UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
| [X] | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Year Ended December 31, 2012
| [ ] | 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: 000-27816
REDWOOD MORTGAGE INVESTORS VIII,
a California Limited Partnership
(Exact name of registrant as specified in its charter)
| California | 94-3158788 |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification Number) |
| | |
| 900 Veterans Blvd., Suite 500, Redwood City, CA | 94063 |
| (Address of principal executive offices) | (Zip Code) |
(650) 365-5341
(Registrant's telephone number, including area code)
| Securities registered pursuant to Section 12(b) of the Act: | |
| Securities registered pursuant to Section 12(g) of the Act: | Limited Partnership Units |
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
[ ] YES [X] 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 [X] 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.
[X] YES [ ] NO
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files).
[X] 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. [X]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act
| Large accelerated filer [ ] | Accelerated filer [ ] |
Non-accelerated filer [ ] (Do not check if a smaller reporting company) | Smaller reporting company [X] |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
[ ] YES [X] NO
The registrant’s limited partnership units are not publicly traded and therefore have no market value.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Prospectus, dated August 4, 2005, and Supplement No. 6 dated April 28, 2008, included as part of the Post Effective Amendment No. 8 to the Registration Statement on Form S-11 (SEC File No. 333-125629) are incorporated in the following sections of this report:
| · | Part I – Item 1 - Business |
| · | Part II – Item 5 – Market for the Registrant’s “Limited Partnership Units,” Related Unitholder Matters and Issuer Purchases of Equity Securities |
| · | Part III – Item 11 –Executive Compensation |
| · | Part III – Item 13 – Certain Relationships and Related Transactions, and Director Independence” |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Index to Form 10-K
December 31, 2011
| | Part I | | |
| | | Page No. |
| Item 1 | – Business | 4 | |
| Item 1A | – Risk Factors (Not included as smaller reporting company) | 11 | |
| Item 1B | – Unresolved Staff Comments (Not applicable) | 11 | |
| Item 2 | – Properties | 11 | |
| Item 3 | – Legal Proceedings | 11 | |
| Item 4 | – Mine Safety Disclosures | 11 | |
| | | | |
| | Part II | | |
| | | | |
| Item 5 | – Market for the Registrant’s “Limited Partnership Units,” Related Unitholder Matters and | | |
| | Issuer Purchases of Equity Securities | 12 | |
| Item 6 | – Selected Consolidated Financial Data (Not included as smaller reporting company) | 12 | |
| Item 7 | – Management's Discussion and Analysis of Financial Condition and Results of Operations | 12 | |
| Item 7A | – Quantitative and Qualitative Disclosures About Market Risk (Not included as smaller reporting company) | 19 | |
| Item 8 | – Consolidated Financial Statements and Supplementary Data | 19 | |
| Item 9 | – Changes in and Disagreements with Accountants on Accounting and Financial Disclosure | 58 | |
| Item 9A | – Controls and Procedures | 58 | |
| Item 9B | – Other Information | 58 | |
| | | | |
| | Part III | | |
| | | | |
| Item 10 | – Directors, Executive Officers and Corporate Governance | 59 | |
| Item 11 | – Executive Compensation | 60 | |
| Item 12 | – Security Ownership of Certain Beneficial Owners and Management, and Related Stockholder Matters | 61 | |
| Item 13 | – Certain Relationships and Related Transactions, and Director Independence | 61 | |
| Item 14 | – Principal Accountant Fees & Services | 61 | |
| | | | |
| | Part IV | | |
| | | | |
| Item 15 | – Exhibits and Financial Statement Schedules | 62 | |
| | | | |
| Signatures | 63 | |
| | | | |
| Certifications | 65 | |
Part I
Forward-Looking Statements
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, and Section 21E of the Securities and Exchange Act of 1934, as amended, including statements regarding the partnership’s expectations, hopes, intentions, beliefs and strategies regarding the future. Forward-looking statements include statements regarding future interest rates and economic conditions and their effect on the partnership and its assets, trends in the California real estate market, estimates as to the allowance for loan losses, estimates of future limited partner withdrawals, 2013 annualized yield estimates, additional foreclosures in 2013, expectations regarding the level of loan delinquencies, plans to develop certain properties, beliefs relating to the impact on the partnership from current economic conditions and trends in the financial and credit markets, expectations as to when liquidations will resume, beliefs regarding the partnership’s ability to recover its investment in certain properties, beliefs regarding the effect of borrower foreclosures on liquidity, the use of excess cash flow and the intention not to sell the partnership’s loan portfolio. Actual results may be materially different from what is projected by such forward-looking statements. Factors that might cause such a difference include unexpected changes in economic conditions and interest rates, the impact of competition and competitive pricing and downturns in the real estate markets in which the partnership has made loans. 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.
Item 1 – Business
Overview
Redwood Mortgage Investors VIII, a California Limited Partnership, (“RMI VIII” or the “partnership”) was organized in 1993. The general partners of the partnership are Redwood Mortgage Corp. (“RMC”) and its wholly-owned subsidiary, Gymno LLC (“Gymno”), a California limited liability company, and Michael R. Burwell (“Burwell”), an individual. The partnership was organized to engage in business as a mortgage lender for the primary purpose of making loans secured by deeds of trust on California real estate. Loans are being arranged and serviced by RMC. Michael Burwell is the president and majority shareholder (through his holdings and beneficial interests in certain trusts) of RMC. The general partners are solely responsible for partnership business, subject to the voting rights of the limited partners on specified matters. Any one of the general partners acting alone has the power and authority to act for and bind the partnership. The general partners are required to contribute to capital 1/10 of 1% of the aggregate capital contributions of the limited partners. As of December 31, 2012, the general partners had contributed capital in accordance with Section 4.1 of the partnership agreement.
The rights, duties and powers of the general and limited partners of the partnership are governed by the limited partnership agreement and Sections 15900 et seq. of the California Corporations Code.
The general partners are solely responsible for managing the partnership business, subject to the rights of the limited partners to vote on specified matters. Any one of the general partners acting alone has the power and authority to act for and bind the partnership. A majority of the outstanding limited partnership interests may, without the consent of the general partners, vote to: (i) terminate the partnership, (ii) amend the limited partnership agreement, (iii) approve or disapprove the sale of all or substantially all of the assets of the partnership and (iv) remove or replace one or all of the general partners. The approval of the majority of limited partners is required to elect a new general partner to continue the partnership business where there is no remaining general partner after a general partner ceases to be a general partner other than by removal.
Profits and losses are allocated among the limited partners according to their respective capital accounts monthly after 1% of the profits and losses are allocated to and among the general partners. The limited partners elect, at the time of their subscription for units, to (a) receive a monthly, quarterly or annual cash distributions of their pro-rata share of profits or (b) have profits credited to their capital accounts and used to invest in partnership activities. The election to receive cash distributions is irrevocable. Subject to certain limitations, a compounding investor may subsequently change his election. Monthly results are subject to subsequent adjustment as a result of quarterly and year-end accounting and reporting. Income taxes – federal and state – are the obligation of the partners, if and when income taxes apply, other than for the minimum annual California franchise tax paid by the partnership. Investors should not expect the partnership to provide tax benefits of the type commonly associated with limited partnership tax shelter investments.
There are substantial restrictions on transferability of units and accordingly an investment in the partnership is non-liquid. Limited partners have no right to withdraw from the partnership or to obtain the return of their capital account for at least one year from the date of purchase of partnership units. In order to provide a certain degree of liquidity to the limited partners after the one-year period, limited partners may withdraw all or part of their capital accounts from the partnership in four quarterly installments beginning on the last day of the calendar quarter following the quarter in which the notice of withdrawal is given, subject to a 10% early withdrawal penalty. The 10% penalty is applicable to the amount withdrawn as stated in the notice of withdrawal and will be deducted from the capital account. Once a limited partner has been in the partnership for the minimum five-year period, no penalty is imposed if the withdrawal is made in twenty quarterly installments or longer. Notwithstanding the minimum withdrawal period, the general partners, at their discretion, may liquidate all or part of a limited partner’s capital account in four quarterly installments beginning on the last day of the calendar quarter following the quarter in which the notice of withdrawal is given, subject to a 10% early withdrawal penalty applicable to any sums withdrawn prior to when such sums could have been withdrawn without penalty.
The partnership does not establish a reserve from which to fund withdrawals and, accordingly, the partnership’s capacity to return a limited partner’s capital account is restricted to the availability of partnership cash flow. Furthermore, no more than 20% of the total limited partners’ capital accounts outstanding at the beginning of any year may be liquidated during any calendar year.
In March 2009, in response to economic conditions then existing, as to the financial-market crisis, the dysfunction of the credit markets, the distress in the real estate markets, and the expected cash needs of the partnership, the partnership suspended capital liquidations and is not accepting new liquidation requests until further notice. In the fourth quarter of 2009 the partnership entered into a forbearance agreement with its banks and subsequently entered into an amended and restated loan agreement (dated October 2010) which included additional restrictions on liquidations and distributions of partners’ capital. The bank loan was paid off in September 2012.
Principal Investment Objectives and General Standards for Mortgage Loans
Principal Investment Objectives
The partnership’s primary objectives are to make investments which will:
| (i) | yield a high rate of return from mortgage lending and; |
| (ii) | preserve and protect the partners’ capital |
General Standards for Mortgage Loans
The partnership is engaged in the business of making loans with first and second deeds of trust on real property located in California, including:
| · | single-family property includes owner-occupied and non-owner occupied single family homes (1-4 unit residential buildings), condominium units, townhouses, and condominium complexes, |
| · | multi-family residential property (such as apartment buildings), |
| · | commercial property (such as stores, shops and offices), and |
As of December 31, 2012, of the partnership’s outstanding loan portfolio, 76% is secured by 1 to 4 unit single family residences, inclusive of condominiums, 19% by commercial properties, 4% by multifamily properties and 1% by undeveloped land. The partnership may also make loans secured by promissory notes which are secured by deeds of trust and are assigned to the partnership.
Loans are arranged and serviced by RMC, one of the general partners. 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. For loans secured by real property used commercially, such considerations though 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 our 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 loan-to-value ratio generally will not exceed 80% for residential properties (including multi-family), 70% for commercial properties, and 50% for land. The excess of the value of the collateral securing the loan over the total debt owing on the property, including the partnership’s loan, is the “protective equity”.
We believe our LTV policy gives 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 partnership may have a higher level of loan-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.
Recently enacted federal legislation impacts the lending to non-commercial residential borrowers by requiring the lender to consider a borrower’s ability to meet payment obligations specified in the loan documents. The Dodd-Frank Act imposes significant new regulatory restrictions on the origination of residential mortgage loans, under sections concerning "Mortgage Reform and Anti-Predatory Lending." For example, these provisions require that when a consumer loan is made, the lender must make a reasonable and good faith determination, based on verified and documented information concerning the consumer’s financial situation, 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 general partners are monitoring developments and, if and when applicable will adjust underwriting and lending practices accordingly. Residential lending on owner occupied properties that would be subject to the legislation and regulations generally has not been a significant portion of the loans made by the partnership’s general partners.
Other Recent Developments
The combination of general economic conditions of low growth with continuing high unemployment following the 2008 financial crisis and the resultant Great Recession, the constrained credit markets, the distressed real estate markets, and the terms and the conditions of the amended and restated loan agreement with our banks has resulted in significant changes to the lending and business operations of the partnership, as well as to its balance sheet, results of operations and cash flows.
Since the partnership has been limited in its capacity to originate loans by economic conditions, market constraints and the terms and conditions of the amended and restated loan agreement, the partnership’s net interest income (interest income less interest expense) declined from $30,500,000 in 2008 to $(1,573,000) in 2012.
As to the balance sheet of the partnership subsequent to the financial crisis and during the Great Recession, the asset mix has migrated from predominantly performing loans to Real Estate Owned (REO) and impaired loans. Total assets, the sum of all assets owned by the partnership, decreased from $424,873,000 at December 31, 2008, to $247,775,000 at December 31, 2012 (a decline of $177,098,000 or 42%). Net loans, the total of loan principal, advances, accrued interest, and unsecured loans, less the allowance for losses, declined over the same dates from $386,589,000 to $46,380,000, respectively (a decline of $340,209,000 or 88%) resulting from a decrease in loan balances (principal declined from $363,037,000 at December 31, 2008, to $60,870,000 at December 31, 2012) and an increase in the allowance for loan losses (from $11,420,000 at December 31, 2008, to $19,815,000 at December 31, 2012). This reduction in loan balances reflected the decline during 2009 to 2011 in the fair value of the real estate collateral securing impaired loans, the repayment of loans, and the migration of loans to REO. REO increased from $25,693,000 at December 31, 2008, to $181,333,000 at December 31, 2012, as a consequence of the loan collection efforts undertaken by the general partners.
Cash received from loan payments, loan payoffs, the sale of real estate owned and third-party mortgages obtained on stabilized properties that we own and are included in REO was predominantly used to pay down the amount outstanding on the bank loan, to make the periodic interest and principal payments on the loan, to protect the security interest in the collateral securing the loans from senior debt and claims, to maintain and develop REO, to meet the operating expenses of the partnership, and to fund periodic payments to limited partners that elected monthly, quarterly and annual distributions.
In September 2012, the partnership paid all remaining amounts owing under the Bank Loan. The Bank Loan balance was $16,789,000, at December 31, 2011.
Secured Loan Portfolio
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 mortgage lending business is highly competitive, and the partnership will compete with numerous established entities, some of which have more financial resources and experience in the mortgage lending business. Major competitors in providing mortgage loans include banks, savings and loan associations, thrifts, conduit lenders, mortgage bankers, mortgage brokers, and other entities both larger and smaller than the partnership.
During the last several years many competitors, due to declines in real estate values, increases in loan delinquencies, foreclosures and/or liquidity issues have reduced or eliminated their real estate lending activity. Additionally, the declines in real estate values coupled with reduced overall sales and refinancing activity reduced the overall demand for loans. With the substantial real estate valuation declines that have taken place over the last several years far fewer borrowers have the ability to provide adequate security to back their loan requests. Competition from other lenders has declined with fewer active lenders in the market although less qualified loan demand exists. The partnership has not been able to capitalize on the reduction in lenders as it has experienced less available cash to invest in new loans due to reduced loan payoffs, increased acquisition of real estate owned, and requests for liquidation by its limited partners and a restriction on new loans under our bank loan described in Note 8 to the Notes to Consolidated Financial Statements included in this report. In addition the partnership has not been raising funds through new investments.
Regulations
We are subject to various federal, state and local laws, rules and regulations that affect our business. Following is a brief description of certain laws and regulations which are applicable to our business. The description of these laws and regulations, as well as descriptions of laws and regulations contained elsewhere in this Form 10-K, do not purport to be complete and is qualified in its entirety by reference to the applicable laws and regulations.
Regulations Applicable to Mortgage Lenders and Servicers
The partnership and Redwood Mortgage Corp., 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 are regularly being introduced.
These laws and regulations to which the partnership and Redwood Mortgage Corp. are subject include those pertaining to:
| · | real estate settlement procedures; |
| · | compliance with federal and state disclosure requirements; |
| · | the establishment of maximum interest rates, finance charges and other charges; |
| · | loan servicing procedures |
| · | secured transactions and foreclosure proceedings; and |
| · | privacy regulations providing for the use and safeguarding of non-public personal financial information of borrowers. |
Some of the key federal and state laws affecting our business include:
| · | Real Estate Settlement Procedures Act (RESPA). RESPA primarily regulates settlement procedures for real estate purchase and refinance transactions on residential (1-4 unit) properties. It governs lenders’ ability to require the use of specified third party providers for various settlement services, such as appraisal or escrow services. RESPA also governs the format of the good faith estimate of loan transaction charges and the HUD-1 escrow settlement statement. |
| · | Truth in Lending Act. This federal act was enacted in 1968 for the purpose of regulating consumer financing and is implemented by the Consumer Financial Protection Bureau (CFPB). For real estate lenders, this act requires, among other things, advance disclosure of certain loan terms, calculation of the costs of the loan as demonstrated through an annual percentage rate (APR), and provides for the right of a consumer in a refinance transaction on their primary residence to rescind their loan within three days following signing. |
| · | Home Ownership and Equity Protection Act (HOEPA) and California 4970. HOEPA was passed in 1994 to provide additional disclosures for certain closed-end home mortgages 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. The Consumer Financial Protection Bureau (CFPB) has recently issued additional rules which will a) lower the interest rate and fees thresholds, causing more loans to be ‘covered’ under the regulation, b) expand the prohibitions against certain loan terms, including prepayment penalties, and c) require that all borrowers of HOEPA loans first obtain home ownership counseling by a HUD-approved counselor. These changes will become effective in January, 2014.The failure to comply with the regulations will render the loan rescindable for up to three years. Lenders can also be held liable for attorneys’ fees, finance charges and fees paid by the borrower and certain other money damages. Similarly in California, Assembly Bill 489, which was signed into law in 2001 and became effective as of July 1, 2002 as Business and Practices (B&P) Code 4970, provides for state regulation of “high cost” residential mortgage and consumer loans secured by liens on real property, which are equal to or less than the Fannie Mae/Freddie Mac conforming loan limits, with interest rates and fees exceeding a certain percentage or amount threshold. The law prohibits certain lending practices with respect to high cost loans, including the making of a loan without regard to the borrower’s ability to repay the debt. When making such loans, lenders must provide borrowers with a consumer disclosure, and provide for an additional rescission period prior to closing the loan. |
| · | Mortgage Disclosure Improvement Act. Enacted in 2008, this act amended the Truth in Lending Act regulating the timing and delivery of loan disclosures for all mortgage loan transactions governed under RESPA. |
| · | Home Mortgage Disclosure Act. This act was enacted to provide for public access to statistical information on a lenders’ loan activity. It requires lenders to disclose certain information about the mortgage loans it originates and purchases, such as the race and gender of its customers, the disposition of mortgage applications, income levels and interest rate (i.e. annual percentage rate) information. |
| · | Red Flags Rule. The Red Flags Rule, which became effective on August 1, 2009, requires lenders and creditors to implement an identity theft prevention program to identify and respond to loan applications in which the misuse of a consumer’s personal identification may be suspected. |
| · | Graham-Leach-Bliley Act. This act requires all businesses which 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. |
| · | Dodd-Frank Act. The act enhanced regulatory requirements on banking entities and other organizations considered significant to U.S. financial markets. The act also 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. The act imposes significant new regulatory restrictions on the origination and servicing of residential mortgage loans, under sections concerning "Mortgage Reform and Anti-Predatory Lending." For example, these provisions require when a consumer loan is made, the lender must make a reasonable and good faith determination, based on verified and documented information concerning the consumer’s financial situation, 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 also established the CFPB, giving it regulatory authority over most federal consumer lending laws, including those relating to residential mortgage lending. |
| · | Homeowner’s Bill of Rights. Effective January 1, 2013, the state of California mandated specific loan servicing rules on all servicers of consumer loans secured by single family 1-4 owner occupied residential first mortgages. There are two categories of servicers defined in the law, small servicers which conducted 175 or fewer foreclosures in the preceding calendar year, and large servicers whose foreclosure volume exceeds the threshold. Among the requirements of the law are, establishment of a single point of contact for borrowers to resolve loan servicing issues and to request loan modifications, pre-foreclosure notice and disclosure requirements, a prohibition against ‘dual tracking’ in which the servicer proceeds with a foreclosure while simultaneously considering a loan modification, and a requirement that foreclosure notices be reviewed, complete and accurate (no ‘robo-signing’). This law provides for a private right of action by borrowers against their lenders, which could result in lengthy and costly delays in processing home loan foreclosures in the state. |
| · | Federal Loan Servicing Regulations. The CFPB has recently released final rules for servicing consumer loans on single family 1-4 residential properties. These rules will become effective in January, 2014. Among the key restrictions are a) timing form and content of periodic billing statements and adjustable rate mortgage notices, b) notice and timing requirements for forced-place insurance, c) single point of contact requirements, and d) loss mitigation requirements. Small servicers, defined as those servicing 5,000 or fewer mortgages, are exempt from much of the regulation. |
Recent or Pending Legislation and Regulatory Proposals
The recent credit crisis has led to an increased focus by federal, state and local legislators and regulatory authorities on entities engaged in the financial-services industry generally, principally banks, and on the mortgage industry specifically, principally with respect to residential lending to borrowers who intend to occupy the residence. A broad variety of legislative and regulatory proposals are continually being considered and such proposals cover mortgage loan products, loan terms and underwriting standards, risk management practices, foreclosure procedures and consumer protection, any or all of which could significantly affect the mortgage industry. These actions are intended to make it possible for qualified borrowers to obtain mortgage financing to purchase homes, refinance existing loans, avoid foreclosure on their homes, and to curb perceived lending abuses. It is too early to tell whether these legislative and regulatory initiatives, actions and proposals will achieve their intended effect or how they will affect our business and the mortgage industry generally.
