foreclosure – principal |
| $ | 565,685 |
|
| $ | 139,643 |
|
|
|
|
|
|
|
|
|
|
Number of secured loans with an interest reserve |
|
| — |
|
|
| — |
|
Interest reserves |
| $ | — |
|
| $ | — |
|
As of December 31, 2018, the company’s largest loan with principal of $4,000,000 represents 6.4% of outstanding secured loans and 5.5% of company assets. The loan is secured by a multi-family property located in San Diego county, bears an interest rate of 8.9% and matures on September 1, 2021. As of December 31, 2018, the company had 2 loans with filed notices of default. As of December 31, 2018, the company had no construction loans outstanding and had no rehabilitation loans outstanding. As of December 31, 208, the company had no commitments to fund construction or rehabilitation loans.
In compliance with California laws and regulations, all borrower receipts are deposited into a bank trust account maintained by RMC and subsequently disbursed to the company after an appropriate holding period. At December 31, 2018, the trust held a balance relating to the company’s loan portfolio of $67,214 consisting of both principal and interest payments from borrowers, all of which were disbursed by January 17, 2019.
71
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Lien position
Secured loans had the lien positions in the following table.
|
| December 31, 2018 |
|
| December 31, 2017 |
| ||||||||||||||||||
|
| Loans |
|
| Principal |
|
| Percent |
|
| Loans |
|
| Principal |
|
| Percent |
| ||||||
First trust deeds |
|
| 41 |
|
| $ | 29,699,888 |
|
|
| 48 | % |
|
| 60 |
|
| $ | 37,032,195 |
|
|
| 68 | % |
Second trust deeds |
|
| 42 |
|
|
| 32,415,825 |
|
|
| 52 |
|
|
| 33 |
|
|
| 17,736,494 |
|
|
| 32 |
|
Total principal, secured loans |
|
| 83 |
|
|
| 62,115,713 |
|
|
| 100 | % |
|
| 93 |
|
|
| 54,768,689 |
|
|
| 100 | % |
Liens due other lenders at loan closing |
|
|
|
|
|
| 65,941,118 |
|
|
|
|
|
|
|
|
|
|
| 31,545,806 |
|
|
|
|
|
Total debt |
|
|
|
|
| $ | 128,056,831 |
|
|
|
|
|
|
|
|
|
| $ | 86,314,495 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Appraised property value at loan closing |
|
|
|
|
| $ | 240,307,000 |
|
|
|
|
|
|
|
|
|
| $ | 181,018,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percent of total debt to appraised values (LTV) at loan closing(1) |
|
|
|
|
|
| 54.5 | % |
|
|
|
|
|
|
|
|
|
| 53.5 | % |
|
|
|
|
| (1) | based on appraised values and liens due to other lenders at loan closing. The weighted-average loan-to-value (LTV) computation above does not take into account subsequent increases or decreases in property values following the loan closing nor does it included decreases or increases of the amount owing on senior liens to other lenders. |
Property type
Secured loans summarized by property type are presented in the following table as of December 31, 2018 and 2017.
|
| December 31, 2018 |
|
| December 31, 2017 |
| ||||||||||||||||||
|
| Loans |
|
| Principal |
|
| Percent |
|
| Loans |
|
| Principal |
|
| Percent |
| ||||||
Single family(2) |
|
| 60 |
|
| $ | 42,967,253 |
|
|
| 69 | % |
|
| 67 |
|
| $ | 37,615,216 |
|
|
| 69 | % |
Multi-family |
|
| 8 |
|
|
| 8,210,970 |
|
|
| 13 |
|
|
| 5 |
|
|
| 2,164,861 |
|
|
| 4 |
|
Commercial |
|
| 15 |
|
|
| 10,937,490 |
|
|
| 18 |
|
|
| 21 |
|
|
| 14,988,612 |
|
|
| 27 |
|
Total principal, secured loans |
|
| 83 |
|
| $ | 62,115,713 |
|
|
| 100 | % |
|
| 93 |
|
|
| 54,768,689 |
|
|
| 100 | % |
| (2) | single family property type as of December 31, 2018 consists of 14 loans with principal of $11,398,869 that are owner occupied and 46 loans with principal of $31,568,384 that are non-owner occupied. At December 31, 2017, single family property consisted of 10 loans with principal of $6,309,036 that are owner occupied and 57 loans with principal $31,306,180 that are non-owner occupied. |
72
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Distribution of loans in California
The distribution of secured loans by counties is presented in the following table as of December 31, 2018 and 2017.
