Lending to Family Members Prior to, or During, Hawaii Residential Construction

Hawaii family members are often asked to loan one another money to pay for Hawaii residential construction or remodeling. The most common examples are parents lending money to their children. Most times relatives just provide the funding without documentation or security.

Although such showing of trust is admirable the problem is lender is:

  • Left with no real evidence of the loan terms,
  • May suffer adverse tax consequences because the Internal Revenue Service will view the funding as a gift to the home owner because there was no (or below market) interest,
  • Has no security, and
  • Has no priority against Hawaii mechanic’s liens.

To avoid the above we prepare for our clients: (1) a Hawaii promissory note with a reasonable interest rate so as to minimize the chances that the IRS will view the interest as income and the loan as a gift; and (2) a Hawaii mortgage to be recorded on the real estate that has priority against mechanic’s liens and other liens.

Sometimes the relative is being asked to make a loan after “visible commencement of operations” has occurred on the land. Lending during that time is very risky due to the Hawaii mechanic’s and materialman’s statute.

“Visible commencement of operations” means the first actual work of improvement as part of a continuous operation, or the first delivery to the site of materials to be used as part of a continuous operation in the improvement, of such manifest and substantial character as to notify interested persons that the real property is being improved or is about to be improved.

Once “visible commencement of operations” has occurred on the land, any person furnishing labor or material in the improvement of real property shall have a lien upon the improvement as well as upon the interest of the owner of the improvement in the real property upon which the same is situated, or for the benefit of which the same was constructed, for the price agreed to be paid (if the price does not exceed the value of the labor and materials), or if the price exceeds the value thereof or if no price is agreed upon by the contracting parties, for the fair and reasonable value of all labor and materials covered by their contract, express or implied.

The Hawaii mechanic’s and materialman’s lien statute relates to, and takes effect from, the time of the visible commencement of operations for the improvement. It generally ranks equally in priority with all other mechanics’ and materialmen’s liens and has priority over all other liens of any nature, except liens in favor of any branch of the government and mortgages, liens or judgments recorded or filed prior to the time of the visible commencement of operation.

One of the few exceptions to the above is if the mortgage is recorded prior to the date of completion, all or a portion of the money advanced under and secured by the mortgage is thereafter used for the purpose of paying for the improvement, and the mortgage recites that the purpose of the mortgage is to secure the moneys advanced for the purpose of paying for the improvement in whole or in part.

As you can see there are advantages from properly documenting a loan.

Contact our attorneys today. We can prepare the proper paperwork & achieve your goal of helping a relative but, at the same time, better protect yourself.

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