| · | Proposed Amendments to the U.S. Bankruptcy Code. Since 2008, proposed legislation has been introduced before the U.S. Congress for the purpose of amending Chapter 13 in order to permit bankruptcy judges to modify certain terms in certain mortgages in bankruptcy proceedings, a practice commonly known as cramdown. Presently, Chapter 13 does not permit bankruptcy judges to modify mortgages of bankrupt borrowers. While the breadth and scope of the terms of the proposed amendments to Chapter 13 differ greatly, some commentators have suggested that such legislation could have the effect of increasing mortgage borrowing costs and thereby reducing the demand for mortgages throughout the industry. It is too early to tell when or if any of the proposed amendments to Chapter 13 may be enacted as proposed and what effect any such enacted amendments to Chapter 13 would have on the mortgage industry. Some local and state governmental authorities have taken, and others are contemplating taking, regulatory action to require increased loss mitigation outreach for borrowers, including the imposition of waiting periods prior to the filing of notices of default and the completion of foreclosure sales and, in some cases, moratoriums on foreclosures altogether. |
| · | Consumer Financial Protection Bureau’s QM Rule and Proposed QRM Rule. Under the Dodd-Frank Act, the CFPB is charged with writing rules to implement two new underwriting standards, Qualified Mortgages (QM) and Qualified Residential Mortgages (QRM). Although these two regulations affect different areas of consumer finance, they have similar definitions under Dodd-Frank, and their implementation will most likely have a similar effect within the mortgage lending industry. Under Dodd-Frank, securitizers will be required to retain a 5% interest in any securities they issue, unless 100% of the securities in the offering meet the Qualified Residential Mortgage standard. The Qualified Mortgage will provide a safe harbor to lenders in meeting the “ability to pay” requirements in Dodd-Frank. If a residential loan is underwritten under the new QM guidelines, it will be presumed to be in compliance. To limit their liability, most institutional lenders will only be interested in writing loans that fall within the QM and QRM standards. If the rules are written with very narrow standards, it could have the possible effect of constricting the availability of credit to real property. It is anticipated that the QRM rule will be issued in the fall of 2013. The QM rule has been issued by the CFPB, and will become effective in January, 2014. |
General Economic Conditions
The San Francisco Bay Area, including the South Bay/Silicon Valley, and the Los Angeles metropolitan area are our most significant locations of lending activity and the economic vitality of these regions – as well as the performance 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 and operating properties owned.
Employment has improved, but progress has been slow. At the current pace, a full recovery likely will take several more years.
In its March 18, 2013 report, the Wells Fargo Economics Group observed “improvement is still clearly evident from California’s latest employment figures, even though the state’s unemployment rate remained stubbornly high at 9.8 percent. … California’s unemployment rate has fallen 1.2 percentage points over the past year, as civilian employment increased 2.0 percent and the civilian labor force rose just 0.9 percent.”
In the lending areas in which we have the greatest concentration of our loans, San Francisco County’s unemployment rate was 6.9 percent in September 2012 (7.8 percent in June 2012) and the Los Angeles/Long Beach/Glendale metropolitan area was 10.2 percent in September 2012 (11.1 percent in June 2012). The technology sector, which is a significant driver in the San Francisco Bay Area economy and in employment, shows no signs of slowing. To date, real estate values continue to reflect upward pressure from the increase in employment in the region.
Commentators have confirmed this trend in recognizing the housing market finally might have turned the long-awaited corner in 2012. As the Wells Fargo Economics Group Housing Chartbook: January 2013 states “The housing recovery finally asserted itself in 2012, with nearly every key metric posting measurable improvement from prior years. Sales and prices both rebounded solidly this past year, and new home construction steadily gained momentum over the course of the year. Progress has been made in dealing with the imbalances left over from the housing boom. The share of delinquent loans has decreased, as has the distressed share of existing home sales and the proportion of mortgages in a negative equity position. However, important questions remain as to how large a role investor purchases have played in stabilizing home prices; how much credit availability has truly improved; and, what the government’s role in mortgage finance will ultimately be.”
This being the case, cautious optimism remains the order of the day, as pricing levels and market activity continue to trend positively, but only time will tell whether this improvement is a result of sustainable economic improvement or short-term opportunism. As the Wells Housing Chartbook of January 2013 further recognizes, “Sales of new homes rose 19.9 percent to 367,000, while sales of existing homes, condominiums and townhomes rose 9.2 percent to 4.65 million homes. But some of the stabilization in home prices is undeniably tied to the influx of investors that have come in and purchased homes, many for cash.”
More broadly, the United States Gross Domestic Product (GDP) according to the “third” estimate, increased by 0.4 percent in the fourth quarter of 2012. GDP increased 3.1, 1.5, and 2.0 percent for the third, second, and first quarters of 2012, respectively. GDP growth remains stubbornly low, reflecting general attitudes the economic recovery is slow, fragile and uneven. The Federal Reserve continues to help support economic recovery by maintaining a highly accommodative stance for monetary policy, purposefully keeping the target range for the federal funds rate at 0 to ¼ percent. Further, the Federal Reserve anticipates economic conditions likely will continue to warrant these exceptionally low levels for the federal funds rate at least through late 2014, and anticipates it will continue purchasing $40 billion of mortgage-backed securities plus $45 billion of longer-term Treasury bonds each month, keeping longer-term mortgage and other interest rates lower than they would be otherwise.
Item 1A – Risk Factors (Not included as smaller reporting company)
Item 1B – Unresolved Staff Comments
Because the partnership is not an accelerated filer, a large accelerated filer or a well-seasoned issuer, the information required by Item 1B is not applicable.
Item 2 - Properties
Properties generally are acquired by foreclosure on impaired loans, and may be classified as “real estate held for sale” or “real estate held as investment”. See Notes 5 (Real Estate Held for Sale) and 6 (Real Estate Held as Investment) to the financial statements included in Part II, Item 8 of this report for a detailed presentation of the properties/real estate owned (“REO”), which presentation is incorporated by this reference into this Item 2.
Item 3 – Legal Proceedings
In the normal course of business, the partnership may become involved in various legal proceedings such as assignment of rents, bankruptcy proceedings, appointment of receivers, unlawful detainers, judicial foreclosure, etc., to enforce the provisions of the deeds of trust, collect the debt owed under the promissory notes, or to protect, or recoup its investment from the real property secured by the deeds of trust and to resolve disputes between borrowers, lenders, lien holders and mechanics. None of these actions typically would be of any material importance. As of the date hereof, the partnership is 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
Part II
Item 5 – Market for the Registrant’s “Limited Partnership Units,” Related Unitholder Matters and Issuer Purchases of Equity Securities
There is no established public trading market for the units, and we do not anticipate that one will develop.
As of December 31, 2012, approximately 8,200 limited partners had an aggregate capital balance set forth in the consolidated Balance Sheet included in Item 8 of this report. A description of the units, transfer restrictions and withdrawal provisions is described under the section of the prospectus entitled “Description of Units” and “Summary of Limited Partnership Agreement,” on pages 81 through 84 of the prospectus, a part of the referenced registration statement, which is incorporated herein by reference, and which pages are included in Exhibit 99.1 to this report.
Partners have the option to elect to have distributed to them amounts equal to current-period profits on a monthly, quarterly, or annual basis or to elect compounding the profits by foregoing the distribution to them of current-period profits. Limited partners may withdraw from the partnership in accordance with the terms of the limited partnership agreement subject to possible early withdrawal penalties.
In response to reduced cash flows due to reduced loan payoffs, increased loan delinquencies and increased needs for cash reserves necessary to protect and preserve the partnership’s assets, the partnership suspended all liquidation payments for withdrawals of limited partners and will not be accepting new withdrawal requests until further notice. In March 2009 cash distributions were also reduced, and from October 2010 to September 2012, were limited subject to the Amended Bank Agreement.
Please refer to the Statement of Operations in the financial statements and the Notes thereto included in Part II, Item 8 of this report for information on the 2012 and 2011 net income per $1,000 invested by limited partners, which presentation is incorporated by this reference into this Item 5.
Item 6 – Selected Financial Data (Not included as smaller reporting company)
Item 7 – Management's Discussion and Analysis of Financial Condition and Results of Operations
Critical Accounting Policies
See Note 2 (Summary of Significant Accounting Policies) to the financial statements included in Part II, Item 8 of this report for a detailed presentation of critical accounting policies, which presentation is incorporated by this reference into this Item 7.
General Partners and Other Related Parties
See Notes 1 (General) and 3 (General Partners and Other Related Parties) to the financial statements included in Part II, Item 8 of this report for a detailed presentation of various partnership activities for which the general partners and related parties are compensated, and other related-party transactions, including the formation loan, which presentation is incorporated by this reference into this Item 7.
Results of Operations
The partnership’s results of operations are discussed below for the years ended December 31, 2012 and 2011 ($ in thousands).
| | Changes for the years ended December 31, | | |
| | 2012 | | | | 2011 | | |
| | Dollars | | Percent | | | | Dollars | | Percent | | |
| Revenues, net | | | | | | | | | | | | | |
| Interest income | | | | | | | | | | | | | |
| Loans | $ | (624 | ) | (31 | ) | % | | $ | (5,036 | ) | (71 | ) | % |
| Imputed interest on formation loan | | (263 | ) | (56 | ) | | | | (84 | ) | (15 | ) | |
| Other interest income | | (4 | ) | (80 | ) | | | | (41 | ) | (89 | ) | |
| Total interest income | | (891 | ) | (36 | ) | | | | (5,161 | ) | (67 | ) | |
| | | | | | | | | | | | | | |
| Interest expense | | | | | | | | | | | | | |
| Bank loan, secured | | (1,738 | ) | (76 | ) | | | | (1,101 | ) | (32 | ) | |
| Mortgages | | 83 | | 4 | | | | | 1,091 | | 89 | | |
| Amortization of discount on formation loan | | (263 | ) | (56 | ) | | | | (84 | ) | (15 | ) | |
| Other interest expense | | (89 | ) | (99 | ) | | | | 7 | | 8 | | |
| Total interest expense | | (2,007 | ) | (39 | ) | | | | (87 | ) | (2 | ) | |
| | | | | | | | | | | | | | |
| Net interest income/(expense) | | 1,116 | | (42 | ) | | | | (5,074 | ) | (213 | ) | |
| | | | | | | | | | | | | | |
| Late fees | | (22 | ) | (59 | ) | | | | (6 | ) | (14 | ) | |
| Other | | (6 | ) | (46 | ) | | | | (41 | ) | (76 | ) | |
| Total revenues/(expense), net | | 1,088 | | (41 | ) | | | | (5,121 | ) | (206 | ) | |
| | | | | | | | | | | | | | |
| Provision for loan losses | | (5,254 | ) | (86 | ) | | | | (72,453 | ) | (92 | ) | |
| | | | | | | | | | | | | | |
| Operating expenses | | | | | | | | | | | | | |
| Mortgage servicing fees | | (1,882 | ) | (72 | ) | | | | 1,099 | ) | 73 | | |
| Asset management fees | | (98 | ) | (10 | ) | | | | (258 | ) | (22 | ) | |
| Costs from Redwood Mortgage Corp. | | 126 | | 11 | | | | | 749 | | 168 | | |
| Professional services | | (168 | ) | (9 | ) | | | | 277 | | 18 | | |
| REO | | | | | | | | | | | | | |
| Rental operations, net | | (965 | ) | 43 | | | | | (892 | ) | 67 | | |
| Holding costs | | (477 | ) | (49 | ) | | | | 384 | | 65 | | |
| Loss/(gain) on disposal | | 482 | | (93 | ) | | | | (1,096 | ) | (191 | ) | |
| Impairment loss/(gain) | | (8,464 | ) | (87 | ) | | | | 8,526 | | 713 | | |
| Other | | 96 | | 204 | | | | | (53 | ) | (53 | ) | |
| Total operating expenses, net | | (11,350 | ) | (78 | ) | | | | 8,736 | | 149 | | |
| | | | | | | | | | | | | | |
| Net income (loss) | $ | 17,692 | | (76 | ) | % | | $ | 58,596 | | (72 | ) | % |
Please refer to the above table and the Statement of Operations in the financial statements included in Part II, Item 8 of this report throughout the discussion of Results of Operations.
Impact of general economic and real estate market conditions on the partnership’s financial condition, results of operations and cash flows
Since the beginning to the financial crisis (2008) and the resultant Great Recession (2009) the partnership has continuously adjusted to the historically volatile and challenging conditions of the economic environment. The combination of general economic conditions, constrained credit, depressed financial markets, distressed real estate markets, and the terms and conditions of the Amended and Restated Loan Agreement (the “Bank Loan”) dated October 2010, resulted in significant changes in the lending and business operations of the partnership that are on-going. At the inception of the Great Recession the partnership was fully invested in a diversified portfolio of mortgages secured by California real estate. As the credit crisis deepened and the recession worsened, borrower’s finances deteriorated and real estate values moved swiftly downward. When this occurred the partnership was not insulated from these economic and financial realities. As our cash flow, like others’ cash flows within our industry deteriorated, our bankers accelerated repayment of our indebtedness. The partnership was forced to significantly increase cash flows, in a highly illiquid market, to repay the accelerated repayment terms of the Bank Loan. To accomplish this, the partnership collected its borrower loans as efficiently as possible and when we acquired real estate collateral we had to prepare those properties which may transact in the depressed real estate market for sale to raise cash. Our banks prohibited the partnership from funding new loans forcing cash flow to be directed to the Bank Loan repayment thereby, eliminating our ability to replace interest income lost. In addition, we curtailed limited partner liquidations to increase cash available for the repayment of the Bank Loan and to continue operations.
From October 2009 until the bank loan was repaid in September 2012, the cash proceeds received by the partnership from loan payments, loan payoffs, sale of real estate owned (REO), and third-party mortgages obtained on stabilized properties that the partnership has taken back through foreclosure or otherwise obtained, have been used predominately to pay down the amount outstanding on the bank loan. The amount outstanding on the bank loan was reduced by $50,000,000 since December 31, 2010, and $85,000,000 since September 2009.
As a result of the financial crisis and the contemporaneous amendment of the terms of the bank loan, the partnership’s assets have changed from predominately performing loans, to impaired loans and then to real estate owned. Total assets (the sum of all assets owned by the partnership) decreased from $424,873,000 at December 31, 2008, to $247,775,000 at December 31, 2012 (a decline of $177,098,000 or 42%). Net loans (the total of loan principal, advances, accrued interest, net of the allowance for loan losses) declined over the same time period from $386,589,000 to $46,380,000 (a decline of $340,209,000 or 88%). REO increased from $25,693,000 at December 31, 2008, to $181,333,000 at December 31, 2012, as a consequence of the loan collection efforts undertaken by the general partners. These legacy assets consisting of real estate owned and predominantly loans made prior to the beginning of the financial crisis make up the majority of our assets. Some of the currently existing loans may eventually revert to REO. Details of our real estate owned is provided in footnotes 5 and 6 of the financial statements included in this form 10-K..
However, real estate sales, investment, and construction continue at reduced levels from their normal averages, particularly as to single family homes. In the second half of 2012 and continuing in the first quarter of 2013, we have observed real estate markets begin to show evidence of recovery, particularly in coastal California. Loans from traditional sources, such as banks, are of limited availability, and when they are available the credit and regulatory environment imposes constraints such that few projects and/or borrowers meet the new, more stringent minimum requirements to qualify. Multi-family properties that are stabilized and profitable can qualify for Fannie and Freddie loans and institutional financing, but the loan underwriting is restricting. The result is that our remaining borrowers are experiencing on-going difficulty in refinancing their partnership loans and/or selling the properties securing those loans to generate the cash to repay us. We may modify loans in which the borrower has a high likelihood of sustaining the new modified loan terms. Otherwise, it is likely we will take the property back. We continue to believe our ownership of the collateral that secured our loans is the most effective means of maintaining or improving the value of the properties and is the best alternative for preserving partners’ capital.
The properties that we have acquired through foreclosure generally are being rented and we are continuing our efforts to improve gross rental income primarily by increasing occupancies and by increasing the properties’ rents to be in line with rising rental market conditions. The real estate market, while not recovered fully, has enabled rents to increase, as consumers favor renting over owning, which may result in appreciation in the property’s market value.
The continuing primary focus of the general partners is the preservation of limited partners’ capital while dealing with the on-going consequences of the historic declines in liquidity, real estate values and the ramifications of our Bank Loan being required to be retired.
Revenue – Interest income - Loans
The interest on loans decreased for 2012 and 2011 due to a decrease in the average secured loan portfolio balance, and the decrease in the related average yield rate (the partnership has modified many of the performing loans to lower interest rates which reflect current market rates). Foregone interest (not recorded for financial reporting purposes on loans designated non-accrual status) in 2012, 2011, and 2010, was approximately $4,199,000, $11,600,000 and $14,300,000, respectively. The table below recaps the yearly averages and the effect of the foregone interest on the average yield rate ($ in thousands).
| | | Average | | Stated | | | |
| | | Secured | | Average | | Effective | |
| | | Loan | | Yield | | Yield | |
| Year | | Balance | | Rate | | Rate | |
| 2010 | | $ | 245,026 | | 8.72 | % | 2.88 | % |
| 2011 | | $ | 160,820 | | 8.44 | % | 1.25 | % |
| 2012 | | $ | 71,338 | | 7.83 | % | 1.94 | % |
Revenue – Interest expense
Bank loan, secured – The decrease in interest expense for 2012 was due to the decline of the average daily loan balance outstanding from $35,400,000 for 2011 to $6,345,000 for 2012. The decrease in interest expense for 2011 was due to the decline of the average daily loan balance outstanding from $62,135,000 for 2010 to $35,400,000 for 2011.
