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EXCEL - IDEA: XBRL DOCUMENT - United Development Funding IVFinancial_Report.xls

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K

 

[Mark One]

xANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2014

 

OR

 

¨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: 001-36472

 

United Development Funding IV

(Exact Name of Registrant as Specified in Its Charter)

 

Maryland   26-2775282
(State or other jurisdiction of incorporation or organization)   (I.R.S. Employer Identification No.)

 

1301 Municipal Way, Suite 100, Grapevine, Texas

76051

(Address of principal executive offices)

(Zip Code)

 

Registrant’s telephone number, including area code: (214) 370-8960

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class:   Name of each exchange on which registered:
Common Shares of Beneficial Interest, $0.01 par value per share   NASDAQ Global Select Market

 

Securities registered pursuant to Section 12(g) of the Act:

None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨   No x

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨   No x

 

Indicate by check mark whether the Registrant:  (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.  Yes x   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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x   No  ¨

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, 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 x
Non-accelerated filer  ¨ Smaller reporting company ¨

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes ¨  No x

 

As of June 30, 2014, the last business day of the registrant’s most recently completed second fiscal quarter, the aggregate market value of the common shares of beneficial interest held by non-affiliates of the registrant was $627,542,936.

 

As of March 4, 2015, the Registrant had 30,635,232 common shares of beneficial interest outstanding.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

The registrant incorporates by reference portions of its Definitive Proxy Statement for the 2015 annual meeting of shareholders, which is expected to be filed no later than April 30, 2015, into Part III of this Form 10-K to the extent stated herein.

 

 

 

 
 

  

UNITED DEVELOPMENT FUNDING IV
FORM 10-K
Year Ended December 31, 2014

 

    Page
  PART I  
     
Item 1. Business. 3
Item 1A.   Risk Factors. 20
Item 1B. Unresolved Staff Comments. 42
Item 2. Properties. 42
Item 3. Legal Proceedings. 42
Item 4. Mine Safety Disclosures. 42
     
  PART II  
     
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities. 43
Item 6. Selected Financial Data. 46
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations. 47
Item 7A. Quantitative and Qualitative Disclosures About Market Risk. 67
Item 8. Financial Statements and Supplementary Data. 68
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. 68
Item 9A. Controls and Procedures. 68
Item 9B. Other Information. 69
     
  PART III  
     
Item 10. Directors, Executive Officers and Corporate Governance. 70
Item 11. Executive Compensation. 70
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters. 70
Item 13. Certain Relationships and Related Transactions, and Director Independence. 70
Item 14. Principal Accountant Fees and Services. 70
     
  PART IV  
     
Item 15. Exhibits, Financial Statement Schedules. 71
  Signatures. 72

 

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Forward-Looking Statements

 

This annual report contains forward-looking statements, including discussion and analysis of United Development Funding IV and our subsidiaries, our financial condition, our investment objectives, amounts of anticipated cash distributions to our common shareholders in the future and other matters. Our statements contained in this annual report that are not historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and are the intent, belief or current expectations of our management based on their knowledge and understanding of the business and industry. Words such as “may,” “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “would,” “could,” “should” and variations of these words and similar expressions are intended to identify forward-looking statements. These statements are not guaranties of our future performance and are subject to risks, uncertainties and other factors, some of which are beyond our control, are difficult to predict and could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements.

 

Forward-looking statements that were true at the time made may ultimately prove to be incorrect or false. We caution you not to place undue reliance on forward-looking statements, which reflect our management’s view only as of the date of this Form 10-K. We undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results. Factors that could cause actual results to differ materially from any forward-looking statements made in this Form 10-K include the following:

 

·changes in general economic conditions, the real estate market and the credit market;

 

·increases in development costs that may exceed estimates;

 

·development delays;

 

·increases in interest rates, decreases in residential lot take down or purchase rates;

 

·our borrowers’ inability to sell residential lots;

 

·potential need to fund development costs not completed by the initial borrower or other capital expenditures out of operating cash flows;

 

·economic fluctuations in Texas, where our investments are geographically concentrated;

 

·retention of our senior management team;

 

·changes in property taxes;

 

·legislative and regulatory changes, including changes to laws governing the taxation of real estate investment trusts (“REITs”);

 

·the availability of capital and financing;

 

·restrictive covenants in our credit facilities; and

 

·our ability to remain qualified as a REIT.