|
| December 31, 2018 |
|
| December 31, 2017 |
| ||||||||||
|
| Principal |
|
| Percent |
|
| Principal |
|
| Percent |
| ||||
San Francisco Bay Area(3) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Santa Clara |
| $ | 11,756,695 |
|
|
| 18.9 | % |
|
| 5,461,084 |
|
|
| 10.0 | % |
San Mateo |
|
| 9,619,609 |
|
|
| 15.5 |
|
|
| 7,800,549 |
|
|
| 14.2 |
|
Alameda |
|
| 7,306,779 |
|
|
| 11.8 |
|
|
| 9,869,036 |
|
|
| 18.0 |
|
San Francisco |
|
| 5,238,008 |
|
|
| 8.4 |
|
|
| 8,338,720 |
|
|
| 15.1 |
|
Sonoma |
|
| 1,300,000 |
|
|
| 2.1 |
|
|
| — |
|
|
| — |
|
Contra Costa |
|
| 725,771 |
|
|
| 1.2 |
|
|
| 1,511,195 |
|
|
| 2.8 |
|
Marin |
|
| 575,000 |
|
|
| 0.9 |
|
|
| — |
|
|
| — |
|
Solano |
|
| — |
|
|
| — |
|
|
| 109,443 |
|
|
| 0.2 |
|
|
|
| 36,521,862 |
|
|
| 58.8 |
|
|
| 33,090,027 |
|
|
| 60.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other Northern California |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sacramento |
|
| 822,500 |
|
|
| 1.3 |
|
|
| 850,000 |
|
|
| 1.6 |
|
Placer |
|
| 637,354 |
|
|
| 1.0 |
|
|
| 642,913 |
|
|
| 1.2 |
|
Monterey |
|
| 322,716 |
|
|
| 0.5 |
|
|
| — |
|
|
| — |
|
Yolo |
|
| — |
|
|
| — |
|
|
| 174,758 |
|
|
| 0.3 |
|
San Joaquin |
|
| — |
|
|
| — |
|
|
| 157,039 |
|
|
| 0.3 |
|
|
|
| 1,782,570 |
|
|
| 2.8 |
|
|
| 1,824,710 |
|
|
| 3.4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Northern California Total |
|
| 38,304,432 |
|
|
| 61.6 |
|
|
| 34,914,737 |
|
|
| 63.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Los Angeles & Coastal |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Los Angeles |
|
| 15,514,789 |
|
|
| 25.0 |
|
|
| 12,357,456 |
|
|
| 22.6 |
|
San Diego |
|
| 5,563,635 |
|
|
| 9.0 |
|
|
| 2,192,746 |
|
|
| 4.0 |
|
Orange |
|
| 1,177,446 |
|
|
| 1.9 |
|
|
| 1,487,747 |
|
|
| 2.7 |
|
Santa Barbara |
|
| — |
|
|
| — |
|
|
| 996,768 |
|
|
| 1.8 |
|
Ventura |
|
| — |
|
|
| — | �� |
|
| 350,000 |
|
|
| 0.6 |
|
|
|
| 22,255,870 |
|
|
| 35.9 |
|
|
| 17,384,717 |
|
|
| 31.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other Southern California |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
San Bernardino |
|
| 1,200,000 |
|
|
| 1.9 |
|
|
| 2,110,000 |
|
|
| 3.9 |
|
Riverside |
|
| 355,411 |
|
|
| 0.6 |
|
|
| 359,235 |
|
|
| 0.7 |
|
|
|
| 1,555,411 |
|
|
| 2.5 |
|
|
| 2,469,235 |
|
|
| 4.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Southern California Total |
|
| 23,811,281 |
|
|
| 38.4 |
|
|
| 19,853,952 |
|
|
| 36.3 |
|
Total principal, secured loans |
| $ | 62,115,713 |
|
|
| 100.0 | % |
| $ | 54,768,689 |
|
|
| 100.0 | % |
| (3) | Includes Silicon Valley |
73
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Scheduled maturities
Secured loans are scheduled to mature as presented in the following table as of December 31, 2018.