Mortgages – The increased interest expense on mortgages for 2012 and 2011 was due to a combination of changes in the weighted average interest rate and to the partnership either obtaining a mortgage on a piece of owned property or foreclosing upon property subject to an existing mortgage. The table below recaps the yearly averages ($ in thousands).
| | | Average | | Weighted | |
| | | Mortgage | | Average | |
| | | Loan | | Interest | |
| Year | | Balance | | Rate | |
| 2010 | | $ | 26,300 | | 4.54 | % |
| 2011 | | $ | 40,500 | | 5.23 | % |
| 2012 | | $ | 44,869 | | 4.87 | % |
Provision for Losses on Loans/Allowance for Loan Losses
The increases in the provision for loan losses in 2011 and prior years was primarily related to the rapidly declining values of real estate, which adversely impacted the value of the collateral securing our loans. These loans became collateral dependent (see Note 2 of the financial statements) as a result of borrower defaults during the financial crisis/Great Recession. The number of borrower defaults declined in 2012, in correlation to the reduction in the number and amount of loans outstanding declined and the aforementioned stabilization in real estate values.
Operating Expenses
Mortgage servicing fees - The decrease in mortgage servicing fees for 2012 was due to the reduction in the average loan balance (see the table in Revenue – Interest income - Loans) and the amounts recorded in 2011 for servicing fees not accrued on impaired loans in prior periods. The increase in mortgage servicing fees for 2011 compared to 2010 was due to amounts recorded in 2011 for servicing fees not accrued on impaired loans in prior periods. In prior periods, servicing fees on impaired loans were recognized when paid, either at the time the loan was paid or a foreclosure sale was completed.
Costs from RMC - The increase in costs from RMC for 2012 and 2011 compared to 2011 and 2010, respectively, was due to reimbursement of qualifying charges permitted in the partnership agreement. In 2010 and prior years, before the start of the financial crisis/recession RMC chose not to request reimbursement for all costs qualifying for reimbursement, which it may do from time to time in its sole discretion. In subsequent periods (i.e. 2010 onward) as the fees RMC would otherwise have collected from loan originations and loan servicing fees declined substantially or went to near zero or zero due to the restrictions on lending imposed by the amended and restated loan agreement, RMC chose to request reimbursement for all qualifying costs.
Professional services - The decrease in professional services for 2012 compared to 2011 was primarily due to a reduction in legal fees related to REO property of approximately ($614,000), offset by increases for audit and tax services of approximately $155,000 and consultants of $288,000. The increase in professional services for 2011 was primarily due to increases in costs for legal and accounting services, audits and tax return processing. As laws, regulations, and tax and accounting pronouncements related to disclosure requirements for financial services enterprises generally and lenders specifically, have increased in number and complexity, the role of outside auditors, consultants, and legal advisers has increased. For 2012, 2011 and 2010, the cost of audit and tax services was $562,000, $410,000 and $683,000, respectively. For 2012, 2011 and 2010, the cost of legal and other consultants was $1,129,000, $1,449,000 and $823,000, respectively.
REO - Rental operations, net – The increase in rental operations is primarily due to owning and operating the properties for the entire year of 2012, versus a partial year of owning and operating some of the properties in 2011.
The table below summarizes the rental operations, net for the years ended December 31, ($ in thousands).
| | | 2012 | | | 2011 | |
| Rental income | | $ | 11,585 | | | $ | 9,392 | |
| Operating expenses, rentals | | | | | | | | |
| Administration and payroll | | | 1,440 | | | | 1,103 | |
| Homeowner association fees | | | 866 | | | | 391 | |
| Receiver fees | | | 253 | | | | 485 | |
| Utilities and maintenance | | | 1,251 | | | | 1,519 | |
| Advertising and promotions | | | 128 | | | | 81 | |
| Property taxes | | | 1,846 | | | | 1,484 | |
| Other | | | 280 | | | | 229 | |
| Total operating expenses, rentals | | | 6,064 | | | | 5,292 | |
| Net operating income | | | 5,521 | | | | 4,100 | |
| Depreciation | | | 2,328 | | | | 1,872 | |
| Rental operations, net | | $ | 3,193 | | | $ | 2,228 | |
Interest expense on the mortgages securing the rental properties was $2,397,000 and $2,315,000 for 2012 and 2011, respectively.
Rental operations are comprised of residential and commercial properties. There were 16 residential properties at December 31, 2012 with a net book value of $142,707,000, and three commercial properties with a net book value of $11,859,000. Financial highlights are presented in the table below for the year ended December 31, 2012, ($ in thousands).
| | | | | | | | | Net | | | | | | | |
| | | Rental | | | Operating | | | Operating | | | | | | Earnings/ | |
| | | Income | | | Expenses | | | Income | | | Depreciation | | | (Loss) | |
| Property type | | | | | | | | | | | | | | | |
| Residential | | | | | | | | | | | | | | | |
Single family (1) | | $ | 46 | | | $ | 51 | | | $ | (5 | ) | | $ | 19 | | | $ | (24 | ) |
| Condominiums and Apartments | | | 4,401 | | | | 1,738 | | | | 2,663 | | | | 1,100 | | | | 1,563 | |
| Fractured condominiums | | | 5,729 | | | | 3,758 | | | | 1,971 | | | | 1,081 | | | | 890 | |
| Total residential | | | 10,176 | | | | 5,547 | | | | 4,629 | | | | 2,200 | | | | 2,429 | |
Commercial (1) | | | 1,409 | | | | 517 | | | | 892 | | | | 128 | | | | 764 | |
| Total rental operations | | $ | 11,585 | | | $ | 6,064 | | | $ | 5,521 | | | $ | 2,328 | | | $ | 3,193 | |
(1) Single family and commercial types each include a single property sold in the first quarter of 2012 with insignificant rental revenue and operations expenses up to the time of the sale.
The rental operations overall experienced a 23% growth in 2012 in rental income and a 35% growth in net operating income (NOI). Growth was particularly strong in the multi-family portfolio which at December 31, 2012 is comprised of 15 properties (668 rental units). During 2012 the top five rental properties in terms of NOI (3 in Northern California and 2 in Southern California, four multi-family and one commercial) accounted for 75% of the total rental income, 68% of the total operating expenses, and 82% of the total NOI.
At management’s direction, the property managers continue to improve NOI by executing the strategy of increasing occupancy (which topped 94% in 2012) while achieving modest rent growth. In addition, as the economic conditions in California continue to improve management expects market rents to increase. As tenants vacate units or renew their leases the rents are expected to move up to currently existing higher market rents.
REO - Holding costs - The decrease in holding costs in 2012 was primarily due to the sale of five properties during 2012. The increase in holding costs in 2011 was primarily due to a full year of costs in 2011 on properties acquired in 2010.
REO - Loss/(gain) on disposal - The reduction in the gain on disposal of REO in 2012 is due to several large gains achieved in 2011. The gain on disposal in 2011 was due primarily to the partnership evaluating its properties and positioning them to transact at optimum prices. Management through repairs and improvements, stabilization of rental rolls, improvements in income producing properties financial performance, and elimination of deterrents to sale, increased our properties appeal, finance ability, and value to buyers.
REO - Impairment loss/(gain) - The decrease in impairment losses on REO in 2012 is primarily due to the improving stability in real estate values and the completed repayment of the bank loan. Impairment losses on real estate for 2011 were due to the necessity to transact sales of properties in a challenged market in order to meet the repayment schedule of the amended and restated bank loan agreement. Property sales were completed at prices which while, commercially reasonable, were likely less than that which could have been attained had the partnership had more time to offer the properties for sale or been able to continue to hold the properties for future sales. Occasionally, properties which the partnership held as investment, received unsolicited offers which given partnership’s cash flow requirements and bank repayment dynamics were compelling to accept, although they necessitated taking an impairment loss. Now that the bank loan obligation has been repaid the partnership intends to hold the majority of its remaining properties until a more robust real estate market and a normal credit market exist. While these two factors develop, management intends to continue to improve held properties’ financial performance and desirability. The impairment loss taken in 2011 on a southern California multi-family property was due to a delay in repairs, that resulted in weaker operating results than anticipated. As the property is now completed, significantly improved operating results and value is being achieved as the property stabilizes into normal operations.
Loans/Allowance for Loan Losses
See Note 4 (Loans) to the financial statements included in Part II, Item 8 of this report for detailed presentations of loan balances, activity, and characteristics, and the corresponding data regarding the allowance for loan losses, which presentations are incorporated by this reference into this Item 7.
Real Estate Owned/Mortgages
See Notes 5 (Real Estate Held for Sale), 6 (Real Estate Held as Investment) and 7 (Borrowings) to the financial statements included in Part II, Item 8, of this report for detailed presentations of real estate owned and mortgages thereon, which presentations are incorporated by this reference into this Item 7.
Liquidity and Capital Resources
The partnership relies upon loan payoffs, borrowers’ mortgage payments, the sale and financing of real estate owned and to a lesser degree, retention of income when profitable for the source of funds for new loans.
In September 2012, the partnership paid the remaining amount owing under the Bank Loan. The Bank Loan balance was $16,789,000, at December 31, 2011.
Contractual Obligations
A summary of the contractual obligations of the partnership as of December 31, 2012 is set forth below ($ in thousands).
| Contractual Obligation | | Total | | | Less than 1 Year | | | 1-3 Years | | | 3-5 Years | |
| Mortgages | | $ | 47,293 | | | $ | 1,182 | | | $ | 25,635 | | | $ | 20,476 | |
| Construction contracts | | | 910 | | | | 910 | | | | — | | | | — | |
| Construction loans | | | — | | | | — | | | | — | | | | — | |
| Rehabilitation loans | | | — | | | | — | | | | — | | | | — | |
| | | | | | | | | | | | | | | | | |
| Total | | $ | 48,203 | | | $ | 2,092 | | | $ | 25,635 | | | $ | 20,476 | |
The partnership has one property in San Francisco, California with a carrying value of $5,000,000 in construction with remaining construction costs of approximately $910,000.
Distributions to limited partners
At the time of their subscription to the partnership, limited partners must elect either to receive monthly, quarterly or annual cash distributions from the partnership, or to compound profits in their capital account. If an investor initially elects to receive monthly, quarterly or annual distributions, such election, once made, is irrevocable. If the investor initially elects to compound profits in their capital account, in lieu of cash distributions, the investor may, after three (3) years, change the election and receive monthly, quarterly or annual cash distributions. Profits allocable to limited partners, who elect to compound profits in their capital account, will be retained by the partnership for making further loans or for other proper partnership purposes and such amounts will be added to such limited partners’ capital accounts. The percent of limited partners electing distribution of allocated net income, if any, by weighted average to total partners’ capital was 56% for 2012, 54% for 2011 and 50% for 2010. In 2012 and 2011, $2,459,000 and $2,688,000, respectively, was distributed to limited partners based on estimated net income; as the full year results of operations was a net loss, these amounts distributed were therefore a return of capital.
The partnership agreement also allows the limited partners to withdraw their capital account subject to certain limitations and penalties (see “Withdrawal From Partnership” in the Limited Partnership Agreement). In response to reduced cash flows due to reduced loan payoffs, increased loan delinquencies and increased needs for cash reserves necessary to protect and preserve the partnership’s assets, as of March 16, 2009, the partnership suspended all liquidation payments and announced that it would not be accepting new liquidation requests until further notice. Liquidation requests of approximately $2,700,000 remained unfulfilled at March 31, 2009 and liquidations for future periods are suspended until future notice. Liquidation requests submitted to Redwood after March 16, 2009 are not deemed to be accepted, nor do they serve as placeholders for the submitting limited partner. In addition, since March 16, 2009, the partnership significantly reduced the amount of the cash distributions made to the limited partners, who had made the election to receive distributions of their pro-rata share of the net income.
The partnership is unable to predict when liquidations will resume as it will depend on the ability to collect monies due from borrowers and to dispose of real estate owned, or to receive net rental income from real estate owned, and on the improvement of general economic and capital market conditions and recovery of the real estate market. However, it is anticipated that liquidations will not resume in 2013. For the foreseeable future, the partnership intends to utilize available cash flows to fund its business operations, protect its security interests in properties, make real estate loans, and maintain its real estate owned. It is anticipated liquidation payments will resume only when the partnership’s cash flows improve to levels that enable the partnership to resume lending business operations, provide consistent profitability, and the economy and the real estate and capital markets stabilize and return to normal levels of activity.
Similarly, the partnership does not currently anticipate an increase in distribution amounts in 2013. As with the recovery of the real estate market and the economy generally, it is anticipated rebuilding profits and cash flows will be a slow process. It is not anticipated limited partners will see a quick or large increase in the profits or distributions. Rather, such increases, if any, are anticipated to grow slowly over time as the economy and the state of the partnership improves.
In some cases in order to satisfy broker-dealers and other reporting requirements, the general partners have valued the limited partners’ interest in the partnership on a basis which utilizes a per unit system of calculation, rather than based upon the investors’ capital account. This information has been reported in this manner in order to allow the partnership to integrate with certain software used by the broker-dealers and other reporting entities. In those cases, the partnership will report to broker-dealers, trust companies and others a “reporting” number of units based upon a $1.00 per unit calculation. The number of reporting units provided will be calculated based upon the limited partner’s capital account value divided by $1.00. Each investor’s capital account balance is set forth periodically on the partnership account statement provided to investors. The reporting units are solely for broker-dealers requiring such information for their software programs and do not reflect actual units owned by a limited partner or the limited partners’ right or interest in cash flow or any other economic benefit in the partnership. Each investor’s capital account balance is set forth periodically on the partnership account statement provided to investors. The amount of partnership profits each investor is entitled to receive is determined by the ratio each investor’s capital account bears to the total amount of all investor capital accounts then outstanding. The capital account balance of each investor should be included on any FINRA member client account statement in providing a per unit estimated value of the client’s investment in the partnership in accordance with NASD Rule 2340.
While the general partners have set an estimated value for the Units, such determination may not be representative of the ultimate price realized by an investor for such Units upon sale. No public trading market exists for the Units and none is likely to develop. Thus, there is no certainty the Units can be sold at a price equal to the stated value of the capital account. Furthermore, the ability of an investor to liquidate his or her investment is limited subject to certain liquidation rights provided by the partnership, which may include early withdrawal penalties (See the section of the Prospectus entitled “Risk Factors – Purchase of Units is a long term investment”).
Item 7A – Quantitative and Qualitative Disclosures About Market Risk (Not included as smaller reporting company)
Item 8 – Consolidated Financial Statements and Supplementary Data
A – Consolidated Financial Statements
The following consolidated financial statements of Redwood Mortgage Investors VIII are included in Item 8:
| · | Report of Independent Registered Public Accounting Firm |
| · | Consolidated Balance Sheets for December 31, 2012 and 2011 |
| · | Consolidated Statements of Operations for the years ended December 31, 2012 and 2011 |
| · | Consolidated Statements of Changes In Partners’ Capital for the years ended December 31, 2012 and 2011 |
| · | Consolidated Statements of Cash Flows for the years ended December 31, 2012 and 2011 |
| · | Notes to Consolidated Financial Statements |
B – Consolidated Financial Statement Schedules
No financial statement schedules are required to be filed because Redwood Mortgage Investors VIII is a smaller reporting company.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Partners
Redwood Mortgage Investors VIII
Redwood City, California
We have audited the accompanying consolidated balance sheets of Redwood Mortgage Investors VIII (a California limited partnership) as of December 31, 2012 and 2011 and the related consolidated statements of operations, changes in partners' capital and cash flows for each of the two years in the period ended December 31, 2012. These consolidated financial statements are the responsibility of Redwood Mortgage Investors VIII's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. Redwood Mortgage Investors VIII is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of Redwood Mortgage Investors VIII's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Redwood Mortgage Investors VIII as of December 31, 2012 and 2011 and the consolidated results of its operations and its cash flows for each of the two years in the period ended December 31, 2012 in conformity with accounting principles generally accepted in the United States of America.
