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I am in the process of purchasing a commercial building in…

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I am in the process...
I am in the process of purchasing a commercial building in Lorain Ohio with seller financing. The seller wants to include a promissory cognovit note. I am pretty aware of the potential cons of this note. Is there any way to limit the dangers of this note? I will be setting up a separate llc to buy the building and deed the building with the mortgage and keep this out of my personal liability. If the building mortgage is through an out of state llc....from a state that does not allow cognovit notes such as Indiana...would that disallow the enforcement of a promissory note? Or would the mortgage note have to be signed in Indiana as well?
Submitted: 3 months ago.Category: Real Estate Law
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Answered in 10 hours by:
5/1/2018
Real Estate Lawyer: Attorney Wendy, Lawyer replied 3 months ago
Attorney Wendy
Category: Real Estate Law
Satisfied Customers: 1,423
Experience: Member at Keefer & Keefer LLC
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Hello. My name is ***** ***** I am an attorney. I applaud your caution in entering into one of these notes. As you acknowledge there are serious down sides to these types of notes for the borrower. I will attempt to address all of your questions below:

The law that applies will be determined by several things: (1) if the note identifies the law that governs, that law will typically control; (2) the validity of a note is most often determined by the location/jurisdiction in which the note was signed or with real property the location where the property is located and purchase took place; and (3) where the LLC is located that purchases the property will not normally impact what law applies (see below for possible exception regarding where the note is signed). If the seller/lender and property are located in Ohio, then Ohio is likely the law that will govern as I would expect if the seller is requesting this type of note, it will also require all the paperwork be signed in Ohio in the county where the property is located. BUT if the seller does not require the note be signed in Ohio, there is a way to limit or potentially nullify its impact (again, see below).

Establishing an LLC to separate this business property from your personal assets is a good idea. Nothing is foolproof, but that is a good step. If the seller/lender is not requiring a personal guaranty then this will help limit your liability in the event of default with our without use of the promissory cognovit note to enter and collect on a judgment for that default. This should result - assuming you do not personally sign anything in connection with the purchase but rather sign as a member or manager of the LLC - in the only assets available for collection on that judgment to be the LLC's assets (e.g., the building itself and any other assets the LLC may acquire).

There are some interesting issues that may arise with a cognovit note. Ohio allows them but they can only be enforced in a jurisdiction where the maker (you) resides or where the notes were signed. So, you could attempt to sign everything in Indiana and potentially create a situation where the note is void in Indiana (which it appears it would be according to the case discussed below) and also fails to meet the jurisdictional requirements to be enforced in Ohio. The other situation would be that you sign in Ohio, default on the loan, the seller then attempts to get a judgment using the cognovit note, gets that in Ohio but then has to try to enforce the judgment in Indiana. Here is where the Indiana courts have come down on this issue:

Where the cognovit note is executed is relevant for determining whether Indiana will give a foreign judgment full faith and credit. If the note was executed in Indiana and a judgment is entered based on the cognovit provision in a state that recognizes such provisions, such as Ohio, Indiana will not recognize the foreign judgment. If the cognovit note was executed in Ohio and a judgment is entered in Ohio, then Indiana will give full faith and credit to the Ohio judgment. See, Cox v. First National Bank of Woodlawn, 426 N.E.2d 426, 430 (Ind.App. 1981).

So, it is not the LLC's state of formation or residence, but rather where the note is signed that is important. If the seller will require it be signed in Ohio, then it is likely enforceable. If you are permitted to sign in Indiana, then it may not be. Other things you can consider to reduce the impact of this cognovit note could include clear definitions of exactly what types of default would permit use of the note (e.g., only failure to pay and a payment that is at least xxx days late, only if you are more than one or two or some other number of payments behind, that no default other than failure to pay will permit use of the note, that you are permitted to make partial payments and only if you are at least one full payment behind can the note be used, etc.).

I hope this information helps. If I answered your questions and provided excellent service, I would greatly appreciate your 5 star rating at this time. If you need additional assistance, feel free to reply to this email.

Please note: This information is for educational purposes only and is not legal advice. No course of action is being proposed and no attorney-client relationship or privilege has been formed as a result of this conversation.

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Real Estate Lawyer: Attorney Wendy, Lawyer replied 3 months ago

I just wanted to check in to see if you need any further assistance.

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