|
| Loans |
|
| Principal |
|
| Percent |
| |||
2019 |
|
| 36 |
|
| $ | 33,004,666 |
|
|
| 53 | % |
2020 |
|
| 19 |
|
|
| 13,918,222 |
|
|
| 23 |
|
2021 |
|
| 16 |
|
|
| 11,315,211 |
|
|
| 18 |
|
2022 |
|
| 5 |
|
|
| 1,425,710 |
|
|
| 2 |
|
2023 |
|
| 3 |
|
|
| 839,097 |
|
|
| 1 |
|
Thereafter |
|
| 1 |
|
|
| 200,000 |
|
|
| 1 |
|
Total future maturities |
|
| 80 |
|
|
| 60,702,906 |
|
|
| 98 |
|
Matured as of December 31, 2018(4) |
|
| 3 |
|
|
| 1,412,807 |
|
|
| 2 |
|
Total principal, secured loans |
|
| 83 |
|
| $ | 62,115,713 |
|
|
| 100 | % |
| (4) | One loan with a principal balance of approximately $136,900, was 609 days past maturity, designated as impaired and in non-accrual status as of December 31, 2018, was sold to an unaffiliated third party in March 2019, resulting in an immaterial gain. Two loans with an aggregate principal balance of approximately $1,275,900, and were 91 days past maturity and designated as impaired as of December 31, 2018, paid off in-full in March 2019. |
Loans may be repaid or refinanced before, at or after the contractual maturity date. On matured loans, the company may continue to accept payments while pursuing collection of amounts owed from borrowers. Therefore, the above tabulation for scheduled maturities is not a forecast of future cash receipts.
Delinquency
Secured loans summarized by payment delinquency are presented in the following table as of December 31, 2018 and 2017.
|
| December 31, 2018 |
|
| December 31, 2017 |
| ||||||||||
|
| Loans |
|
| Principal |
|
| Loans |
|
| Principal |
| ||||
Past Due |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
30-89 days |
|
| 5 |
|
| $ | 3,828,975 |
|
|
| 3 |
|
| $ | 1,259,100 |
|
90-179 days |
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
180 or more days(5) |
|
| 2 |
|
|
| 565,685 |
|
|
| 1 |
|
|
| 139,643 |
|
Total past due |
|
| 7 |
|
|
| 4,394,660 |
|
|
| 4 |
|
|
| 1,398,743 |
|
Current |
|
| 76 |
|
|
| 57,721,053 |
|
|
| 89 |
|
|
| 53,369,946 |
|
Total principal, secured loans |
|
| 83 |
|
| $ | 62,115,713 |
|
|
| 93 |
|
| $ | 54,768,689 |
|
| (5) | One loan with a principal balance of approximately $136,900, was 609 days delinquent and past maturity, designated as impaired and as in non-accrual status as of December 31, 2018, was sold to an unaffiliated third party in March 2019 resulting in an immaterial gain. |
74
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Loan in non-accrual status
|
| December 31, 2018 |
|
| December 31, 2017 |
| ||
Number of loans(6) |
| $ | 2 |
|
| $ | 1 |
|
Principal |
|
| 565,685 |
|
|
| 139,643 |
|
Advances |
|
| 10,688 |
|
|
| 969 |
|
Accrued Interest |
|
| 19,831 |
|
|
| 11,025 |
|
Total recorded investment |
| $ | 596,204 |
|
| $ | 151,637 |
|
Foregone interest |
| $ | 33,410 |
|
| $ | 4,306 |
|
| (6) | One loan with a principal balance of approximately $136,900 which was designated as impaired and in non-accrual status as of December 31, 2018, was sold to an unaffiliated third party in March 2019 resulting in an immaterial gain. |
No loans were 90 or more days delinquent as to principal or interest and not in non-accrual status at December 31, 2018 or 2017.