/s/ ARMANINO LLP
_____________________________
ARMANINO LLP
San Ramon, California
March 29, 2013
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Balance Sheets
December 31, 2012 and 2011
($ in thousands)
ASSETS
| | | 2012 | | | 2011 | |
| Cash and cash equivalents | | $ | 18,943 | | | $ | 4,200 | |
| | | | | | | | | |
| Loans | | | | | | | | |
| Secured by deeds of trust | | | | | | | | |
| Principal balances | | | 60,870 | | | | 73,386 | |
| Advances | | | 5,035 | | | | 6,870 | |
| Accrued interest | | | 182 | | | | 2,446 | |
| Unsecured | | | 108 | | | | 44 | |
| Allowance for loan losses | | | (19,815 | ) | | | (22,035 | ) |
| Net loans | | | 46,380 | | | | 60,711 | |
| | | | | | | | | |
| Real estate held for sale, net | | | — | | | | 48,406 | |
| | | | | | | | | |
| Real estate held as investment | | | 181,333 | | | | 161,402 | |
| | | | | | | | | |
| Other assets, net | | | 1,119 | | | | 680 | |
| | | | | | | | | |
| Total assets | | $ | 247,775 | | | $ | 275,399 | |
LIABILITIES AND CAPITAL
| Liabilities | | | | | | | | |
| Bank loan, secured | | $ | — | | | $ | 16,789 | |
| Mortgages payable | | | 47,293 | | | | 43,681 | |
| Accounts payable | | | 3,162 | | | | 7,625 | |
| Payable to affiliate | | | 565 | | | | 725 | |
| Total liabilities | | | 51,020 | | | | 68,820 | |
| | | | | | | | | |
| Capital | | | | | | | | |
| Partners’ capital | | | | | | | | |
| Limited partners’ capital, subject to redemption, net of unallocated | | | | | | | | |
| syndication costs of $318 and $667 for 2012 and 2011, | | | | | | | | |
| respectively; and net of formation loan receivable of $7,627 and $7,627 | | | | | | | | |
| for 2012 and 2011, respectively | | | 196,081 | | | | 204,137 | |
| | | | | | | | | |
| General partners’ capital, net of unallocated syndication costs of $3 and | | | | | | | | |
| $7 for 2012 and 2011, respectively | | | (1,025 | ) | | | (968 | ) |
| Total partners’ capital | | | 195,056 | | | | 203,169 | |
| | | | | | | | | |
| Non-controlling interest | | | 1,699 | | | | 3,410 | |
| Total capital | | | 196,755 | | | | 206,579 | |
| | | | | | | | | |
| Total liabilities and capital | | $ | 247,775 | | | $ | 275,399 | |
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Operations
For the Years Ended December 31, 2012 and 2011
($ in thousands, except for per limited partner amounts)
| | | 2012 | | | 2011 | |
| Revenues, net | | | | | | | | |
| Interest income | | | | | | | | |
| Loans | | $ | 1,387 | | | | 2,011 | |
| Imputed interest on formation loan | | | 207 | | | | 470 | |
| Other interest income | | | 1 | | | | 5 | |
| Total interest income | | | 1,595 | | | | 2,486 | |
| | | | | | | | | |
| Interest expense | | | | | | | | |
| Bank loan, secured | | | 560 | | | | 2,298 | |
| Mortgages | | | 2,400 | | | | 2,317 | |
| Amortization of discount on formation loan | | | 207 | | | | 470 | |
| Other interest expense | | | 1 | | | | 90 | |
| Total interest expense | | | 3,168 | | | | 5,175 | |
| | | | | | | | | |
| Net interest income/(expense) | | | (1,573 | ) | | | (2,689 | ) |
| | | | | | | | | |
| Late fees | | | 15 | | | | 37 | |
| Other | | | 7 | | | | 13 | |
| Total revenues/(expense), net | | | (1,551 | ) | | | (2,639 | ) |
| | | | | | | | | |
| Provision for loan losses | | | 859 | | | | 6,113 | |
| | | | | | | | | |
| Operating Expenses | | | | | | | | |
| Mortgage servicing fees | | | 722 | | | | 2,604 | |
| Asset management fees | | | 840 | | | | 938 | |
| Costs from Redwood Mortgage Corp. | | | 1,321 | | | | 1,195 | |
| Professional services | | | 1,691 | | | | 1,859 | |
| REO | | | | | | | | |
| Rental operations, net | | | (3,193 | ) | | | (2,228 | ) |
| Holding costs | | | 501 | | | | 978 | |
| Loss/(gain) on disposal | | | (39 | ) | | | (521 | ) |
| Impairment loss/(gain) | | | 1,258 | | | | 9,722 | |
| Other | | | 143 | | | | 47 | |
| Total operating expenses | | | 3,244 | | | | 14,594 | |
| | | | | | | | | |
| Net income (loss) | | $ | (5,654 | ) | | | (23,346 | ) |
| | | | | | | | | |
| Net income (loss) | | | | | | | | |
| General partners (1%) | | $ | (57 | ) | | | (233 | ) |
| Limited partners (99%) | | | (5,597 | ) | | | (23,113 | ) |
| | | $ | (5,654 | ) | | | (23,346 | ) |
| | | | | | | | | |
| Net income (loss) per $1,000 invested by limited | | | | | | | | |
| partners for entire period | | | | | | | | |
| Where income is reinvested | | $ | (24 | ) | | | (89 | ) |
| Where partner receives income in monthly distributions | | $ | (24 | ) | | | (93 | ) |
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Changes in Partners’ Capital
For the Years Ended December 31, 2012 and 2011
($ in thousands)
| | | Limited Partners | |
| | | | | | | | | | | | | |
| | | | | | Unallocated | | | | | | | |
| | | | | | Syndication | | | Formation | | | | |
| | | Capital | | | Costs | | | Loan | | | Capital, net | |
| | | | | | | | | | | | | |
| Balances at December 31, 2010 | | $ | 238,581 | | | $ | (1,016 | ) | | $ | (9,372 | ) | | $ | 228,193 | |
| Formation loan payments received | | | — | | | | — | | | | 1,745 | | | | 1,745 | |
| Net income (loss) | | | (23,113 | ) | | | — | | | | — | | | | (23,113 | ) |
| Allocation of syndication costs | | | (349 | ) | | | 349 | | | | — | | | | — | |
| Partners’ withdrawals | | | (2,688 | ) | | | — | | | | — | | | | (2,688 | ) |
| Early withdrawal penalties | | | — | | | | — | | | | — | | | | — | |
| | | | | | | | | | | | | | | | | |
| Balances at December 31, 2011 | | | 212,431 | | | | (667 | ) | | | (7,627 | ) | | | 204,137 | |
| Formation loan payments received | | | — | | | | — | | | | — | | | | — | |
| Net income (loss) | | | (5,597 | ) | | | — | | | | — | | | | (5,597 | ) |
| Allocation of syndication costs | | | (349 | ) | | | 349 | | | | — | | | | — | |
| Partners’ withdrawals | | | (2,459 | ) | | | — | | | | — | | | | (2,459 | ) |
| Early withdrawal penalties | | | — | | | | — | | | | — | | | | — | |
| | | | | | | | | | | | | | | | | |
| Balances at December 31, 2012 | | $ | 204,026 | | | $ | (318 | ) | | $ | (7,627 | ) | | $ | 196,081 | |
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Changes in Partners’ Capital (continued)
For the Years Ended December 31, 2012 and 2011
($ in thousands)
| | | General Partners | | | | |
| | | | | | Unallocated | | | | | | Total | |
| | | | | | Syndication | | | | | | Partners’ | |
| | | Capital | | | Costs | | | Capital, net | | | Capital | |
| | | | | | | | | | | | | |
| Balances at December 31, 2010 | | $ | (724 | ) | | $ | (10 | ) | | $ | (734 | ) | | $ | 227,459 | |
| Formation loan payments received | | | — | | | | — | | | | — | | | | 1,745 | |
| Net income (loss) | | | (233 | ) | | | — | | | | (233 | ) | | | (23,346 | ) |
| Allocation of syndication costs | | | (3 | ) | | | 3 | | | | — | | | | — | |
| Partners’ withdrawals | | | (1 | ) | | | — | | | | (1 | ) | | | (2,689 | ) |
| | | | | | | | | | | | | | | | | |
| Balances at December 31, 2011 | | | (961 | ) | | | (7 | ) | | | (968 | ) | | | 203,169 | |
| Formation loan payments received | | | — | | | | — | | | | — | | | | — | |
| Net income (loss) | | | (57 | ) | | | — | | | | (57 | ) | | | (5,654 | ) |
| Allocation of syndication costs | | | (4 | ) | | | 4 | | | | — | | | | — | |
| Partners’ withdrawals | | | — | | | | — | | | | — | | | | (2,459 | ) |
| | | | | | | | | | | | | | | | | |
| Balances at December 31, 2012 | | $ | (1,022 | ) | | $ | (3 | ) | | $ | (1,025 | ) | | $ | 195,056 | |
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Cash Flows
For the Years Ended December 31, 2012 and 2011
($ in thousands)
| | | 2012 | | | 2011 | |
| Cash flows from operating activities | | | | | | | | |
| Net income (loss) | | $ | (5,654 | ) | | | (23,346 | ) |
| Adjustments to reconcile net income (loss) to | | | | | | | | |
| net cash provided by (used in) operating activities | | | | | | | | |
| Amortization of borrowings-related origination fees | | | 302 | | | | 807 | |
| Imputed interest on formation loan | | | (207 | ) | | | (470 | ) |
| Amortization of discount on formation loan | | | 207 | | | | 470 | |
| Provision for loan losses | | | 859 | | | | 6,113 | |
| REO – depreciation, rental properties | | | 2,328 | | | | 1,872 | |
| REO – depreciation, other properties | | | 11 | | | | — | |
| REO – loss/(gain) on disposal | | | (39 | ) | | | (521 | ) |
| REO – impairment loss | | | 1,114 | | | | 10,248 | |
| | | | | | | | | |
| Change in operating assets and liabilities | | | | | | | | |
| Accrued interest | | | 2,264 | | | | 1,129 | |
| Advances on loans | | | 1,625 | | | | (1,845 | ) |
| Allowance for loan losses-recoveries | | | 21 | | | | 110 | |
| Receivable from affiliate | | | — | | | | 18 | |
| Other assets | | | (741 | ) | | | (453 | ) |
| Accounts payable | | | (4,507 | ) | | | (1,443 | ) |
| Deferred revenue | | | — | | | | (109 | ) |
| Payable to affiliate | | | (160 | ) | | | (248 | ) |
| Net cash provided by (used in) operating activities | | | (2,577 | ) | | | (7,668 | ) |
| | | | | | | | | |
| Cash flows from investing activities | | | | | | | | |
| Loans originated | | | (10,522 | ) | | | (348 | ) |
| Principal collected on loans | | | 17,401 | | | | 17,118 | |
| Loans sold to affiliates | | | 1,189 | | | | 2,122 | |
| Unsecured loan originated | | | (64 | ) | | | — | |
| Payments for development of real estate | | | (3,372 | ) | | | (646 | ) |
| Cash acquired through foreclosure sales | | | — | | | | 828 | |
| Proceeds from disposition of real estate | | | 30,035 | | | | 35,165 | |
| Net cash provided by (used in) investing activities | | | 34,667 | | | | 54,239 | |
| | | | | | | | | |
| Cash flows from financing activities | | | | | | | | |
| Payments on bank loan | | | (16,789 | ) | | | (33,211 | ) |
| Mortgages taken | | | 5,160 | | | | — | |
| Payments on mortgages | | | (1,548 | ) | | | (14,112 | ) |
| Partners’ withdrawals | | | (2,459 | ) | | | (2,689 | ) |
| Formation loan payments received | | | — | | | | 1,745 | |
| Increase/(decrease) in non-controlling interest | | | (1,711 | ) | | | (1,158 | ) |
| Net cash provided by (used in) financing activities | | | (17,347 | ) | | | (49,425 | ) |
| | | | | | | | | |
| Net increase (decrease) in cash and cash equivalents | | | 14,743 | | | | (2,854 | ) |
| | | | | | | | | |
| Cash and cash equivalents, January 1 | | | 4,200 | | | | 7,054 | |
| | | | | | | | | |
| Cash and cash equivalents, December 31 | | $ | 18,943 | | | | 4,200 | |
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Consolidated Statements of Cash Flows
For the Years Ended December 31, 2012 and 2011
($ in thousands)
| | | 2012 | | | 2011 | |
| Supplemental disclosures of cash flow information | | | | | | | | |
| Non-cash investing activities | | | | | | | | |
| Real estate acquired through foreclosure/settlement on loans, | | | | | | | | |
| net of liabilities assumed | | $ | 1,524 | | | $ | 58,327 | |
| | | | | | | | | |
| Cash paid for interest | | $ | 2,960 | | | $ | 4,615 | |
The accompanying notes are an integral part of these consolidated financial statements.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 1 – ORGANIZATIONAL AND GENERAL
Redwood Mortgage Investors VIII, a California Limited Partnership, (“RMI VIII” or the “partnership”) was organized in 1993. The general partners of the partnership are Redwood Mortgage Corp. (“RMC”) and its wholly-owned subsidiary, Gymno LLC (“Gymno”), a California limited liability company, and Michael R. Burwell (“Burwell”), an individual. The partnership was organized to engage in business as a mortgage lender for the primary purpose of making loans secured by deeds of trust on California real estate. Loans are being arranged and serviced by RMC. Michael Burwell is the president and majority shareholder (through his holdings and beneficial interests in certain trusts) of RMC. The general partners are solely responsible for partnership business, subject to the voting rights of the limited partners on specified matters. Any one of the general partners acting alone has the power and authority to act for and bind the partnership. The general partners are required to contribute to capital 1/10 of 1% of the aggregate capital contributions of the limited partners. As of December 31, 2012, the general partners had contributed capital in accordance with Section 4.1 of the partnership agreement.
The rights, duties and powers of the general and limited partners of the partnership are governed by the limited partnership agreement and Sections 15900 et seq. of the California Corporations Code.
The partnership completed its sixth offering stage in 2008. No additional offerings are contemplated at this time. Sales commissions owed to securities broker/dealers in conjunction with the offerings, are not paid directly out of the offering proceeds by the partnership. These commissions are paid by RMC as consideration for the exclusive right to originate loans for RMI VIII. To fund the payment of these commissions, during the offering periods, the partnership lent amounts to RMC to pay all sales commissions and amounts payable in connection with unsolicited orders to invest (formation loan).
On the mortgage loans originated for RMI VIII, RMC may collect loan brokerage commissions (points) limited to an amount not to exceed four percent per year of the total partnership assets. The loan brokerage commissions are paid by the borrowers and thus, are not an expense of the partnership. The proceeds from loan brokerage commissions and other fees earned are the source of funds for the repayment of the formation loans by RMC.
Profits and losses are allocated among the limited partners according to their respective capital accounts after one percent of profits and losses is allocated to the general partners, and are subject to subsequent adjustment as a result of quarterly and year-end accounting and reporting.
RMC, Gymno, and Burwell, as the general partners, are entitled to one percent of the profits and losses of RMI VIII. Beginning with calendar year 2010, and continuing until January 1, 2020, Gymno and RMC each assigned its right to one-third of one percent of profits and losses to Burwell in exchange for Burwell assuming one hundred percent of the general partners’ equity deficit.
A majority of the outstanding limited partnership interests may, without the permission of the general partners, vote to: (i) terminate the partnership, (ii) amend the limited partnership agreement, (iii) approve or disapprove the sale of all or substantially all of the assets of the partnership and (iv) remove or replace one or all of the general partners.
The approval of all the limited partners is required to elect a new general partner to continue the partnership business where there is no remaining general partner after a general partner ceases to be a general partner other than by removal.
Members should refer to the company's operating agreement for a more complete description of the provisions.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 1 – ORGANIZATIONAL AND GENERAL (continued)
Election to receive monthly, quarterly or annual distributions
At the time of their subscription for units, partners elect to have distributed to them their monthly, quarterly or annual allocation of profits, or to have profits allocated to their capital accounts to compound. Subject to certain limitations, those electing compounding may subsequently change their election. A partner’s election to have cash distributions is irrevocable.
Liquidity, capital withdrawals and early withdrawals
There are substantial restrictions on transferability of units and accordingly an investment in the partnership is non-liquid. Limited partners have no right to withdraw from the partnership or to obtain the return of their capital account for at least one year from the date of purchase of units. These restrictions include but are not limited to availability of sufficient cash flow. The partnership does not establish a reserve from which to fund withdrawals and, accordingly, the partnership’s capacity to return a limited partner’s capital is restricted to the availability of partnership cash flow. Furthermore, no more than 20% of the total limited partners’ capital accounts outstanding at the beginning of any year, may be liquidated during any calendar year.
In order to provide a certain degree of liquidity to the limited partners after the one-year period, limited partners may withdraw all or part of their capital accounts from the partnership in four quarterly installments beginning on the last day of the calendar quarter following the quarter in which the notice of withdrawal is given, subject to a 10% early withdrawal penalty. The 10% penalty is applicable to the amount withdrawn as stated in the notice of withdrawal and will be deducted from the capital account.
Once a limited partner has been in the partnership for the minimum five-year period, no penalty is imposed if withdrawal is made in twenty quarterly installments or longer. Notwithstanding the minimum withdrawal period, the general partners, at their discretion may liquidate all or part of a limited partner’s capital account in four quarterly installments beginning on the last day of the calendar quarter following the quarter in which the notice of withdrawal is given, subject to a 10% early withdrawal penalty applicable to any sums withdrawn prior to the time when such sums could have been withdrawn without penalty.
In March 2009, in response to economic conditions then existing, as to the financial-market crisis, the dysfunction of the credit markets, the distress in the real estate markets, and the expected cash needs of the partnership, the partnership suspended capital liquidations and is not accepting new liquidation requests until further notice. In the fourth quarter of 2009 the partnership entered into a forbearance agreement with its banks and subsequently entered into an amended and restated loan agreement (dated October 2010) which included additional restrictions on liquidations and distributions of partners’ capital. The bank loan was paid off in September 2012.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 1 – ORGANIZATIONAL AND GENERAL (continued)
Partnership offerings
At December 31, 2008, the partnership had completed its sixth offering stage. Of approved aggregate offerings of $300,000,000, total partnership units sold were $299,813,000.
A recap of the offerings by the partnership follows.
| · | A minimum of $250,000 and a maximum of $15,000,000 in partnership units were initially offered through qualified broker-dealers. This initial offering closed in October 1996. |
| · | December 1996, commenced offering of $30,000,000 (closed August 2000) |
| · | August 2000, commenced offering of $30,000,000 (closed April 2002) |
| · | October 2002, commenced offering of $50,000,000 (closed October 2003) |
| · | October 2003, commenced offering of $75,000,000 (closed August 2005) |
| · | August 2005, commenced offering of $100,000,000 (closed November 2008) |
No additional offerings are contemplated at this time.
Sales commissions - formation loans
Sales commissions are not paid directly by the partnership out of the offering proceeds. Instead, the partnership loans to RMC, one of the general partners, amounts to pay all sales commissions and amounts payable in connection with unsolicited orders. This loan is unsecured and non-interest bearing and is referred to as the “formation loan,” and is being repaid equally over a ten year period commencing the year after the close of a partnership offering. The formation loan has been deducted from limited partners’ capital in the consolidated balance sheets. As payments on the formation loan are received from RMC, the deduction from capital will be reduced. Interest has been imputed at the market rate of interest in effect in the years the offering closed. If the general partners are removed and RMC is no longer receiving payments for services rendered, the formation loan is forgiven.
The formation loans made in conjunction with the offerings are as follows.
| · | For the initial offering ($15,000,000) totaled $1,075,000, which was 7.2% of limited partners’ contributions of $14,932,000, and was repaid in 2006. |
| · | For the 1996 offering ($30,000,000) totaled $2,272,000, which was 7.6% of limited partners’ contributions of $29,993,000, and was repaid in 2010. |
| · | For the 2000 offering ($30,000,000) totaled $2,218,000, which was 7.4% of the limited partners’ contributions of $29,999,000, and is to be repaid, without interest, in ten annual installments of $221,800, which commenced in 2003. |
| · | For the 2002 offering ($50,000,000) totaled $3,777,000, which was 7.6% of the limited partners’ contributions of $49,985,000, and is to be repaid, without interest, in ten annual installments of $377,700, which commenced in 2004. |
| · | For the 2003 offering ($75,000,000) totaled $5,661,000, which was 7.6% of the limited partners’ contributions of $74,904,000, and is to be repaid, without interest, in ten annual installments of $566,000, which commenced in 2007. |
| · | For the 2005 offering ($100,000,000) totaled $7,564,000 as of December 31, 2008, which was 7.6% of the limited partners’ contributions of $100,000,000, and is to be repaid, without interest, in ten annual installments of $756,400, which commenced in 2009. |
For the offerings, sales commissions paid to brokers ranged from 0% (units sold by general partners) to 9% of gross proceeds. The partnership had anticipated the sales commissions would approximate 7.6% based on the assumption that 65% of investors will elect to reinvest profits, thus generating full 9% commissions. The actual sales commission percentage for all six offerings combined was 7.5%.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 1 – ORGANIZATIONAL AND GENERAL (continued)
Income taxes and Partners’ capital – tax basis
Income taxes – federal and state – are the obligation of the partners, if and when taxes apply, other than for the minimum annual California franchise tax paid by the partnership.
A reconciliation of partners’ capital in the consolidated financial statements to the tax basis of partners’ capital at December 31 is presented in the following table ($ in thousands).
| | | 2012 | | | 2011 | |
| Partners’ capital per consolidated financial statements | | $ | 195,056 | | | $ | 203,169 | |
| Unallocated syndication costs | | | 321 | | | | 674 | |
| Allowance for loan losses | | | 19,815 | | | | 22,035 | |
| Book vs. tax basis-real estate owned | | | (11,721 | ) | | | (11,941 | ) |
| Formation loans receivable | | | 7,627 | | | | 7,627 | |
| Partners’ capital - tax basis | | $ | 211,098 | | | $ | 221,564 | |
Term of the partnership
The partnership is scheduled to terminate in 2032, unless sooner terminated as provided in the partnership agreement.
