Reg Z & Construction Loans To Family Members
Kent R. Kluver, Senior Attorney, Bankers Systems, Inc.
Question: Please help us resolve this dispute. The question is if a loan should be considered for consumer or commercial purpose for compliance with Regulation Z. The borrower is an individual acting as a builder for his son-in-law. He has previously built two homes for himself. His income, however, is not made as a builder. He works in an unrelated capacity. He is also not making a profit on the construction loan. I think Regulation Z would apply to this loan. Please help.
Answer: Regulation Z applies to any extension of credit that meets all four of the following conditions:
A "creditor" extends the credit.
The credit is extended to a "consumer" (a natural person).
The credit is subject to a finance charge or is payable by a written agreement in more than four installments.
It's probably safe to assume that the first three conditions are not at issue in this case. First, the lender probably meets the definition of "creditor" under Regulation Z (regularly extends credit subject to a finance charge, or in more than four installments, etc.). Second, the question states that the borrower is an individual. Third, the lender is probably imposing a finance charge-if not, call me right away because I'd like a loan like that.
The fourth condition is where the problem lies.
Truth in Lending applies only if the credit is extended primarily for personal, family, or household purposes. This excludes from coverage any credit extended primarily for business, commercial, or agricultural purposes. [Regulation Z, §226.3(a)(1)] If the purpose of the credit is mixed-such as a loan to a farmer to make improvements to his home and to purchase machinery-the issue will be decided based on the primary purpose of the credit. If the credit is primarily for business, commercial, or agricultural purposes, then it will not be subject to Truth in Lending. Unfortunately, neither Regulation Z nor the Commentary specifies how to determine the primary purpose of credit with mixed purposes.
In this case, the factors listed in the question all cut toward the loan being for personal, family, or household purposes. The borrower will use the proceeds for construction of a building for his son-in-law, and the borrower has stated that he will not profit from the transaction. (The question does not specify what type of building the borrower is constructing, but if it is a home, that fact would also cut toward the loan being for personal, family, or household purposes.) Although the borrower has construction experience, his experience is in building homes for himself. This, plus the fact that borrower makes a living doing something other than construction, suggest that he is not a professional contractor or construction worker, which also cuts toward the loan being for personal, family, or household purposes.
Regulation Z also specifically exempts some transactions from coverage. First is an extension of credit to an entity other than a natural person, including credit to government agencies or instrumentalities. [Regulation Z, §226.3(a)(2)] This also is consistent with the fact that only credit extended to "consumers" is subject to TILA. Again, "consumer" is defined as a natural person to whom "consumer credit" is offered or extended. [Regulation Z, §226.2(a)(11)] This exemption does not apply.
A second specific exemption is for credit not secured by real property, or by personal property used or expected to be used as the principal dwelling of the consumer, in which the amount financed exceeds $25,000 or in which there is an express written commitment to extend credit in excess of $25,000. [Regulation Z, §226.3(b)] In other words, if the credit or commitment exceeds $25,000, the exemption applies, unless real property or the consumer's principal dwelling secures the credit. The question isn't clear on this, but it seems likely the credit would be secured by real property.
Finally, Regulation Z provides several more exemptions, none of which is likely to be applicable here. But, here they are, with citations should you want more details: public utility credit [Regulation Z, §226.3(c)]; securities or commodities accounts [Regulation Z, §226.3(d)]; home fuel budget plans [Regulation Z, §226.3(e)]; and student loan programs [Regulation Z, §226.3(f)].
So, although you may be able to make an argument that Regulation Z does not apply, our feeling is that the factors support an opposite conclusion. Also, a good rule of thumb is to assume that Regulation Z applies if there is any doubt.
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