Impaired loans/allowance for loan losses
|
| December 31, 2018 |
|
| December 31, 2017 |
| ||
Principal |
| $ | 3,841,148 |
|
| $ | 139,643 |
|
Recorded investment |
|
| 3,950,157 |
|
|
| 151,637 |
|
Impaired loans without allowance |
|
| 3,950,157 |
|
|
| 151,637 |
|
Impaired loans with allowance |
|
| — |
|
|
| — |
|
Allowance for loan losses, impaired loans |
|
| — |
|
|
| — |
|
|
|
|
|
|
|
|
|
|
Number of loans(7) |
|
| 6 |
|
|
| 1 |
|
| (7) | One loan with a principal balance of approximately $136,900 which was designated as impaired and in non-accrual status as of December 31, 2018, was sold to an unaffiliated third party in March 2019 resulting in an immaterial gain. Two loans with an aggregate principal balance of approximately $1,275,900, were designated as impaired as of December 31, 2018, paid off in-full in March 2019 |
Six and one loans were designated as impaired at December 31, 2018 and 2017, respectively. No allowance for loan losses has been recorded as all loans were deemed to have protective equity (i.e. low loan-to-value) such that collection is reasonably assured for all amounts owing.
Impaired loans had average balances and interest income recognized received in cash as presented in the following tables as of and for the years ending December 31, 2018 and 2017.
|
| December 31, 2018 |
|
| December 31, 2017 |
| ||
Average recorded investment |
| $ | 2,050,897 |
|
| $ | 536,934 |
|
Interest income recognized |
|
| 23,848 |
|
|
| 8,602 |
|
Interest income received in cash |
|
| 21,670 |
|
|
| 4,342 |
|
Modifications and troubled debt restructurings
No loan payment modifications were made during 2018 or 2017 and no modifications were in effect at December 31, 2018 or 2017.
The company does not record its performing loans at fair value on a recurring basis as it is the intention of the company to hold loans until maturity. In 2018, certain performing loans were sold, at an immaterial gain (net of expenses), in the same reporting period as when they would have been classified as held-for-sale. Therefore, the recorded amount of the preforming loan (i.e., the loan balance) is deemed to approximate fair value as is the loan balance of loans designated impaired for which a specific reserve has not been recorded (i.e., the loan is well collateralized such that collection of the amount owed is assured, including foregone interest, if any).
75
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Loans designated impaired (i.e., that are collateral dependent) are measured at fair value on a non-recurring basis when the net realizable value of the real property collateral is determined to be less than the loan balance. No impaired loans were measured at fair value on a non-recurring basis at and for the periods ending December 31, 2018 or 2017.
Secured loans, performing (i.e. not designated as impaired) (Level 2) - Each loan is reviewed quarterly for its delinquency, LTV adjusted for the most recent valuation of the underlying collateral, remaining term to maturity, borrower’s payment history and other factors. The fair value of loan balances secured by deeds of trust is deemed to approximate the recorded amount (per the financial statements) as our loans:
| • | are of shorter terms at origination than commercial real estate loans by institutional lenders; |
| • | are written without a prepayment penalty causing uncertainty/a lack of predictability as to the expected duration of the loan; and |
| • | have limited marketability and are not yet sellable into an established secondary market. |
Secured loans, designated impaired (Level 2) - Secured loans designated impaired are deemed collateral dependent, and the fair value of the loan is the lesser of the fair value of the collateral or the enforceable amount owing under the note. The fair value of the collateral is determined by exercise of judgment based on management’s experience informed by appraisals (by licensed appraisers), brokers’ opinion of values and publicly available information on in-market transactions (Level 2 inputs).