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of presentation
The partnership’s consolidated financial statements include the accounts of the partnership, its wholly-owned subsidiaries, and its 72.5%-owned subsidiary. All significant intercompany transactions and balances have been eliminated in consolidation.
Reclassifications
Certain reclassifications, not affecting previously reported net income or total partner capital, have been made to the previously issued consolidated financial statements to conform to the current year presentation.
Management estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America 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 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.
Collateral fair values are reviewed quarterly and the protective equity for each loan is computed. As used herein, “protective equity” is the arithmetic difference between the fair value of the collateral, net of any senior liens, and the loan balance, where “loan balance�� is the sum of the unpaid principal, advances and the recorded interest. 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.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Management estimates (continued)
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. In some years (notably 2009, 2010 and to a lesser extent 2011 and 2012) due to low levels of real estate transactions, and an increased number of transactions that were distressed (i.e., executed by an unwilling seller – often compelled by lenders or other claimants – and/or executed without broad exposure or with market exposure but with few, if any, resulting offers), more interpretation, judgment and interpolation/extrapolation within and across property types was required.
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). In some prior years, as has been previously noted, the appraisal process, was further complicated by the low transaction volumes of which a very high percentage were considered to be distressed sales, and other poor market conditions.
Management has the requisite familiarity with the markets the partnership lends in generally and of the collateral properties 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 (such as land held for development and for units in a condominium conversion). Multiple inputs from different sources often collectively provide the best evidence of fair value. In these cases expected cash flows would be considered alongside other relevant information. Management’s analysis of these secondary sources, as well as the analysis of comparable sales, assists management in preparing its estimates regarding valuations, such as collateral fair value. However, such estimates are inherently imprecise and actual results could differ significantly from such estimates.
Cash and cash equivalents
The partnership considers all highly liquid financial instruments with maturities of three months or less at the time of purchase to be cash equivalents. Periodically, partnership cash balances in banks exceed federally insured limits.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Loans and interest income
Loans generally are stated at the unpaid principal balance (principal). Management has discretion to pay amounts (advances) to third parties on behalf of borrowers to protect the partnership’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 unpaid principal balance and accrue interest until repaid by the borrower.
The partnership may fund a specific loan origination net of an interest reserve to insure timely interest payments at the inception (one to two years) of the loan. As monthly interest payments become due, the partnership funds the payments into the affiliated trust account.
If based upon current information and events, it is probable the partnership will be unable to collect all amounts due according to the contractual terms of the loan agreement, then a loan may be designated as impaired. Impaired loans are included in management’s periodic analysis of recoverability. If a valuation allowance had been established on an impaired loan, any subsequent payments on impaired loans are applied to late fees and then to reduce first the accrued interest, then advances, and then unpaid principal.
From time to time, the partnership negotiates and enters into loan modifications with borrowers whose loans are delinquent. If the loan modification results in a significant reduction in the cash flow compared to the original note, the modification is deemed a troubled debt restructuring and a loss is recognized. In the normal course of the partnership’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 matured loan was previously designated as impaired.
Interest is accrued daily based on the unpaid principal balance of the loans. An impaired loan continues to accrue as long as the loan is in the process of collection and is considered to be well-secured. Loans are placed on non-accrual status 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.
Allowance for loan losses
Loans and the related accrued interest and advances are analyzed on a periodic basis for ultimate recoverability. Delinquencies are identified and followed as part of the loan system. Delinquencies are determined based upon contractual terms. For impaired loans, a provision is made for loan losses to adjust the allowance for loan losses to an amount considered by management to be adequate, with due consideration to collateral values, such that the net carrying amount (unpaid principal balance, plus advances, plus accrued interest less the specific allowance) is reduced to the present value of future cash flows discounted at the loan’s effective interest rate, or, if a loan is collateral dependent, to the estimated fair value of the related collateral net of any senior loans, net of any costs to sell in arriving at net realizable value if planned disposition of the asset securing a loan is by way of sale.
The fair value estimates are derived from information available in the real estate markets including similar property, and may require the experience and judgment of third parties such as commercial real estate appraisers and brokers.
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.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Allowance for loan losses (continued)
Based on its knowledge of the borrowers and their historical (and expected) performance, and the exposure to loss as indicated in the analysis, management estimates an appropriate reserve by property type for probable credit losses in the portfolio. Because the partnership is an asset-based lender, except as to owner-occupied residences, and because specific regions, neighborhoods and even properties within the same neighborhoods, vary significantly as to real estate values and transaction activity, general market trends, which may be indicative of a change in the risk of a loss, are secondary to the condition of the property, the property type and the neighborhood/region in which the property is located, and do not enter substantially into the determination of the amount of the non-specific (i.e. general) reserves.
The partnership charges off uncollectible loans and related receivables directly to the allowance account once it is determined the full amount is not collectible.
Real estate owned (REO) held for sale
REO, held for sale includes real estate acquired in full or partial settlement of loan obligations generally through foreclosure that is being marketed for sale. REO, held for sale is recorded at acquisition at the lower of the recorded investment in the loan, plus any senior indebtedness, or at the property’s net realizable value, which is the fair value less estimated costs to sell, as applicable. Any excess of the recorded investment in the loan over the net realizable value is charged against the allowance for loan losses. 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, held for sale is analyzed periodically for changes in fair values and any subsequent write down is charged to operating expenses. Any recovery in the fair value subsequent to such a write down is recorded – not to exceed the net realizable value at acquisition – as an offset to operating expenses. Gains or losses on sale of the property are recorded as an operating expense. 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.
Real estate owned (REO), held as investment, net
REO, held as investment, net includes real estate acquired in full or partial settlement of loan obligations generally through foreclosure that is not being marketed for sale and is either being operated, such as rental properties; is being managed through the development process, including obtaining appropriate and necessary entitlements, permits and construction; or are idle properties awaiting more favorable market conditions. REO, held as investment, net is recorded at acquisition at the lower of the recorded investment in the loan, plus any senior indebtedness, or at the property’s estimated fair value, net. After acquisition, costs incurred relating to the development and improvement of the property are capitalized, whereas costs relating to operating or holding the property are expensed. Subsequent to acquisition, management periodically compares the carrying value of real estate to expected undiscounted future cash flows for the purpose of assessing the recoverability of the recorded amounts. If the carrying value exceeds future undiscounted cash flows, the assets are reduced to estimated fair value.
Rental income
Residential rental lease lengths generally range from month to month up to one year, and commercial rental lease lengths generally range from five to ten years, with rental income recognized when earned in accordance with the lease agreement.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Depreciation
Real estate owned held as investment that is being operated is depreciated on a straight-line basis over the estimated useful life of the property once the asset is placed in service.
Net income per $1,000 invested
Amounts reflected in the statements of income as net income per $1,000 invested by limited partners for the entire period are amounts allocated to limited partners who held their investment throughout the period and have elected to either leave their profits to compound or have elected to receive periodic distributions of their net income. Individual income is allocated each month based on the limited partners’ pro rata share of partners’ capital. Because the net income percentage varies from month to month, amounts per $1,000 will vary for those individuals who made or withdrew investments during the period, or selected other options.
Recently issued accounting pronouncements
The FASB issued ASU 2011-04 “Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRs”. The ASU is effective for interim and annual periods beginning after December 15, 2011 with prospective application. The partnership’s adoption of ASU 2011-04 effective January 1, 2012 had no impact on the financial results of the partnership.
NOTE 3 – GENERAL PARTNERS AND OTHER RELATED PARTIES
The general partners are entitled to one percent of the profits and losses, which amounted to approximately $(57,000) and $(233,000) for the years ended December 31, 2012 and 2011, respectively.
Formation loan
The formation loan transactions are summarized in the following table at December 31, 2012 ($ in thousands).
| | | Initial | | | 1996 | | | 2000 | | | 2002 | | | 2003 | | | 2005 | | | | |
| | | Offering of | | | Offering of | | | Offering of | | | Offering of | | | Offering of | | | Offering of | | | | |
| | | $ | 15,000 | | | $ | 30,000 | | | $ | 30,000 | | | $ | 50,000 | | | $ | 75,000 | | | $ | 100,000 | | | Total | |
| Limited Partner | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| contributions | | $ | 14,932 | | | $ | 29,993 | | | $ | 29,999 | | | $ | 49,985 | | | $ | 74,904 | | | $ | 100,000 | | | $ | 299,813 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Formation Loan | | $ | 1,075 | | | $ | 2,272 | | | $ | 2,218 | | | $ | 3,777 | | | $ | 5,661 | | | $ | 7,564 | | | $ | 22,567 | |
| Unamortized discount on | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Formation loan | | | — | | | | — | | | | (2 | ) | | | (31 | ) | | | (238 | ) | | | (1,018 | ) | | | (1,289 | ) |
| Formation Loan, net | | | 1,075 | | | | 2,272 | | | | 2,216 | | | | 3,746 | | | | 5,423 | | | | 6,546 | | | | 21,278 | |
| Repayments | | | (991 | ) | | | (2,099 | ) | | | (1,883 | ) | | | (2,948 | ) | | | (3,414 | ) | | | (2,962 | ) | | | (14,297 | ) |
| Early withdrawal penalties | | | (84 | ) | | | (173 | ) | | | (137 | ) | | | (100 | ) | | | (142 | ) | | | (7 | ) | | | (643 | ) |
| Formation Loan, net at | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| December 31, 2012 | | | — | | | | — | | | | 196 | | | | 698 | | | | 1,867 | | | | 3,577 | | | | 6,338 | |
| Unamortized discount on | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Formation loan | | | — | | | | — | | | | 2 | | | | 31 | | | | 238 | | | | 1,018 | | | | 1,289 | |
| Balance, | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| December 31, 2012 | | $ | — | | | $ | — | | | $ | 198 | | | $ | 729 | | | $ | 2,105 | | | $ | 4,595 | | | $ | 7,627 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Percent loaned | | | 7.2 | % | | | 7.6 | % | | | 7.4 | % | | | 7.6 | % | | | 7.6 | % | | | 7.6 | % | | | 7.5 | % |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 3 – GENERAL PARTNERS AND OTHER RELATED PARTIES (continued)
Formation loan (continued)
Interest has been imputed at the market rate of interest in effect at the date the offerings closed which ranged from 4.00% to 9.50%. During 2012 and 2011, $207,000 and $470,000, respectively, were recorded related to amortization of the discount on imputed interest.
The future minimum payments on the formation loan are presented in the following table ($ in thousands).
| 2013 | | $ | — | |
| 2014 | | | — | |
| 2015 | | | 1,898 | |
| 2016 | | | 1,674 | |
| 2017 | | | 1,323 | |
| Thereafter | | | 2,732 | |
| Total | | $ | 7,627 | |
RMC acts as the broker in originating mortgage loans for RMI VIII. The corresponding brokerage commissions paid by borrowers from mortgage loans made by these funds are the primary source of cash used to repay the formation loans. RMI VIII was prohibited by its lending banks from originating new loans under the terms of an Amended and Restated Loan Agreement dated October 2010, and a preceding forbearance agreement that was in effect in the fourth quarter of 2009, until the bank loan was repaid in full, September 2012. The amended loan and forbearance agreements were the result of a technical (i.e. non-payment) covenant default under the original loan. As a result, RMC was deprived of the opportunity to receive brokerage commissions on loans by RMI VIII for the period from the fourth quarter of 2009 continuing through September 30, 2012, a period of almost three years. During that period, despite receiving no loan brokerage commissions, RMC continued to make the annual formation loan payments of approximately $1.8 million per year (or $5.4 million for the three years) from its own cash reserves that existed as of the date of the forbearance agreement. RMC believes it would have had a reasonable argument that the annual formation loan payments should be suspended until such time as lending by RMI VIII was permitted to resume and brokerage commissions could be earned, but RMC elected not to make such a proposal and, instead, continued to make annual formation loan payments due to concerns that the lending banks would view nonpayment of the formation loan as another technical loan default that might have led to a “distressed sale” liquidation of RMI VIII’s assets, resulting in substantial loss of limited partners’ capital.
As the bank loan was fully repaid as of September 2012, RMC has temporarily suspended annual formation loan payments, beginning with the payment due December 31, 2012, for the three-year period then beginning, which is a period commensurate with the period during which lending by RMI VIII was prohibited and RMC was deprived of loan brokerage commissions.
The following commissions and/or fees are paid by the borrowers to the general partners and their affiliates and are not an expense of the partnership.
Brokerage commissions, loan originations
For fees in connection with the review, selection, evaluation, negotiation and extension of loans, the general partners may collect loan brokerage commissions (points) limited to an amount not to exceed 4% of the total partnership assets per year. In 2012 and 2011, loan brokerage commissions paid to the general partners by the borrowers were $116,000 and $0, respectively.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 3 – GENERAL PARTNERS AND OTHER RELATED PARTIES (continued)
Other fees
The partnership agreement provides for other fees such as reconveyance, mortgage assumption and mortgage extension fees. Such fees are incurred by the borrowers and are paid to the general partners. In 2012 and 2011, these fees totaled $1,826 and $2,980, respectively.
The following commissions and fees are paid by the partnership to RMC.
Mortgage servicing fees
RMC may earn mortgage servicing fees of up to 1.5% annually of the unpaid principal of the loan portfolio or such lesser amount as is reasonable and customary in the geographic area where the property securing the mortgage is located from RMI VIII. Historically, RMC charged one percent annually, and at times waived additional amounts to improve the partnership’s earnings. Such fee waivers were not made for the purpose of providing the partnership with sufficient funds to satisfy withdrawal requests, nor were such waivers made in order to meet any required level of distributions, as the partnership has no such required level of distributions. RMC does not use any specific criteria in determining the amount of fees, if any, to be waived. The decision to waive fees and the amount, if any, to be waived, is made by RMC in its sole discretion.
Mortgage servicing fees paid to RMC by the partnership are presented in the following table for the years ended December 31, ($ in thousands).
| | | 2012 | | | 2011 | |
| Chargeable by RMC | | $ | 1,083 | | | $ | 3,906 | |
| Waived by RMC | | | (361 | ) | | | (1,302 | ) |
| Charged | | $ | 722 | | | $ | 2,604 | |
Asset management fees
The general partners receive monthly fees for managing the partnership’s loan portfolio and operations of up to 1/32 of 1% of the “net asset value” (3/8 of 1% annually). At times, the general partners have charged less than the maximum allowable rate to enhance the partnership’s earnings. Such fee waivers were not made with the purpose of providing the partnership with sufficient funds to satisfy withdrawal requests, nor to meet any required level of distributions, as the partnership has no such required level of distributions. RMC does not use any specific criteria in determining the exact amount of fees, if any, to be waived. The decision to waive fees and the amount, if any, to be waived, is made by RMC in its sole discretion.
Asset management fees for the years ended December 31, 2012 and 2011 were $840,000 and $938,000, respectively. No asset management fees were waived during any period reported.
Costs from Redwood Mortgage Corp.
RMC is reimbursed by the partnership for operating expenses incurred on behalf of the partnership, including without limitation, accounting and audit fees, legal fees and expenses, postage and preparation of reports to limited partners, and out-of-pocket general and administration expenses. The decision to request reimbursement of any qualifying charges is made by RMC in its sole discretion. During 2012 and 2011, operating expenses totaling $1,321,000 and $1,195,000, respectively, were reimbursed to RMC. To the extent some operating expenses incurred on behalf of RMI VIII were not charged by RMC, the financial position and results of operations for the partnership would be different.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 3 – GENERAL PARTNERS AND RELATED PARTIES (continued)
Syndication costs
The partnership bears its own syndication costs, other than certain sales commissions, including legal and accounting expenses, printing costs, selling expenses and filing fees. Syndication costs are charged against partners’ capital and are being allocated to individual partners consistent with the partnership agreement.
Through December 31, 2012, syndication costs of $5,010,000 had been incurred by the partnership with the following distribution ($ in thousands).
| Costs incurred | | $ | 5,010 | |
| Early withdrawal penalties applied | | | (190 | ) |
| Allocated to date | | | (4,499 | ) |
| | | | | |
| December 31, 2012 balance | | $ | 321 | |
The syndication costs associated with the offerings is as follows.
| · | For the initial offering ($15,000,000) were limited to the lesser of 10% of the gross proceeds or $600,000 with any excess being paid by the general partners. Applicable gross proceeds were $14,932,000. Related expenditures totaled $582,000 ($570,000 syndication costs plus $12,000 organization expense) or 3.9% of gross proceeds. |
| · | For the 1996 offering ($30,000,000) were limited to the lesser of 10% of the gross proceeds or $1,200,000 with any excess being paid by the general partners. Gross proceeds of the offering were $29,993,000. Syndication costs totaled $598,000 or 2% of gross proceeds. |
| · | For the 2000 offering ($30,000,000) were limited to the lesser of 10% of the gross proceeds or $1,200,000 with any excess being paid by the general partners. Gross proceeds of the offering were $29,999,000. Syndication costs totaled $643,000 or 2.1% of gross proceeds. |
| · | For the 2002 offering ($50,000,000) were limited to the lesser of 10% of the gross proceeds or $2,000,000 with any excess to be paid by the general partners. Gross proceeds of the offering were $49,985,000. Syndication costs totaled $658,000 or 1.3% of gross proceeds. |
| · | For the 2003 offering ($75,000,000) were limited to the lesser of 10% of the gross proceeds or $3,000,000 with any excess to be paid by the general partners. Gross proceeds of the offering were $74,904,000. Syndication costs totaled $789,000 or 1.1% of gross proceeds. |
| · | For the 2005 offering ($100,000,000) were limited to the lesser of 10% of the gross proceeds or $4,000,000 with any excess to be paid by the general partners. Gross proceeds of the offering were $100,000,000. Syndication costs totaled $1,752,000 or 1.75% of gross proceeds. |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 4 – LOANS
The partnership generally funds loans with a fixed interest rate and a five-year term. As of December 31, 2012, approximately 51% of the partnership’s loans (representing 52% of the aggregate principal balance of the partnership’s loan portfolio) have a five year term or less from loan inception. The remaining loans have terms longer than five years.
As of December 31, 2012, approximately 41% of the loans outstanding (representing 83% of the aggregate principal balance of the partnership’s loan portfolio) provide for monthly payments of interest only, with the principal due in full at maturity. The remaining loans require monthly payments of principal and interest, typically calculated on a 30 year amortization, with the remaining principal balance due at maturity.
The partnership makes construction and rehabilitation loans which are not fully disbursed at loan inception. The partnership has approved the borrowers up to a maximum loan balance; however, disbursements are made periodically during completion phases of the construction or rehabilitation or at such other times as required under the loan documents and would be funded from available cash balances and future cash receipts. The partnership does not maintain a separate cash reserve to hold the undisbursed obligations, which are intended to be funded. As of December 31, 2012, there was one such loan; however, the borrower is in default negating any funding obligation.