 

The forward-looking statements should be read in light of the risk factors identified in the “Risk Factors” section of this Annual Report on Form 10-K.

 

PART I

 

Item 1. Business.

 

General

 

United Development Funding IV (which may be referred to as the “Trust,” “we,” “our,” or “UDF IV”) was organized on May 28, 2008 (“Inception”) as a Maryland real estate investment trust. The Trust is the sole general partner of and owns a 99.999% partnership interest in United Development Funding IV Operating Partnership, L.P. (“UDF IV OP”), a Delaware limited partnership. UMTH Land Development, L.P. (“UMTH LD” or the “asset manager”), a Delaware limited partnership and the affiliated asset manager of the Trust, is the sole limited partner and owner of 0.001% of the partnership interests in UDF IV OP. At December 31, 2014 and 2013, UDF IV OP had no assets, liabilities or equity.

 

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As of December 31, 2014, the Trust owns a 100% limited partnership interest in the following Delaware limited partnerships:

 

·UDF IV Home Finance, L.P. (“UDF IV HF”)
·UDF IV Finance I, L.P. (“UDF IV FI”)
·UDF IV Finance II, L.P. (“UDF IV FII”)
·UDF IV Acquisitions, L.P. (“UDF IV AC”)
·UDF IV Finance III, L.P. (“UDF IV FIII”)
·UDF IV Finance IV, L.P. (“UDF IV Fin IV”)
·UDF IV Finance V, L.P. (“UDF IV Fin V”)
·UDF IV Finance VI, L.P. (“UDF IV Fin VI”)
·UDF IV Finance VII, L.P. (“UDF IV Fin VII”)
·UDF IV Finance VIII, L.P. (“UDF IV Fin VIII”)
·UDF IV Finance IX, L.P. (“UDF IV Fin IX”)

 

As of December 31, 2014, the Trust is the sole member of the following Delaware limited liability companies, each of which, as of December 31, 2014 and 2013, had no assets, liabilities or equity:

 

·UDF IV HF Manager, LLC, the general partner of UDF IV HF
·UDF IV Finance I Manager, LLC, the general partner of UDF IV FI
·UDF IV Finance II Manager, LLC, the general partner of UDF IV FII
·UDF IV Acquisitions Manager, LLC, the general partner of UDF IV AC
·UDF IV Finance III Manager, LLC, the general partner of UDF IV FIII
·UDF IV Finance IV Manager, LLC, the general partner of UDF IV Fin IV
·UDF IV Finance V Manager, LLC, the general partner of UDF IV Fin V
·UDF IV Finance VI Manager, LLC, the general partner of UDF IV Fin VI
·UDF IV Finance VII Manager, LLC, the general partner of UDF IV Fin VII
·UDF IV Finance VIII Manager, LLC, the general partner of UDF IV Fin VIII
·UDF IV Finance IX Manager, LLC, the general partner of UDF IV Fin IX

 

As of December 31, 2014, the Trust owns 100% of the outstanding shares of the following Delaware corporations:

 

·UDF IV LB I, Inc. (“UDF IV LBI”)
·UDF IV LB II, Inc. (“UDF IV LBII”)
·UDF IV Woodcreek, Inc.
·UDF IV LB III, Inc. (“UDF IV LBIII”)
·UDF IV LB IV, Inc. (“UDF IV LBIV”)
·UDF IV LB V, Inc. (“UDF IV LBV”)
·UDF IV TRS-BR1, Inc.