The following methods and assumptions are used to determine the fair value of the collateral securing a loan.
Single family – Management’s preferred method for determining the fair market value of its single-family residential assets is the sale comparison method. Management primarily obtains sale comps via its subscription to the RealQuest service, but also uses free online services such as Zillow.com and other available resources to supplement this data. Sale comps are reviewed for similarity to the subject property, examining features such as proximity to subject, number of bedrooms and bathrooms, square footage, sale date, condition and year built.
If applicable sale comps are not available or deemed unreliable, management will seek additional information in the form of brokers’ opinions of value or appraisals.
Multi-family residential – Management’s preferred method for determining the aggregate retail value of its multifamily units is the sale comparison method. Sale comps are reviewed for similarity to the subject property, examining features such as proximity to subject, rental income, number of units, composition of units by the number of bedrooms and bathrooms, square footage, condition, amenities and year built.
Management’s secondary method for valuing its multifamily assets as income-producing rental operations is the direct capitalization method. In order to determine market cap rates for properties of the same class and location as the subject, management refers to published data from reliable third-party sources such as the CBRE Cap Rate Survey. Management applies the appropriate cap rate to the subject’s most recent available annual net operating income to determine the property’s value as an income-producing project. When adequate sale comps are not available or reliable net operating income information is not available or the project is under development or is under-performing to market, management will seek additional information and analysis to determine the cost to improve and the intrinsic fair value and/or management will seek additional information in the form of brokers’ opinion of value or appraisals.
Commercial buildings – Where commercial rental income information is available, management’s preferred method for determining the fair value of its commercial real estate assets is the direct capitalization method. In order to determine market cap rates for properties of the same class and location as the subject, management refers to reputable third-party sources such as the CBRE Cap Rate Survey. Management then applies the appropriate cap rate to the subject’s most recent available annual net operating income to determine the property’s value as an income-producing commercial rental project. When adequate sale comps are not available or reliable net operating income information is not available or the project is under development or is under-performing to market, management will seek additional information and analysis to determine the cost to improve and the intrinsic fair value and/or management will seek additional information in the form of brokers’ opinion of value or appraisals.
76
REDWOOD MORTGAGE INVESTORS IX, LLC
(A Delaware Limited Liability Company)
Notes to Financial Statements
December 31, 2018 and 2017
Management supplements the direct capitalization method with additional information in the form of a sale comparison analysis (where adequate sale comps are available), brokers’ opinion of value, or appraisal.
Commercial land – Commercial land has many variations/uses, thus requiring management to employ a variety of methods depending upon the unique characteristics of the subject land. Management may rely on information in the form of a sale comparison analysis (where adequate sale comps are available), brokers’ opinion of value, or appraisal.
NOTE 5 – COMMITMENTS AND CONTINGENCIES, OTHER THAN LOAN COMMITMENTS
Commitments
Scheduled redemptions of members’ capital as of December 31, 2018 are presented in the following table.
2019 |
| $ | 1,253,669 |
|
2020 |
|
| — |
|
2021 |
|
| — |
|
2022 |
|
| — |
|
Total |
| $ | 1,253,669 |
|
The company is obligated, per the Operating Agreement, to reimburse RMC for O&O expenses at 4.5% of gross proceeds of future unit sales. As of December 31, 2018, RMC had incurred $3,510,299 of O&O expenses in excess of the 4.5% cap, and which may be reimbursed to RMC contingent upon the proceeds of future unit sales and the future O&O expenses incurred by RMC.
Legal proceedings
In the normal course of its business, the company may become involved in legal proceedings (such as assignment of rents, bankruptcy proceedings, appointment of receivers, unlawful detainers, judicial foreclosure, etc.) to collect the debt owed under the promissory notes, to enforce the provisions of the deeds of trust, to protect its interest in the real property subject to the deeds of trust and to resolve disputes with borrowers, lenders, lien holders and mechanics. None of these actions, in and of themselves, typically would be of any material financial impact to the net income or balance sheet of the company. As of the date hereof, the company is not involved in any legal proceedings other than those that would be considered part of the normal course of business.