Loans unpaid principal balance (principal)
Secured loan transactions are summarized in the following table for the years ended December 31, ($ in thousands).
| | | 2012 | | | 2011 | |
| Principal, January 1 | | $ | 73,386 | | | $ | 202,134 | |
| Loans funded or acquired | | | 10,522 | | | | 348 | |
| Principal collected | | | (17,401 | ) | | | (17,118 | ) |
| Loans sold to affiliates | | | (1,189 | ) | | | (2,122 | ) |
| Foreclosures | | | (3,728 | ) | | | (101,991 | ) |
| Other – loans charged off against allowance | | | (720 | ) | | | (8,031 | ) |
| Principal, December 31 | | $ | 60,870 | | | $ | 73,386 | |
During 2012 and 2011, the partnership renewed four and two loans, respectively, with an aggregate principal of approximately $967,000 and $597,000, respectively that were not included in the activity shown on the table above.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 4 – LOANS (continued)
Loan characteristics
Secured loans had the characteristics presented in the following table ($ in thousands).
| | | 2012 | | | 2011 | |
| Number of secured loans | | | 39 | | | | 49 | |
| Secured loans – principal | | $ | 60,870 | | | $ | 73,386 | |
| Secured loans – lowest interest rate (fixed) | | | 3.00 | % | | | 3.00 | % |
| Secured loans – highest interest rate (fixed) | | | 12.00 | % | | | 12.00 | % |
| | | | | | | | | |
| Average secured loan – principal | | $ | 1,561 | | | $ | 1,498 | |
| Average principal as percent of total principal | | | 2.56 | % | | | 2.04 | % |
| Average principal as percent of partners’ capital | | | 0.80 | % | | | 0.74 | % |
| Average principal as percent of total assets | | | 0.63 | % | | | 0.54 | % |
| | | | | | | | | |
| Largest secured loan – principal | | $ | 16,697 | | | $ | 16,675 | |
| Largest principal as percent of total principal | | | 27.43 | % | | | 22.72 | % |
| Largest principal as percent of partners’ capital | | | 8.56 | % | | | 8.21 | % |
| Largest principal as percent of total assets | | | 6.74 | % | | | 6.05 | % |
| | | | | | | | | |
| Smallest secured loan – principal | | $ | 87 | | | $ | 92 | |
| Smallest principal as percent of total principal | | | 0.14 | % | | | 0.12 | % |
| Smallest principal as percent of partners’ capital | | | 0.04 | % | | | 0.05 | % |
| Smallest principal as percent of total assets | | | 0.04 | % | | | 0.03 | % |
| | | | | | | | | |
| Number of counties where security is located (all California) | | | 19 | | | | 21 | |
| Largest percentage of principal in one county | | | 46.18 | % | | | 24.51 | % |
| | | | | | | | | |
| Number of secured loans in foreclosure status | | | 6 | | | | 7 | |
| Secured loans in foreclosure – principal | | $ | 1,910 | | | $ | 21,915 | |
| | | | | | | | | |
| Number of secured loans with an interest reserve | | | — | | | | — | |
| Interest reserves | | $ | — | | | $ | — | |
As of December 31, 2012, the partnership’s largest loan, in the unpaid principal balance of $16,697,000 (representing 27.43% of outstanding secured loans and 6.74% of partnership assets) has an interest rate of 10.00% and is secured by 9 units in a condominium complex located in San Francisco County, California. This loan matured February 1, 2011. The partnership is working with the borrower regarding the disposition of the remaining units.
Larger loans sometimes increase above 10% of the secured loan portfolio or partnership assets as these amounts decrease due to limited partner withdrawals and loan payoffs and due to restructuring of existing loans.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 4 – LOANS (continued)
Lien position
At funding secured loans had the following lien positions and are presented in the following table ($ in thousands).
| | 2012 | | 2011 | |
| | Loans | | Principal | | Percent | | Loans | | Principal | | Percent | |
| First trust deeds | 17 | | $ | 33,785 | | 56 | % | 21 | | $ | 29,361 | | 40 | % |
| Second trust deeds | 21 | | | 26,789 | | 44 | | 26 | | | 43,523 | | 59 | |
| Third trust deeds | 1 | | | 296 | | — | | 2 | | | 502 | | 1 | |
| Total secured loans | 39 | | | 60,870 | | 100 | % | 49 | | | 73,386 | | 100 | % |
| Liens due other lenders at loan closing | | | | 80,875 | | | | | | | 114,550 | | | |
| | | | | | | | | | | | | | | |
| Total debt | | | $ | 141,745 | | | | | | $ | 187,936 | | | |
| | | | | | | | | | | | | | | |
| Appraised property value at loan closing | | | $ | 199,392 | | | | | | $ | 275,909 | | | |
| | | | | | | | | | | | | | | |
| Percent of total debt to appraised | | | | | | | | | | | | | | |
values (LTV) at loan closing (1) | | | | 71.10 | % | | | | | | 68.12 | % | | |
| | (1) | Based on appraised values and liens due other lenders at loan closing. The loan to value computation does not take into account subsequent increases or decreases in security property values following the loan closing nor does it include decreases or increases of the amount owing on senior liens to other lenders by payments or interest accruals, if any. Property values likely have changed, particularly over the last four years, and the portfolio’s current loan to value ratio likely is higher than this historical ratio. |
Property type
Secured loans summarized by property type are presented in the following table ($ in thousands).
| | 2012 | | 2011 | |
| | Loans | | Principal | | Percent | | Loans | | Principal | | Percent | |
| Single family | 31 | | $ | 46,295 | | 76 | % | 37 | | $ | 52,085 | | 71 | % |
| Multi-family | 2 | | | 2,557 | | 4 | | 3 | | | 4,609 | | 6 | |
| Commercial | 5 | | | 11,479 | | 19 | | 8 | | | 16,149 | | 22 | |
| Land | 1 | | | 539 | | 1 | | 1 | | | 543 | | 1 | |
| Total secured loans | 39 | | $ | 60,870 | | 100 | % | 49 | | $ | 73,386 | | 100 | % |
Single family properties include owner-occupied and non-owner occupied single family homes (1-4 unit residential buildings), condominium units, townhouses, and condominium complexes. From time to time, loan originations in one sector or property type become more active due to prevailing market conditions. The current concentration of the partnership’s loan portfolio in condominium properties may pose additional or increased risks. Recovery of the condominium sector of the real estate market is generally expected to lag behind that of single-family residences. In addition, availability of financing for condominium properties has been, and will likely continue to be, constricted and more difficult to obtain than other property types. As of December 31, 2012 and 2011, $36,855,000 and $40,907,000, respectively, of the partnership’s loans were secured by condominium properties.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 4 – LOANS (continued)
Property type (continued)
Condominiums may create unique risks for the partnership that are not present for loans made on other types of properties. In the case of condominiums, a board of managers generally has discretion to make decisions affecting the condominium building, including regarding assessments to be paid by the unit owners, insurance to be maintained on the building, and the maintenance of that building, which may have an impact on the partnership loans that are secured by such condominium property.
The partnership may have less flexibility in foreclosing on the collateral for a loan secured by condominiums upon a default by the borrower. Among other things, the partnership must consider the governing documents of the homeowners association and the state and local laws applicable to condominium units, which may require an owner to obtain a public report prior to the sale of the units.
Distribution by California counties
The distribution of secured loans outstanding by the California county in which the primary collateral is located is presented in the following table at December 31, 2012 ($ in thousands).
| California County | | Principal | | Percent | |
| San Francisco Bay Area Counties | | | | | | |
| San Francisco | | $ | 28,115 | | 46.18 | % |
| Contra Costa | | | 17,927 | | 29.44 | |
| Santa Clara | | | 3,182 | | 5.23 | |
| Alameda | | | 1,682 | | 2.76 | |
| Solano | | | 1,641 | | 2.70 | |
| San Mateo | | | 665 | | 1.09 | |
| Napa | | | 411 | | 0.68 | |
| Marin | | | 180 | | 0.30 | |
| | | | 53,803 | | 88.38 | % |
| Other Northern California Counties | | | | | | |
| Sacramento | | | 2,518 | | 4.14 | % |
| Calaveras | | | 196 | | 0.32 | |
| Monterey | | | 183 | | 0.30 | |
| Butte | | | 115 | | 0.19 | |
| San Benito | | | 98 | | 0.16 | |
| | | | 3,110 | | 5.11 | % |
| Southern California Counties | | | | | | |
| Riverside | | | 2,140 | | 3.52 | % |
| Los Angeles | | | 817 | | 1.34 | |
| Orange | | | 588 | | 0.97 | |
| San Bernardino | | | 196 | | 0.32 | |
| Kern | | | 121 | | 0.20 | |
| San Diego | | | 95 | | 0.16 | |
| | | | 3,957 | | 6.51 | % |
| Total | | $ | 60,870 | | 100.00 | % |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 4 – LOANS (continued)
Scheduled maturities
Secured loans are scheduled to mature as presented in the following table ($ in thousands).
| Scheduled maturities at December 31, 2012 | Loans | | Principal | | Percent | |
| 2013 | 7 | | $ | 1,861 | | 4 | % |
| 2014 | 2 | | | 2,355 | | 4 | |
| 2015 | 8 | | | 14,032 | | 23 | |
| 2016 | 2 | | | 3,265 | | 5 | |
| 2017 | 4 | | | 1,409 | | 2 | |
| Thereafter | 2 | | | 1,462 | | 2 | |
| Total future maturities | 25 | | | 24,384 | | 40 | |
| Matured at December 31, 2012 | 14 | | | 36,486 | | 60 | |
| Total secured loans | 39 | | $ | 60,870 | | 100 | % |
It is the partnership’s experience loans may be repaid or refinanced before, at or after the contractual maturity date. For matured loans, the partnership 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.
The partnership reports maturity data based upon the most recent contractual agreement with the borrower. The table above includes one loan with an aggregate principal of $3,085,000 which had its maturity date extended, which is considered impaired and is in non-accrual status, and four other loans with an aggregate principal of $967,000 which are renewals.
Matured loans
Secured loans past maturity are summarized in the following table ($ in thousands).
| | | 2012 | | | 2011 | |
Number of loans (2) (3) | | | 14 | | | | 9 | |
| Principal | | $ | 36,486 | | | $ | 40,393 | |
| Advances | | | 5,014 | | | | 6,829 | |
| Accrued interest | | | 61 | | | | 1,608 | |
| Loan balance | | $ | 41,561 | | | $ | 48,830 | |
| Percent of principal | | | 60 | % | | | 55 | % |
| | (2) | The secured loans past maturity include 12 and 8 loans as of December 31, 2012 and 2011, respectively, also included in the secured loans in non-accrual status. |
| | (3) | The secured loans past maturity include 10 and 7 loans as of December 31, 2012 and 2011, respectively, also included in the secured loans delinquency. |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 4 – LOANS (continued)
Delinquency
Secured loans summarized by payment delinquency are presented in the following table ($ in thousands).
| | | 2012 | | | 2011 | |
| Past due | | | | | | | | |
| 30-89 days | | $ | 783 | | | $ | 5,370 | |
| 90-179 days | | | 2,062 | | | | 1,254 | |
| 180 or more days | | | 19,033 | | | | 34,911 | |
| Total past due | | | 21,878 | | | | 41,535 | |
Current (4) | | | 38,992 | | | | 31,851 | |
| Total secured loans | | $ | 60,870 | | | $ | 73,386 | |
| | (4) | The partnership reports delinquency based upon the most recent contractual agreement with the borrower. At December 31, 2011 a loan with a principal of approximately $4,000,000 is shown as current as all past due amounts were received in early January 2012. Also at December 31, 2011, a loan with a principal of approximately $16,500,000 is shown as current as it was a new loan created from two past due loans on which the borrower made a payment of $3,000,000 in December 2011, and has been making timely scheduled payments on the new loan. |
At December 31, 2012, the partnership had four workout agreements in effect with an aggregate principal of $1,126,000. Of the four borrowers, three, with an aggregate principal of $709,000 had made all required payments under the workout agreements and the loans were included in the above table as current. All of the loans with a workout agreement in effect were designated impaired and three of the four impaired loans with an aggregate principal of $866,000 were in non-accrual status.
At December 31, 2011, the partnership had eight workout agreements in effect with an aggregate principal of $4,255,000. Of the eight borrowers, seven, with an aggregate principal of $3,590,000 had made all required payments under the workout agreements and the loans were included in the above table as current. Six of the eight loans, with an aggregate principal of $3,649,000 were designated impaired and four of the six impaired loans with an aggregate principal of $1,131,000 were in non-accrual status.
Interest income accrued on loans contractually past due 90 days or more as to principal or interest payments during the years ended December 31, 2012 and 2011 was $50,000 and $112,000, respectively. Accrued interest on loans contractually past due 90 days or more as to principal or interest payments at December 31, 2012 and 2011 was $14,000 and $1,458,000, respectively.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 4 – LOANS (continued)
Loans in non-accrual status
Secured loans in nonaccrual status are summarized in the following table ($ in thousands).
| | | 2012 | | | 2011 | |
| Secured loans in nonaccrual status | | | | | | | | |
| Number of loans | | | 18 | | | | 19 | |
| Principal | | $ | 43,352 | | | $ | 62,739 | |
| Advances | | | 5,028 | | | | 6,859 | |
| Accrued interest | | | 11 | | | | 2,259 | |
| Loan balance | | $ | 48,391 | | | $ | 71,857 | |
| Foregone interest | | $ | 3,255 | | | $ | 3,957 | |
At December 31, 2012 and 2011, there was one loan with a loan balance of $99,000 and $195,000, respectively, that were contractually 90 or more days past due as to principal or interest and not in non-accrual status.
Impaired Loans
Impaired loans had the balances shown and the associated allowance for loan losses presented in the following table ($ in thousands).
| | | 2012 | | | 2011 | |
| Principal | | $ | 45,964 | | | $ | 66,318 | |
Recorded investment (5) | | $ | 51,054 | | | $ | 75,496 | |
| Impaired loans without allowance | | $ | 9,611 | | | $ | 32,363 | |
| Impaired loans with allowance | | $ | 41,443 | | | $ | 43,133 | |
| Allowance for loan losses, impaired loans | | $ | 19,560 | | | $ | 21,535 | |
| | (5) | Recorded investment is the sum of principal, advances, and interest accrued for financial reporting purposes. |
Impaired loans had the average balances and interest income recognized and received in cash as presented in the following table for the years ended December 31, ($ in thousands).
| | | 2012 | | | 2011 | |
| Average recorded investment | | $ | 66,898 | | | $ | 143,783 | |
| Interest income recognized | | $ | 195 | | | $ | 695 | |
| Interest income received in cash | | $ | 612 | | | $ | 277 | |
Modifications and troubled debt restructurings
During 2012, the partnership modified five loans by extending the maturity date, and/or lowering the interest rate, and/or changing the loan from interest only to an amortizing loan. Two of the modified loans qualified as a troubled debt restructuring under GAAP resulting in no losses being recorded.
During 2011, the partnership modified seven loans by extending the maturity date, lowering the interest rate or reducing the monthly payment. These loans were deemed impaired and are carried at the value of the collateral.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 4 – LOANS (continued)
Allowance for loan losses
Activity in the allowance for loan losses is presented in the following table for the years ended December 31 ($ in thousands).
| | | 2012 | | | 2011 | |
| Balance, January 1 | | $ | 22,035 | | | $ | 89,200 | |
| | | | | | | | | |
| Provision for loan losses | | | 859 | | | | 6,113 | |
| | | | | | | | | |
| Charge-offs, net | | | | | | | | |
| Charge-offs | | | (3,100 | ) | | | (73,388 | ) |
| Recoveries | | | 21 | | | | 110 | |
| Charge-offs, net | | | (3,079 | ) | | | (73,278 | ) |
| | | | | | | | | |
| Balance, December 31 | | $ | 19,815 | | | $ | 22,035 | |
| | | | | | | | | |
| Ratio of charge-offs, net during the period to average | | | | | | | | |
| secured loans outstanding during the period | | | 4.32 | % | | | 45.57 | % |
The composition of the allowance for loan losses and the percentage of unpaid principal balance for each property type are presented in the following table for the years ended December 31, ($ in thousands).
| | | 2012 | | | 2011 | |
| | | Amount | | Percent | | | Amount | | Percent | |
| Allowance for loan losses | | | | | | | | | | | | |
| | | | | | | | | | | | | |
| Secured loans by property type | | | | | | | | | | | | |
| Single family | | $ | 19,255 | | 76 | % | | $ | 21,475 | | 71 | % |
| Multi-family | | | 60 | | 4 | | | | 60 | | 6 | |
| Commercial | | | 490 | | 19 | | | | 490 | | 22 | |
| Land | | | 10 | | 1 | | | | 10 | | 1 | |
| Total for secured loans | | $ | 19,815 | | 10 0 | % | | $ | 22,035 | | 10 0 | % |
| | | | | | | | | | | | | |
| Unsecured loans | | $ | — | | 10 0 | % | | $ | — | | 10 0 | % |
| | | | | | | | | | | | | |
| Total allowance for loan losses | | $ | 19,815 | | 10 0 | % | | $ | 22,035 | | 10 0 | % |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 5 – REAL ESTATE OWNED (REO), HELD FOR SALE
Periodically, management reviews the status of the owned properties to evaluate among other things, their asset classification. Properties generally are acquired through foreclosure. Several factors are considered in determining the classification of owned properties as “real estate held for sale” or “real estate held as investment.” These factors include, but are not limited to, real estate market conditions, status of any required permits, repair, improvement or development work to be completed, rental and lease income and investment potential. Real estate owned is classified as held for sale in the period in which the GAAP required criteria are met. As a property’s status changes, reclassifications may occur.
Transactions and activity, including changes in the net book values, if any, and the property types are presented in the following table for the years ended December 31, ($ in thousands).
| | | 2012 | | | 2011 | |
| Balance, January 1 | | $ | 48,406 | | | $ | 54,206 | |
| Acquisitions | | | — | | | | 15,959 | |
| Dispositions | | | (30,003 | ) | | | (26,600 | ) |
| Improvements/betterments | | | 447 | | | | 160 | |
| Designated from REO held as investment | | | — | | | | 8,929 | |
| Designated to REO held as investment | | | (18,337 | ) | | | — | |
| Change in net book value | | | (513 | ) | | | (4,248 | ) |
| Balance, December 31 | | $ | — | | | $ | 48,406 | |
| | | | | | | | | |
| Property type | | | | | | | | |
| Single family | | $ | — | | | $ | 4,334 | |
| Multi-family | | | — | | | | 16,672 | |
| Commercial | | | — | | | | 27,400 | |
| Balance, December 31 | | $ | — | | | | 48,406 | |
| | | | | | | | | |
| Number of properties, December 31 | | | — | | | | 9 | |
During 2012, the partnership designated four properties to REO held as investment. Of the properties listed in the tables as dispositions in 2012, the partnership recorded an aggregate investment gain of approximately $39,000.