 

The Trust primarily originates, purchases, participates in and holds for investment secured loans made directly by the Trust or indirectly through its affiliates to persons and entities for the acquisition and development of parcels of real property as single-family residential lots or mixed-use master planned residential communities, for the construction of single-family homes and for completed model homes. The Trust also makes direct investments in land for development into single-family lots, home construction and portfolios of finished lots and model homes; provides credit enhancements to real estate developers, home builders, land bankers and other real estate investors; and may purchase participations in, or finance for other real estate investors the purchase of, securitized real estate loan pools and discounted cash flows secured by state, county, municipal or other similar assessments levied on real property. The Trust also may enter into joint ventures with unaffiliated real estate developers, home builders, land bankers and other real estate investors, or with other United Development Funding-sponsored programs, to originate or acquire the same kind of loans or real estate investments the Trust may originate or acquire directly. As of December 31, 2014, 2013 and 2012, our total assets were approximately $682.2 million, $570.9 million and $336.5 million, respectively. For the years ended December 31, 2014, 2013 and 2012, our total interest and non-interest income was approximately $87.9 million, $53.2 million and $27.6 million, respectively, and our net income was approximately $50.1 million, $29.3 million and $13.9 million, respectively.

 

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We made an election under Section 856(c) of the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”), to be taxed as a REIT, beginning with the taxable year ended December 31, 2010, as it was our first year with material operations. As a REIT, we generally are not subject to federal income tax on income that we distribute to our shareholders. If we later fail to qualify as a REIT in any taxable year, we will be subject to federal income tax on our taxable income at regular corporate rates and may not be permitted to qualify for treatment as a REIT for federal income tax purposes for four years following the year in which our qualification is denied unless we are entitled to relief under certain statutory provisions. Such an event could materially and adversely affect our net income. However, we intend to continue to operate so as to remain qualified as a REIT for federal income tax purposes.

 

UMTH General Services, L.P., a Delaware limited partnership (“UMTH GS” or the “Advisor”), is our advisor and is responsible for managing our affairs on a day-to-day basis. UMTH GS has engaged UMTH LD as our asset manager to oversee the investing and financing activities of the affiliated programs managed and advised by the Advisor and UMTH LD. UMTH LD underwrites transactions within the guidelines adopted by the Trust and advises the Trust regarding investments and finance transactions, management, policies and guidelines. UMTH LD reviews for each investment the transaction structure and terms, underwriting, collateral, performance and risk management and also manages our capital structure. Please see “Item 1 – Business – Investment Objectives and Policies – Conflicts of Interestfor a diagram illustrating the relationships between our Advisor and its affiliates. Approximately 16% of our loan portfolio consists of current performing investments with our Advisor and its affiliates. For the years ended December 31, 2014, 2013 and 2012, we paid approximately $11.2 million, $24.4 million and $15.2 million, respectively, to our Advisor and other affiliated entities for fees, expenses and compensation. For the years ended December 31, 2014, 2013 and 2012, we incurred related party expenses (including management fees – related party and general and administrative – related parties) of approximately $9.1 million, $18.1 million and $9.8 million, respectively, with our Advisor and other affiliated entities for fees, expenses and compensation.

 

On November 12, 2009, the Trust’s Registration Statement on Form S-11, covering an initial public offering (the “Offering”) of up to 25,000,000 common shares of beneficial interest to be offered in the primary offering at a price of $20 per share (the “Primary Offering”), was declared effective under the Securities Act of 1933, as amended.

 

The Offering also initially covered up to 10,000,000 common shares of beneficial interest to be issued pursuant to our distribution reinvestment plan (the “DRIP”) for $20 per share (the “Primary DRIP Offering”). We had the right to reallocate the common shares of beneficial interest registered in the Offering between the Primary Offering and the Primary DRIP Offering, and pursuant to Supplement No. 6 to our prospectus regarding the Offering, which was filed with the Securities and Exchange Commission (“SEC”) on May 3, 2013, we reallocated the shares being offered to be 34,000,000 shares offered pursuant to the Primary Offering and 1,000,000 shares offered pursuant to the Primary DRIP Offering.  The shares were offered to investors on a reasonable best efforts basis, which means the dealer manager used its reasonable best efforts to sell the shares offered, but was not required to sell any specific number or dollar amount of shares and did not have a firm commitment or obligation to purchase any of the offered shares. The Offering terminated on May 13, 2013.