NOTE 6 – SUBSEQUENT EVENTS
None, other than the loan transactions described in Note 4 – Loans to the financial statements of this report.
77
Item 9 – Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A – Controls and Procedures
Evaluation of Disclosure Controls and Procedures
The company is externally managed by RMC. The manager is solely responsible for managing the business and affairs of the company, subject to the voting rights of the members on specified matters. The manager acting alone has the power and authority to act for and bind the company. RMC provides the personnel and services necessary for us to conduct our business, as we have no employees of our own.
As a limited liability company, we do not have a board of directors, nor, therefore, do we have an audit committee of the board of directors. Thus, there is not conventional independent oversight of the company’s financial reporting process. The manager, however, provides the equivalent functions of a board of directors and of an audit committee for, among other things, the following purposes:
| • | Appointment; compensation, and review and oversight of the work of our independent public accountants; and |
| • | establishing and maintaining internal controls over our financial reporting. |
RMC, as the manager, carried out an evaluation, with the participation of RMC's President (acting as principal executive officer/principal financial officer) of the effectiveness of the design and operation of the manager's controls and procedures over financial reporting and disclosure (as defined in Rule 13a-15 of the Exchange Act) for and as of the year ended December 31, 2018. Based upon that evaluation, RMC's principal executive officer/principal financial officer concluded that the manager's disclosure controls and procedures were effective.
Manager’s Report on Internal Control over Financial Reporting
RMC, as the manager, is responsible for establishing and maintaining adequate internal control over financial reporting; as such term is defined in the Exchange Act Rule 13a-15(f). The internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America.
RMC, with the participation of RMC's principal executive officer/principal financial officer, conducted an evaluation of the effectiveness of the manager's internal control over financial reporting based on the Internal Control - Integrated Framework (1992 Framework) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on the results of this evaluation, management concluded that its internal control over financial reporting was effective as of December 31, 2018.
Changes to Internal Control Over Financial Reporting
There have not been any changes in internal control over financial reporting (as such term is defined in Rule 13a-15(f) under the Exchange Act) that have materially affected, or are reasonably likely to materially affect, the manager’s or company’s internal control over financial reporting.
None.
78
Item 10 – Directors, Executive Officers and Corporate Governance
The company is externally managed by Redwood Mortgage Corp. (or RMC or the manager). The manager is solely responsible for managing the business and affairs of the company, subject to the voting rights of the members on specified matters. The manager acting alone has the power and authority to act for and bind the company. RMC provides the personnel and services necessary for us to conduct our business as we have no employees of our own.
The mortgage loans the company funds and/or invests in are arranged and generally are serviced by RMC. The manager is required to contribute to capital one tenth of one percent (0.1%) of the aggregate capital accounts of the members.
The rights, duties and powers of the members and manager of the company are governed by the company’s Operating Agreement, the Delaware Limited Liability Company Act and the California Revised Uniform Limited Liability Company Act. Members should refer to the company’s Operating Agreement for complete disclosure of its provisions. Members representing a majority of the outstanding units may, without the concurrence of the manager, vote to:
| • | dissolve the company; |
| • | amend the Operating Agreement, subject to certain limitations; |
| • | approve or disapprove the sale of all or substantially all of the assets of the company; or |
| • | remove or replace the manager. |
Where there is only one manager, a majority in interest of the members is required to elect a new manager to continue the company business after a manager ceases to be a manager due to its withdrawal.
The Manager
Redwood Mortgage Corp. Redwood Mortgage Corp. is a licensed real estate broker incorporated in 1978 under the laws of the State of California, and is engaged primarily in the business of arranging and servicing mortgage loans. Redwood Mortgage Corp. will act as the loan broker and servicing agent in connection with loans, as it has done on behalf of several other affiliate of mortgage funds formed by the manager.