Properties included at December 31, 2011 were located in the following California counties: Humboldt, Los Angeles, Napa, San Francisco, and San Joaquin. During 2011, the partnership acquired two properties by foreclosure or deed in lieu of foreclosure, in which properties the partnership had an aggregate investment of $15,959,000 as of the respective acquisition dates. One acquired property was subject to a lien senior to the partnership’s interests, and the partnership’s share of the lien was $107,000 as of the acquisition date. Of the properties listed in the tables as dispositions in 2011, the partnership incurred an aggregate investment loss of $(124,000).
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 5 – REAL ESTATE OWNED (REO), HELD FOR SALE (continued)
The results of operations NOI (“Net Operating Income”) for rental properties in REO held for sale is presented in the following table ($ in thousands). The table below reflects rental operations, net for those properties classified as REO, held for sale during December 31, 2012 and 2011.
| | | 2012 | | | 2011 | |
| Rental income | | $ | 28 | | | $ | 1,192 | |
| | | | | | | | | |
| Operating expenses | | | | | | | | |
| Administration and payroll | | | 9 | | | | 210 | |
| Homeowner association fees | | | 1 | | | | 10 | |
| Receiver fees | | | 14 | | | | 75 | |
| Utilities and maintenance | | | 13 | | | | 589 | |
| Advertising and promotions | | | — | | | | 1 | |
| Property taxes | | | (3 | ) | | | 206 | |
| Other | | | — | | | | 39 | |
| Total operating expenses | | | 34 | | | | 1,130 | |
| Net operating income | | | (6 | ) | | | 62 | |
| Depreciation | | | — | | | | 41 | |
| Rental operations, net | | $ | (6 | ) | | $ | 21 | |
Interest expense on the mortgages securing the rental properties was $2,000 and $640,000 for 2012 and 2011, respectively.
The results of rental operations for rental properties in REO held for sale for 2012, are for two properties sold prior to March 31, 2012. REO held for sale at June 30, 2012 which were designated as REO held as investment in 2012 are presented as if the reclassification had occurred on January 1, 2012.
During the fourth quarter of 2012 the partnership sold the following property.
| - | A commercial property located in San Francisco County, California. The property was sold for its carrying value after taking into account any previously recorded valuation reserve. |
| - | A tenant-in-common unit located in San Francisco County, California. The unit had a gain on sale of approximately $4,000. |
During the third quarter of 2012 the partnership sold a single-family residence located in Humboldt County, California. The sale resulted in a recovery of approximately $14,000 to an impairment recorded in the second quarter of 2012.
During the second quarter of 2012 the partnership sold the following properties.
| - | A commercial property/development site located in San Francisco, County, California. The sale resulted in a gain of approximately $168,000. As part of the sale, the partnership took back a loan of $10,500,000 secured by the property. |
| - | A tenant-in-common unit located in San Francisco County, California. The unit had a loss on sale of approximately $127,000. |
During the first quarter of 2012 the partnership sold the following properties.
| - | 1 condominium unit and 3 tenants-in-common units, all located in San Francisco County, California. The units had an aggregate loss on sale of approximately $6,000. |
| - | A mixed-use property consisting of a single-family residence, winery and vineyard, located in Napa County, California. The property was sold for its carrying value after taking into account any previously recorded valuation reserve. |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 5 – REAL ESTATE OWNED (REO), HELD FOR SALE (continued)
In the fourth quarter of 2011, the partnership acquired through foreclosure a single-family residence in Humboldt County, California. The recorded investment was approximately $260,000 and was subject to a mortgage loan with a balance at acquisition of approximately $107,000.
In the third quarter of 2011, the partnership acquired through foreclosure, a commercial property/development site located in San Francisco County, California, currently operating as a parking lot. The property is adjacent to the proposed TransBay terminal and is zoned for a high-rise building. The recorded investment was approximately $15,700,000.
During the third quarter of 2011, the partnership designated as REO held for sale, two condominium units acquired in the second quarter of 2011, designated as REO held as investment. One of the units sold in November 2011 and the other unit sold in January 2012. These two sales resulted in a gain of approximately $172,000.
NOTE 6 – REAL ESTATE OWNED (REO), HELD AS INVESTMENT, NET
For REO, held as investment, the activity in net book value (NBV) and changes in the impairment reserves are summarized in the following table for the years ended December 31 ($ in thousands).
| | | NBV | | | Accumulated Depreciation | |
| | | 2012 | | | 2011 | | | 2012 | | | 2011 | |
| Balance, January 1 | | $ | 161,402 | | | $ | 115,411 | | | $ | 3,594 | | | $ | 1,807 | |
| Acquisitions | | | 1,649 | | | | 70,350 | | | | — | | | | — | |
| Dispositions | | | 7 | | | | (8,044 | ) | | | (7 | ) | | | (85 | ) |
| Improvements/betterments | | | 2,925 | | | | 486 | | | | — | | | | — | |
| Designated from REO held for sale | | | 18,337 | | | | — | | | | — | | | | — | |
| Designated to REO held for sale | | | — | | | | (8,929 | ) | | | | | | | | |
| Changes in net book values (NBV) | | | (648 | ) | | | (6,000 | ) | | | — | | | | — | |
| Depreciation | | | (2,339 | ) | | | (1,872 | ) | | | 2,339 | | | | 1,872 | |
| Balance, December 31 | | $ | 181,333 | | | $ | 161,402 | | | $ | 5,926 | | | $ | 3,594 | |
During 2012, the partnership designated four properties to REO held as investment previously designated as REO held for sale.
REO, held as investment, summarized by property type is presented in the following table as of December 31, ($ in thousands).
| | 2012 | | 2011 | |
| | Properties | | NBV | | Properties | | NBV | |
| Property type | | | | | | | | | | |
| Residential | | | | | | | | | | |
Single family (1) | 4 | | $$ | 14,624 | | 2 | | $ | 4,984 | |
| Apartments | 1 | | | 376 | | — | | | — | |
Condominiums (2) | 4 | | | 68,448 | | 3 | | | 65,633 | |
Fractured Condominiums (3) | 10 | | | 72,292 | | 10 | | | 73,262 | |
Commercial (4) | 4 | | | 20,683 | | 3 | | | 12,493 | |
Land (5) | 2 | | | 4,910 | | 2 | | | 5,030 | |
| Total REO, held as investment, net | 25 | | $ | 181,333 | | 20 | | $ | 161,402 | |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 6 – REAL ESTATE OWNED (REO), HELD AS INVESTMENT, NET (continued)
(1) Properties of note at December 31, 2012 include.
A property under construction of two separate units, with a carrying value of $5,000,000 with remaining construction costs of approximately $910,000. At December 31, 2011, the carrying value of the property was $3,148,000 with remaining construction costs of approximately $2,154,000. The property is located in San Francisco, California. A property with 7 remaining of the 13 original tenants-in-common units, with a book value of approximately $6,398,000. The units may be further developed or sold “as is”. At December 31, 2011, the book value of the 9 remaining units was approximately $12,609,000. The property is located in San Francisco, California
(2) Includes units in condominium complexes wholly owned by the partnership.
(3) Includes units in condominium complexes partially owned by the partnership.
(4) Includes one development property located in Long Beach, California, presently zoned and entitled as commercial, being developed and re-entitled to residential. At December 31, 2012 and 2011 the net book value of the property was approximately $8,824,000 and $8,250,000, respectively.
(5) Includes at December 31, 2012 and 2011, approximately 12 acres located in Ceres, California with no zoning restrictions, and 13 acres located in San Rafael, California, presently zoned residential.
REO, held as investment, summarized by geographic area is presented in the following table as of December 31, ($ in thousands).
| | 2012 | 2011 | |
| | Non-Rental | Rental | Non-Rental | Rental | |
| | No. | NBV | No. | NBV | No. | NBV | No. | | NBV | |
| San Francisco | 2 | $ | 11,398 | 5 | $ | 17,962 | 1 | $ | 3,141 | 4 | | $ | 14,235 | |
San Francisco Bay Area (6) | 1 | | 1,210 | 7 | | 22,553 | 1 | | 1,210 | 7 | | | 23,371 | |
Northern California (6) | 2 | | 5,335 | 5 | | 45,480 | 1 | | 3,820 | 4 | | | 45,992 | |
| Southern California | 1 | | 8,824 | 2 | | 68,571 | — | | — | 2 | | | 69,633 | |
| Total REO Held as investment | 6 | $ | 26,767 | 19 | $ | 154,566 | 3 | $ | 8,171 | 17 | | $ | 153,231 | |
(6) Excluding line(s) above.
Rental properties summarized by property type is presented in the following table ($ in thousands).
| | | 2012 | | | 2011 | |
| Property type | | Units | | | Properties | | | NBV | | | Units | | | Properties | | | NBV | |
| Residential | | | | | | | | | | | | | | | | | | |
| Single family | | | 1 | | | | 1 | | | $ | 1,592 | | | | 1 | | | | 1 | | | $ | 1,843 | |
| Apartments | | | 8 | | | | 1 | | | | 376 | | | | — | | | | — | | | | — | |
Condominiums (7) | | | 220 | | | | 4 | | | | 68,447 | | | | 212 | | | | 3 | | | | 65,633 | |
Fractured Condominiums (8) | | | 440 | | | | 10 | | | | 72,292 | | | | 440 | | | | 10 | | | | 73,262 | |
| Commercial | | | 3 | | | | 3 | | | | 11,859 | | | | 3 | | | | 3 | | | | 12,493 | |
| Total rental properties | | | 672 | | | | 19 | | | $ | 154,566 | | | | 656 | | | | 17 | | | $ | 153,231 | |
(8) Includes units in condominium complexes where some units had been sold prior to the partnership’s acquisition.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 6 – REAL ESTATE OWNED (REO), HELD AS INVESTMENT, NET (continued)
The earnings/(loss) from rental operations of the real estate owned, held as investment is presented in the following table for the years ended December 31 ($ in thousands).
| | | 2012 | | | 2011 | |
| Rental income | | $ | 11,557 | | | $ | 8,200 | |
| | | | | | | | | |
| Operating expenses | | | | | | | | |
| Administration and payroll | | | 1,431 | | | | 893 | |
| Homeowner association fees | | | 865 | | | | 381 | |
| Receiver fees | | | 239 | | | | 410 | |
| Utilities and maintenance | | | 1,238 | | | | 930 | |
| Advertising and promotions | | | 128 | | | | 80 | |
| Property taxes | | | 1,849 | | | | 1,278 | |
| Other | | | 280 | | | | 190 | |
| Total operating expenses | | | 6,030 | | | | 4,162 | |
| Net operating income | | | 5,527 | | | | 4,038 | |
| Depreciation | | | 2,328 | | | | 1,831 | |
| Rental operations, net | | $ | 3,199 | | | $ | 2,207 | |
Interest expense on the mortgages securing the rental properties was $2,395,000 and $1,675,000 for 2012 and 2011, respectively.
During the second quarter of 2012, the partnership acquired through foreclosure a partially completed home subdivision in Fresno County, California. The recorded investment was approximately $1,649,000.
In the fourth quarter of 2011, the partnership acquired through foreclosure condominium units (14) in a 41 unit building in San Francisco County, California. The recorded investment was approximately $2,860,000. An independent management firm has been engaged to oversee rental operations of the units.
In the third quarter of 2011, the partnership acquired five properties through foreclosure.
| - | Condominium units (4) in a 37 unit building in Alameda County, California. The recorded investment was approximately $600,000. An independent management firm has been engaged to oversee rental operations of the units. |
| - | Multi-family complex in Sacramento County, California. The partnership acquired 257 of the 280 units. The recorded investment was approximately $41,000,000. The property was subject to a mortgage loan with a balance at acquisition of approximately $13,780,000 and an interest rate of 7.50%. |
| - | Condominium units (15) in a 30 unit complex, in Alameda County, California. The recorded investment was approximately $3,150,000. An independent management firm has been engaged to oversee rental operations of the units. |
| - | Condominium units (29) in a 50 unit complex, in Contra Costa County, California. The recorded investment was approximately $3,190,000. An independent management firm has been engaged to oversee rental operations of the units. |
| - | A 38 unit multi-family complex, in San Joaquin County, California. The recorded investment was approximately $2,505,000. An independent management firm has been engaged to oversee rental operations of the units. |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 6 – REAL ESTATE HELD AS INVESTMENT (continued)
In the second quarter of 2011, the partnership acquired two properties through foreclosure.
| - | Condominium units (3) in a 19 unit building in San Francisco County, California. The recorded investment was approximately $1,362,000. Two of the units are subject to separate mortgages with an aggregate amount owed of $830,000, each with variable interest rates at acquisition between 2.8% and 3.9%, and were assigned to real estate held for sale in the third quarter. The remaining unit, a common storage area and signage rental space, has been assigned to SF Stagehouse Property Company, LLC. |
| - | Condominium units (32) in an 81 unit complex, in Alameda County, California. The recorded investment was approximately $5,000,000. An independent management firm has been engaged to oversee rental operations of the units. |
In the first quarter of 2011, the partnership acquired three properties through foreclosure.
| - | Multi-family complex in Santa Clara County, California. The recorded investment was approximately $8,130,000. The property was subject to an interest-only mortgage loan with a balance at acquisition of approximately $6,800,000 and an interest rate of 6.25%. In June 2011, the property was sold for $8,800,000. |
| - | Condominium units (9) in a 36 unit complex, in Sutter County, California. The recorded investment was approximately $495,000. An independent management firm has been engaged to oversee rental operations of the units. |
| - | Recreation property (45.7 acres) in Amador County, California. The recorded investment was approximately $2,200,000. An independent management firm has been engaged to oversee rental operations of the units. |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 7 – BORROWINGS
Bank loan, secured
In September 2012, the partnership paid all remaining amounts owing under the Bank Loan. The Bank Loan balance was $16,789,000, at December 31, 2011.
The Bank Loan matured on June 30, 2010, which maturity date was subsequently extended to October 18, 2010. As of October 18, 2010, the partnership and the banks entered into the Amended and Restated Loan Agreement. The significant terms and conditions in the amended loan agreement include: 1) an extended maturity date of June 30, 2012 (subsequently extended to November 2012) with continuing scheduled pay downs of the loan amount to maturity; 2) an interest rate of Prime plus 1.5% subject to a floor of 5.0%; 3) an annual facility fee (payable quarterly) of 0.5%; 4) required remittance to the banks of 70% of net proceeds from the sale or refinance of REO and/or net proceeds from loan payoffs in excess of $5 million; 5) required remittance of cash balances in excess of $12 million; 6) restrictions on use of cash including no new loans with the exception of refinance of existing loans, no expenditures in the ordinary course of business to preserve, maintain, repair, or operate property in excess of $1 million without prior written consent (subject to exclusions for funds set aside for REO projects and servicing of senior liens designated in the loan agreement), limitations on distributions to electing limited partners of an amount not to exceed a distribution rate of 2.1%; 7) a collateral covenant, and 8) a financial covenant.
Mortgages payable
Mortgages payable transactions are summarized in the following table for the years ended December 31, ($ in thousands).
| | | 2012 | | | 2011 | |
| Principal, January 1 | | $ | 43,681 | | | $ | 36,270 | |
| New mortgages taken | | | 5,160 | | | | — | |
| Mortgages assumed on acquisition of REO | | | — | | | | 21,523 | |
| Principal repaid | | | (1,548 | ) | | | (14,112 | ) |
| Principal, December 31 | | $ | 47,293 | | | $ | 43,681 | |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 7 – BORROWINGS (continued)
Mortgages payable (continued)
Mortgages payable are summarized in the following table as of December 31, (mortgage balance $ in thousands).
| Lender | | 2012 | | | 2011 | |
| NorthMarq Capital – 2.94% | | $ | 18,607 | | | $ | 19,027 | |
| Interest rate varies monthly (LIBOR plus 2.73%) | | | | | | | | |
Monthly payment (1) (2) $121,904 | | | | | | | | |
| Matures July 1, 2015 | | | | | | | | |
| East West Bank – 5.50% | | | 13,578 | | | | 13,735 | |
| Interest rate varies monthly (greater of Prime plus 1% or 5.50%) | | | | | | | | |
Monthly payment (2) $78,283 | | | | | | | | |
| Matures June 1, 2017 | | | | | | | | |
| Business Partners – 6.53% | | | 7,100 | | | | 7,456 | |
| Interest rate varies monthly (greater of 5-year Treasuries | | | | | | | | |
| plus 2.33% or 6.53% | | | | | | | | |
Monthly payment (1) (2)$78,802 | | | | | | | | |
| Matures May 1, 2015 | | | | | | | | |
| Chase Bank – 3.52% | | | 5,136 | | | | — | |
| Interest rate variable (fixed until September 1, 2017 at 3.52%) | | | | | | | | |
| Monthly payment $23,228 | | | | | | | | |
| Matures September 1, 2042 | | | | | | | | |
| First National Bank of Northern California – 5.70% | | | 2,179 | | | | 2,207 | |
| Interest rate varies monthly (greater of Prime plus 2.35% or 5.70) | | | | | | | | |
Monthly payment (2) $12,856 | | | | | | | | |
| Matures November 1, 2016 | | | | | | | | |
| Wells Fargo Bank – 2.88% | | | 365 | | | | 379 | |
| Interest rate varies annually (LIBOR plus 2.75%) | | | | | | | | |
| Monthly payment $2,014 | | | | | | | | |
| Matures October 1, 2032 | | | | | | | | |
| Wells Fargo Bank – 4.93% | | | 328 | | | | 338 | |
| Interest rate varies annually (internal bank rate plus 3.10%) | | | | | | | | |
| Monthly payment $2,174 | | | | | | | | |
| Matures September 15, 2032 | | | | | | | | |
| Chase Bank – 3.52% | | | — | | | | 432 | |
| Interest rate variable | | | | | | | | |
| Monthly payment $2,728 | | | | | | | | |
| Matures July 1, 2033 | | | | | | | | |
| GMAC | | | — | | | | 107 | |
| Interest rate 7.38% | | | | | | | | |
| Monthly payment $1,154 | | | | | | | | |
| Matures May 1, 2029 | | | | | | | | |
| Total mortgages payable | | $ | 47,293 | | | $ | 43,681 | |
(1) Monthly payments include amounts for various impounds such as property taxes, insurance, and repairs.
(2) Monthly payments based upon a 30 year amortization, with a balloon payment due at maturity.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 7 – BORROWINGS (continued)
Mortgages payable (continued)
During 2012, significant transactions to mortgages payable were as follows.
| - | In June 2012 the partnership and East West bank finalized negotiations and executed a loan agreement to succeed the maturing note. The maturing loan had a balance of $13,681,000, an interest rate of 7.50% and matured on May 5, 2012. |
| - | In August 2012, the partnership obtained a mortgage loan of $5,160,000 from Chase Bank, secured by the multi-family complex held by Diablo Villas, LLC. |
| - | The Chase Bank and GMAC mortgages shown in the above table with zero balances at December 31, 2012, were paid off in full when the properties securing the loans were sold during 2012. |
During 2011, significant transactions to mortgages payable were as follows.
| - | In the third quarter a property in Sacramento County, California was acquired subject to a mortgage with East West Bank. Terms for a new loan with a further maturity date and lower interest rate are being negotiated with the current lender. |
| - | In the second quarter a condominium unit in San Francisco, California was acquired subject to a mortgage with Chase Bank. The property was sold in January 2012 and the mortgage was paid off. |
| - | In the fourth quarter a single-family residence in Humboldt County, California was acquired subject to a mortgage with GMAC. |
| - | In the second quarter the property held by SF Dore, LLC was sold and the related mortgage with PNC Bank was paid off. |
The future minimum payments of principal on the above mortgages at December 31, 2012 are presented in the following table ($ in thousands).
| 2013 | | $ | 1,182 | |
| 2014 | | | 1,239 | |
| 2015 | | | 24,396 | |
| 2016 | | | 2,451 | |
| 2017 | | | 12,860 | |
| Thereafter | | | 5,165 | |
| Total | | $ | 47,293 | |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
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. |
| | - | 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 company does not record its non-impaired loans at fair value on a recurring basis. Impaired loans are measured at fair value on a non-recurring basis. Impaired loans are carried at the lesser of the amount owed or the fair value of the underlying collateral.