Officers and Directors
Michael R. Burwell. Michael R. Burwell, age 62, President, Secretary/Treasurer and, Director, Redwood Mortgage Corp. (1979-present); Director, Secretary and Treasurer A & B Financial Services, Inc. (1980-2009); President, Director, Chief Financial Officer and Secretary of Gymno Corporation (1986-September 2011) and, the manager of Gymno LLC, the entity into which Gymno Corporation was converted (September 2011- June 30, 2015); President, Director, Secretary and Treasurer of The Redwood Group, Ltd. (1979-September 2011); past member of Board of Trustees and Treasurer, Mortgage Brokers Institute (1984-1986). Mr. Burwell is licensed as a real estate sales person. Mr. Burwell was a general partner of each of the RMI, RMI II, RMI III, RMI IV, RMI V, RMI VI, and RMI VII limited partnerships. Mr. Burwell is a general partner of RMI VIII limited partnership. Mr. Burwell attended the University of California, at Davis from 1975-1979, playing NCAA soccer for three seasons.
Lorene A. Randich. Lorene A. Randich, age 61, Executive Vice President of Lending Operations, joined Redwood Mortgage Corp. in 1991, and has served as a Director since November 2011. Ms. Randich has held the real estate broker’s license of record for Redwood Mortgage Corp. since November 2011. Ms. Randich has been a licensed real estate broker since 1996. She is a member of the National Association of Realtors, the California Mortgage Bankers Association, the California Association of Mortgage Professionals (Board Member–San Francisco/Peninsula Chapter) and the California Mortgage Association (Board Member and Education Committee Chairperson). Ms. Randich received a BA from UC Berkeley in 1980.
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Thomas R. Burwell. Thomas R. Burwell, age 51, joined Redwood Mortgage Corp. in 2007 and has served as Marketing and Sales Director since 2012; Loan Officer-Builder Division Wells Fargo Bank, N.A (Westwood, CA 2005-2007); Loan Officer, Wells Fargo Bank, N.A. (Beverly Hills 2004-2005); Loan Officer Wells Fargo Bank, N.A. (New York, NY 2002-2004). Mr. Burwell is a member of the Financial Planning Association, San Francisco, CA. Mr. Burwell received a BA from the University of California at Davis in 1990. Mr. Burwell is a former ATP (Association of Tennis Professionals) world tour professional and was a NCAA Team and Individual Finalist, Team Captain, (Three-time) All-American, #1 Singles and #1 Doubles Player for University of California at Davis. Thomas R Burwell is the brother of Michael R. Burwell.
Financial Oversight by Manager
The company does not have a board of directors or an audit committee. Accordingly, the manager serves the equivalent function of an audit committee for, among other things, the following purposes: appointment, compensation, review and oversight of the work of our independent public accountants, and establishing the enforcing of the Code of Ethics. However, since the company does not have an audit committee and the manager is not independent of the company, the company does not have an “audit committee financial expert.”
Code of Ethics
The manager has adopted a Code of Ethics applicable to the manager and to any agents, employees or independent contractors engaged by the manager to perform the functions of a principal financial officer, principal accounting officer or controller of the company, if any. You may obtain a copy of this Code of Ethics, without charge, upon request by calling our Investor Services Department at (650) 365-5341, option 5.
Item 11 – Executive Compensation
The company does not pay any compensation to the officers and directors of our manager for the services they provide to RMC.
As indicated above in Item 10, the company is externally managed and has no officers or directors. The manager is solely responsible for managing the business and affairs of the company, subject to the voting rights of the members on specified matters.
RMC is the manager of the company. The mortgage loans the company invests in are arranged and are generally serviced by RMC. Michael R. Burwell is the president and majority shareholder (through his holdings and beneficial interests in certain trusts) of RMC.
Compensation of the Manager
The company’s Operating Agreement permits certain fees and cost reimbursements to be paid to the manager. See Note 3 (Manager and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for a presentation of fees and cost reimbursements to the Manager, which presentation is incorporated herein by reference.
In addition to the fees and reimbursements paid by the company, RMC receives compensation directly from the borrowers, including brokerage commissions on loan originations. In 2018, RMC received brokerage commissions of approximately $1,344,000 related to loan originations made by the company.
Item 12 – Security Ownership of Certain Beneficial Owners and Management, and Related Stockholder Matters
No person or entity owns beneficially more than five percent (5%) of the units. The manager does not own any units, but has, per the provisions of the company’s Operating Agreement, made capital contributions of one-tenth of one percent (0.1%) of the aggregate capital accounts of the members, and is allocated one percent (1%) of the net income and losses of the company.
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Item 13 – Certain Relationships and Related Transactions, and Director Independence
See Note 1 (Organization and General) and Note 3 (Manager and Other Related Parties) to the Financial Statements in Part II item 8, which describes certain relationships and related transactions and related party fees.
The company is managed externally and does not have the equivalent of independent directors.
See Note 3 (Manager and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for amounts received by the manager in fiscal years 2018 and 2017. The tables in Note 3 also include certain professional service fees that the manager paid on behalf of the company.
Item 14 – Principal Accountant Fees and Services
Fees for services performed for the company by the principal accountant for 2018 and 2017 are as follows:
Audit Fees. The aggregate fees during 2018 and 2017 for professional services rendered for the audit of the company’s annual financial statements included in the company’s Annual Report on Form 10-K, review of financial statements included in the company’s Quarterly Reports on Form 10-Q and for services provided in connection with regulatory filings were approximately $144,100 and $193,600, respectively.
Audit Related Fees. There were no fees during 2018 and 2017 for audit-related services.
Tax fees. There were no fees during 2018 and 2017 for tax related services
All Other Fees. There were no other fees during 2018 and 2017.
All audit and non-audit services are approved by the manager prior to the accountant being engaged by the company.
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Item 15 – Exhibits and Financial Statement Schedules
A. | Documents filed as part of this report are incorporated: |
| 1. | In Part II, Item 8 under A – Financial Statements. |
| 2. | None. |
| 3. | Exhibits. |
Exhibit No. |
| Description of Exhibits |
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3.2 |
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3.3 |
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4.1 |
| Subscription Agreement and Power of Attorney, including Special Notice for California Residents* |
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10.1 |
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10.2 |
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10.3 |
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10.4 |
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10.5 |
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10.6 |
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10.7 |
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31.1 |
| Certification of Manager pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
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32.1 |
| Certification of Manager pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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99.1 |
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101.INS |
| XBRL Instance Document |
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101.SCH |
| XBRL Taxonomy Extension Schema Document |
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101.CAL |
| XBRL Taxonomy Extension Calculation Linkbase Document |
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101.DEF |
| XBRL Taxonomy Extension Definition Linkbase Document |
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101.LAB |
| XBRL Taxonomy Extension Label Linkbase Document |
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101.PRE |
| XBRL Taxonomy Extension Presentation Linkbase Document |
* | Incorporated by reference to the item under the corresponding exhibit number in the registrant’s annual report on Form 10-K for the fiscal year ended December 31, 2015 (File no. 000-55601). |
** | Incorporated by reference to Exhibit 10.7 in the registrant’s quarterly report on Form 10-Q for the nine months ended September 30, 2016 (File no. 000-55601). |
None.
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Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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| REDWOOD MORTGAGE INVESTORS IX, LLC | ||||
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| (Registrant) | ||||
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Date: April 1, 2019 |
| By: |
| Redwood Mortgage Corp., Manager | ||
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| By: |
| /s/ Michael R. Burwell |
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| Name: |
| Michael R. Burwell |
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| Title: |
| President, Secretary/Treasurer |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacity indicated on the 1st day of April, 2019.
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Signature |
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/s/ Michael R. Burwell |
| President, Secretary/Treasurer Redwood Mortgage Corp. |
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Michael R. Burwell |
| (Principal Executive, Financial and Accounting Officer); Director of Redwood Mortgage Corp. |
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/s/ Lorene A. Randich |
| Director of Redwood Mortgage Corp. |
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Lorene A. Randich |
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/s/ Thomas R. Burwell |
| Director of Redwood Mortgage Corp. |
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Thomas R. Burwell |
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