Non-recurring basis
Assets and liabilities measured at fair value on a non-recurring basis as of December 31, 2012 are presented in the following table ($ in thousands).
| | | Fair Value Measurement at Report Date Using | |
| | | Quoted Prices | | | Significant | | | | | | | |
| | | in Active | | | Other | | | Significant | | | | |
| | | Markets for | | | Observable | | | Unobservable | | | Total | |
| | | Identical Assets | | | Inputs | | | Inputs | | | as of | |
| Item | | (Level 1) | | | (Level 2) | | | (Level 3) | | | 12/31/2012 | |
| Impaired loans without allowance | | $ | — | | | $ | 9,611 | | | $ | — | | | $ | 9,611 | |
| Impaired loans with allowance, net | | $ | — | | | $ | 21,883 | | | $ | — | | | $ | 21,883 | |
| REO held for sale | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
| REO held as investment | | $ | — | | | $ | — | | | $ | 15,259 | | | $ | 15,259 | |
In 2012, in line with improving volumes of transactions and fewer distressed sales it was determined that sufficient market transactions were occurring to reclassify impaired loans without allowance and impaired loans with allowance, net to Level 2 from Level 3.
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
| | NOTE 8 – FAIR VALUE (continued) |
Non-recurring basis (continued)
Assets and liabilities measured at fair value on a non-recurring basis as of December 31, 2011 are presented in the following table ($ in thousands).
| | | Fair Value Measurement at Report Date Using | |
| | | Quoted Prices | | | Significant | | | | | | | |
| | | in Active | | | Other | | | Significant | | | | |
| | | Markets for | | | Observable | | | Unobservable | | | Total | |
| | | Identical Assets | | | Inputs | | | Inputs | | | as of | |
| Item | | (Level 1) | | | (Level 2) | | | (Level 3) | | | 12/31/2011 | |
| Impaired loans without allowance | | $ | — | | | $ | — | | | $ | 32,363 | | | $ | 32,363 | |
| Impaired loans with allowance, net | | $ | — | | | $ | — | | | $ | 21,598 | | | $ | 21,598 | |
| REO held for sale | | $ | — | | | $ | — | | | $ | 48,406 | | | $ | 48,406 | |
| REO held as investment | | $ | — | | | $ | — | | | $ | 76,096 | | | $ | 76,096 | |
The following methods and assumptions were used to estimate the fair value:
| (a) | Cash and cash equivalents. The carrying amount equals fair value. All amounts, including interest bearing accounts, are subject to immediate withdrawal. |
| (b) | Secured loans. The fair value of the non-impaired loans of $13,688,000 and $6,948,000 at December 31, 2012 and 2011, respectively, was estimated based upon projected cash flows discounted at the estimated current interest rates at which similar loans would be made. |
| (c) | Secured loans - impaired are deemed collateral dependent, and the fair value of the loan is the lesser of the fair value of the collateral (see item (e) below) 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). In some years (notably 2009, 2010 and to a lesser extent 2011 and 2012) due to low levels of real estate transactions, and an increased number of transactions that were distressed (i.e., executed by an unwilling seller – often compelled by lenders or other claimants – and/or executed without broad exposure or with market exposure but with few, if any, resulting offers), more interpretation, judgment and interpolation/extrapolation within and across property types was required (Level 3 inputs). |
| (d) | Unsecured loans. Unsecured loans are valued at their principal less any discount or loss reserves established by management after taking into account the borrower’s creditworthiness and ability to repay the loan. |
| (e) | Real estate owned (REO), net. Real estate acquired in full or partial settlement of loan obligations, generally through foreclosure, is recorded at acquisition at the lower of the recorded investment in the loan, plus any senior indebtedness, or at the property’s 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. |
| (f) | Mortgages payable. The partnership has mortgages payable (see Note 7 Borrowings for details). The interest rates are deemed to be at market rates for the type and location of the securing property, the length of the mortgage, and the other terms and conditions are deemed to be customary. All of the partnership’s mortgages are deemed to be at fair value as they are either, with variable interest rates which have adjusted within the past twelve months, or were refinanced/extended within the past twelve months with terms and conditions deemed customary for the collateral property. |
REDWOOD MORTGAGE INVESTORS VIII
(A California Limited Partnership)
Notes to Consolidated Financial Statements
December 31, 2012 and 2011
NOTE 9 – COMMITMENTS AND CONTINGENCIES, OTHER THAN LOAN COMMITMENTS
Legal proceedings
In the normal course of business, the partnership may become involved in various legal proceedings such as assignment of rents, bankruptcy proceedings, appointment of receivers, unlawful detainers, judicial foreclosure, etc., to enforce the provisions of the deeds of trust, collect the debt owed under the promissory notes, or to protect, or recoup its investment from the real property secured by the deeds of trust and to resolve disputes between borrowers, lenders, lien holders and mechanics. None of these actions typically would be of any material importance. As of the date hereof, the partnership is not involved in any legal proceedings other than those that would be considered part of the normal course of business.
Commitments
At December 31, 2012, there was one property with a carrying value of $5,000,000 in construction with remaining construction costs of approximately $910,000.
NOTE 10 – SUBSEQUENT EVENTS
None
Item 9 – Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
There were no changes in or disagreements with the partnership’s independent registered public accounting firm during the years ended December 31, 2012 and 2011.
Item 9A – Controls and Procedures
Evaluation of Disclosure Controls and Procedures
The partnership carried out an evaluation, under the supervision and with the participation of the general partners of the effectiveness of the design and operation of the partnership’s disclosure controls and procedures (as defined in Rule 13a-15 of the Securities Exchange Act of 1934) as of the end of the period covered by this report. Based upon that evaluation, the general partners concluded the partnership’s disclosure controls and procedures were effective.
General Partners’ Report on Internal Control Over Financial Reporting
The general partners are 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.
The general partners and their respective managements conducted an evaluation of the effectiveness of the partnership’s internal control over financial reporting based on the Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on the results of this evaluation, the general partners concluded the partnership’s internal control over financial reporting was effective as of December 31, 2012.
This annual report does not include an attestation report of the partnership’s independent registered public accounting firm regarding internal control over financial reporting because current law and SEC rules require such attestation reports only for large accelerated filers and accelerated filers (and the partnership, as a smaller reporting company, is not subject to that requirement).
Changes to Internal Control Over Financial Reporting
There have not been any changes in the partnership’s internal control over financial reporting in 2012 that have materially affected, or are reasonably likely to materially affect, the partnership’s internal control over financial reporting.
Item 9B – Other Information
None
Part III
Item 10 – Directors, Executive Officers and Corporate Governance
The partnership has no officers or directors. The general partners are RMC, RMC’s wholly-owned subsidiary Gymno LLC, and Michael R. Burwell, an individual. The general partners are solely responsible for managing the partnership business, subject to the rights of the limited partners to vote on specified matters. Any one of the general partners acting alone has the power and authority to act for and bind the partnership. A majority of the outstanding limited partnership interests may, without the consent of the general partners, vote to: (i) terminate the partnership, (ii) amend the limited partnership agreement, (iii) approve or disapprove the sale of all or substantially all of the assets of the partnership and (iv) remove or replace one or all of the general partners. The approval of all of limited partners is required to elect a new general partner to continue the partnership business where there is no remaining general partner after a general partner ceases to be a general partner other than by removal.
The General Partners
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. acts as the loan broker and servicing agent in connection with loans.
Gymno LLC. Gymno LLC is a California limited liability company formed in 1986 as Gymno Corporation for the purpose of acting as a general partner of this partnership and of other limited partnerships formed by the individual general partners. Gymno is a wholly owned subsidiary of Redwood Mortgage Corp. and Michael R. Burwell is the Manager of Gymno.
Michael R. Burwell. Michael R. Burwell, age 56, Director, Chief Financial Officer, Redwood Mortgage Corp. (1979-present); past member of Board of Trustees and Treasurer, Mortgage Brokers Institute (1984-1986); President, Director, Secretary and Treasurer A & B Financial Services, Inc. (1980-2009); and President, Director, Chief Financial Officer, Secretary and Manager of Gymno LLC (1986-present).
Financial Oversight by General Partners
The partnership does not have a board of directors or an audit committee. Accordingly, the general partners serve 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 partnership does not have an audit committee and the general partners are not independent of the partnership, the partnership does not have an “audit committee financial expert.”
Code of Ethics
The general partners have adopted a Code of Ethics applicable to the general partners and to any agents, employees or independent contractors engaged by the general partners to perform the functions of a principal financial officer, principal accounting officer or controller of the partnership, 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.
Item 11 – Executive Compensation
COMPENSATION OF THE GENERAL PARTNERS AND AFFILIATES BY PARTNERSHIP
As indicated above in Item 10, the partnership has no officers or directors. The partnership is managed by the general partners. There are certain fees and other items paid to management and related parties.
A more complete description of management compensation is found in the partnership’s prospectus dated August 4, 2005, under the section “Compensation of the General Partners and the Affiliates” (pages 23 through 28), which is herein incorporated by reference. Such compensation is summarized below.
I. THE FOLLOWING COMPENSATION HAS BEEN PAID TO THE GENERAL PARTNERS AND/OR THEIR AFFILIATES FOR SERVICES RENDERED DURING THE YEAR ENDED DECEMBER 31, 2012. ALL SUCH COMPENSATION IS IN COMPLIANCE WITH THE GUIDELINES AND LIMITATIONS SET FORTH IN THE PARTNERSHIP AGREEMENT.
| Entity Receiving Compensation | Description of Compensation and Services Rendered | | Amount | |
| RMC (General Partner) | Mortgage Servicing Fee for servicing loans | | $ | 722,000 | |
| | | | | | |
| General Partners &/or Affiliates | Asset Management Fee for managing assets | | $ | 840,000 | |
| | | | | | |
| General Partners | 1% interest in profits (loss) | | $ | (57,000 | ) |
| | Less allocation of syndication costs | | | 4,000 | |
| | | | $ | (53,000 | ) |
| | | | | | |
| General Partners &/or Affiliates | Portion of early withdrawal penalties applied to | | | | |
| | reduce Formation Loan | | $ | 0 | |
II. FEES PAID BY BORROWERS ON MORTGAGE LOANS PLACED WITH THE PARTNERSHIP BY COMPANIES RELATED TO THE GENERAL PARTNERS DURING THE YEAR ENDED DECEMBER 31, 2012 (EXPENSES OF BORROWERS NOT OF THE PARTNERSHIP)
| RMC | Mortgage Brokerage Commissions for services in | | | |
| | connection with the review, selection, evaluation, | | | |
| | negotiation, and extension of the loans paid by the | | | |
| | borrowers and not by the partnership | | $ | 116,000 | |
| | | | | | |
| RMC | Processing and Escrow Fees for services in | | | | |
| | connection with notary, document preparation, credit | | | | |
| | investigation, and escrow fees payable by the borrowers | | | | |
| | and not by the partnership | | $ | 966 | |
| | | | | | |
| Gymno | Reconveyance Fee | | $ | 860 | |
| | | | | | |
III. IN ADDITION, THE GENERAL PARTNERS AND/OR RELATED COMPANIES PAY CERTAIN EXPENSES ON BEHALF OF THE PARTNERSHIP FOR WHICH IT IS REIMBURSED AS NOTED IN THE CONSOLIDATED STATEMENTS OF INCOME DURING THE YEAR ENDED DECEMBER 31, 2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,321,000
Item 12 – Security Ownership of Certain Beneficial Owners and Management, and Related Stockholder Matters
The general partners own an aggregate total of (0.44)% of the partnership and are allocated 1% of income and losses.
Item 13 – Certain Relationships and Related Transactions, and Director Independence
See Note 3 (General Partners and Related Parties) to the financial statements in Part II, item 8, of this report for detailed presentations of transactions and agreements with related parties, which presentations are incorporated by this reference into this Item 13.
Also refer to the partnership’s prospectus, dated August 4, 2005, under the section “Compensation of General Partners and Affiliates” (pages 23 through 28), which is incorporated herein by reference.
For a description of the partnership’s policies and procedures for the review, approval or ratification of related party transactions, refer also to the partnership’s prospectus, dated August 4, 2005 for the discussion under the caption “Compensation of the General Partners and affiliates” beginning on page 23, the discussion under the caption “Conflicts of Interest” beginning on page 28 and the discussion under the captions “Investment Objectives and Criteria – Loans to General Partners and Affiliates” and “Investment Objectives and Criteria – Purchase of Loans From Affiliates and Other Third Parties” on page 42, which is incorporated herein by reference.
Since the partnership does not have a board of directors and since the general partners are not considered independent of the partnership, the partnership does not have the equivalent of independent directors.
Item 14 – Principal Accountant Fees and Services
Fees for services performed for the partnership by the principal accountant for 2012 and 2011 are as follows:
Audit Fees. The aggregate fees billed and accrued during the years ended December 31, 2012 and 2011 for professional services rendered for the audit of the partnership’s annual financial statements included in the partnership’s Annual Report on Form 10-K, review of financial statements included in the partnership’s Quarterly Reports on Form 10-Q and for services provided in connection with regulatory filings were $514,179 and $364,180, respectively.
Audit Related Fees. There were no fees billed during the years ended December 31, 2012 and 2011 for audit-related services.
Tax fees. The aggregate fees billed for tax services for the years ended December 31, 2012 and 2011 were $63,286 and $47,703, respectively. These fees relate to professional services rendered primarily for tax compliance.
All Other Fees. There were no other fees billed during the years ended December 31, 2012 and 2011.
All audit and non-audit services are approved by the general partners prior to the accountant being engaged by the partnership.
Part IV
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 – Consolidated Financial Statements. |
| | 2. | No financial statement schedules are required to be filed because Redwood Mortgage Investors VIII, LP is a smaller reporting company. |
| Exhibit No. | | Description of Exhibits |
| 3.1 | | Limited Partnership Agreement |
| 3.2 | | Form of Certificate of Limited Partnership Interest |
| 3.3 | | Certificate of Limited Partnership |
| 10.1 | | Escrow Agreement |
| 10.2 | | Servicing Agreement |
| 10.3 | (a) | Form of Note secured by Deed of Trust for Construction Loans, which provides for principal and interest payments |
| | (b) | Form of Note secured by Deed of Trust for Commercial and Multi-Family loans which provides for principal and interest payments |
| | (c) | Form of Note secured by Deed of Trust for Commercial and Multi-Family loans which provides for interest only payments |
| | (d) | Form of Note secured by Deed of Trust for Single Family Residential Loans, which provides for interest and principal payments |
| | (e) | Form of Note secured by Deed of Trust for Single Family Residential loans, which provides for interest only payments |
| 10.4 | (a) | Deed of Trust, Assignment of Leases and Rents, Security Agreement and Fixture Filing to accompany Exhibits 10.3 (a), and (c) |
| | (b) | Deed of Trust, Assignment of Leases and Rents, Security Agreement and Fixture Filing to accompany Exhibit 10.3 (b) |
| | (c) | Deed of Trust, Assignment of Leases and Rents, Security Agreement and Fixture Filing to accompany Exhibit 10.3 (c) |
| 10.5 | | Promissory Note for Formation Loan |
| 10.6 | | Agreement to Seek a Lender |
| 10.7 | | Sixth Amended and Restated Loan Agreement. Certain schedules and exhibits to this agreement have not been filed herewith. The Registrant agrees to furnish supplementally a copy of any omitted schedule or exhibit to the Securities and Exchange Commission upon request. |
| 21.1 | | Subsidiaries of Redwood Mortgage Investors VIII |
| 31.1 | | Certification of General Partner pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| 31.2 | | Certification of General Partner pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| 31.3 | | Certification of General Partner pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| 32.1 | | Certification of General Partner pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 32.2 | | Certification of General Partner pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 32.3 | | Certification of General Partner pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 99.1 | | Selected Portions of the Prospectus, dated August 4, 2005 and Supplement No. 6 dated April 28, 2008 |
| 101.INS | * | XBRL Instance Document |
| 101.SCH | * | XBRL Taxonomy Extension Schema Document |
| 101.CAL | * | XBRL Taxonomy Extension Calculation Linkbase Document |
| 101.DEF | * | XBRL Taxonomy Extension Definition Linkbase Document |
| 101.LAB | * | XBRL Taxonomy Extension Label Linkbase Document |
| 101.PRE | * | XBRL Taxonomy Extension Presentation Linkbase Document |
All of the above exhibits, other than exhibits 21.1, 31.1, 31.2, 31.3, 32.1, 32.2, 32.3, 99.1 and 101 exhibits were previously filed as the exhibits to Registrant’s Registration Statement on Form S-11 (Registration No. 333-106900 and incorporated by reference herein), except Exhibit 10.7 is incorporated by reference herein from Exhibit 10.7 to our Form 10-K filed on April 14, 2011.
* XBRL (Extensible Business Reporting Language) information is furnished and not filed herewith, is not a part of a registration statement or Prospectus for purposes of sections 11 or 12 of the Securities Act of 1933, is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, and otherwise is not subject to liability under these sections.
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934 the registrant has duly caused this report to be signed on its behalf by the undersigned, thereto duly authorized on the 29th day of March, 2013.
| REDWOOD MORTGAGE INVESTORS VIII |
| By: | Redwood Mortgage Corp. | |
| | | |
| | By: | /s/ Michael R. Burwell |
| | | Michael R. Burwell, President, |
| | | Secretary/Treasurer |
| | | |
| By: | Gymno LLC, General Partner | |
| | | |
| | By: | /s/ Michael R. Burwell |
| | | Michael R. Burwell, Manager |
| | | |
| | | |
| By: | /s/ Michael R. Burwell | |
| | Michael R. Burwell, General Partner | |
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 29th day of March, 2013.
| /s/ Michael R. Burwell | | | | |
| Michael R. Burwell | | President, Secretary/Treasurer of Redwood Mortgage Corp. (Principal Financial and Accounting Officer); Director of Redwood Mortgage Corp. | | March 29, 2013 |
| /s/ Michael R. Burwell | | | | |
| Michael R. Burwell | | Manager of Gymno LLC | | March 29, 2013 |
| /s/ Michael R. Burwell | | | | |
| Michael R. Burwell | | General Partner | | March 29, 2013 |