 

On April 19, 2013, we registered 7,500,000 additional common shares of beneficial interest to be offered pursuant to the DRIP in a Registration Statement on Form S-3 (File No. 333-188045) for $20 per share (the “Secondary DRIP Offering”).  We ceased offering common shares of beneficial interest under the Primary DRIP Offering upon the termination of the Offering on May 13, 2013, and concurrently began offering our common shares of beneficial interest to our shareholders pursuant to the Secondary DRIP Offering. Effective May 24, 2014, in contemplation of the listing of our shares on The NASDAQ Global Select Market (“NASDAQ”), we suspended our DRIP. On May 30, 2014, in contemplation of the Listing, we announced the termination of our DRIP, effective ten days from the notice of such termination, pursuant to the terms of the DRIP. Upon termination of the DRIP, we ceased offering common shares of beneficial interest pursuant to the Secondary DRIP Offering.

 

On June 4, 2014, we listed our common shares of beneficial interest (the “Listing”) on NASDAQ under the symbol “UDF” and concurrently commenced an offer to purchase up to 1,707,317 common shares of beneficial interest at a price of $20.50 per common share of beneficial interest (the “Tender Offer”). See Note C – Shareholders’ Equity in the accompanying consolidated financial statements for additional discussion of our Tender Offer, which was fully subscribed and completed in July 2014.

 

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On July 25, 2014, at the 2014 Annual Meeting of Shareholders of United Development Funding IV, the shareholders approved an amendment and restatement of our declaration of trust. The amended and restated declaration of trust became effective on July 30, 2014, upon the Trust’s filing of the Third Articles of Amendment and Restatement of Declaration of Trust with the Maryland State Department of Assessments and Taxation. A summary of the changes in the amended and restated declaration of trust was described in the Trust’s definitive proxy statement for the 2014 Annual Meeting of Shareholders filed with the SEC on May 29, 2014.

 

In connection with our Listing and the amendment and restatement of the declaration of trust, our board of trustees approved an amendment and restatement of our bylaws, effective on July 30, 2014, in order to ensure that our bylaws are consistent with other REITs that are listed on a national securities exchange.

 

On August 4, 2014, we filed a Registration Statement on Form S-3 with the SEC that allows us to publicly offer and sell common shares of beneficial interest, preferred shares of beneficial interest and debt securities, from time to time, in one or more future offerings, up to a maximum aggregate offering price of $750 million (the “Shelf Registration”).  The Shelf Registration was declared effective by the SEC on August 27, 2014. As of December 31, 2014, no offerings have been commenced pursuant to the Shelf Registration.

 

On August 4, 2014, we filed Post-Effective Amendment No. 1 (the “Amended Secondary DRIP Offering”) to our Registration Statement on Form S-3 filed on April 19, 2013, in which we originally registered 7,500,000 common shares of beneficial interest to be offered pursuant to our DRIP. Pursuant to our Amended Secondary DRIP Offering, we began offering common shares of beneficial interest pursuant to our new distribution reinvestment plan (the “New DRIP”) in August 2014. The purchase price for shares under the New DRIP is equal to the current market value of our shares, calculated based upon the average of the open and close prices per share on the distribution payment date, as reported by NASDAQ.

 

As of December 31, 2014, we had issued 32,560,470 common shares of beneficial interest pursuant to our Primary Offering, DRIP and New DRIP in exchange for gross proceeds of approximately $651.2 million.

 

Loan Portfolio

 

As of December 31, 2014, we had originated or purchased 171 loans (40 of which were repaid in full by the respective borrowers or matured and were not renewed) with maximum loan amounts of approximately $1.1 billion. As of December 31, 2014, there were approximately $197.6 million of commitments to be funded under the terms of mortgage notes receivable and loan participation interests, which included approximately $19.7 million to related parties. During the years ended December 31, 2014, 2013 and 2012, we originated 29, 47 and 29 loans, respectively, purchased 0, 4 and 3 loans, respectively, and entered into 3, 4 and 2 participation interests, respectively.

 

As of December 31, 2014, approximately 98% of the outstanding aggregate principal of our loans are secured by or related to properties located throughout Texas and approximately 1% of our real property loans and investments are secured by properties located in Florida. In addition, we have one real property loan secured by property in South Carolina and one real property loan secured by property in North Carolina which, collectively, represent approximately 1% of our real property loans and investments. As of December 31, 2014, approximately 67% of the outstanding aggregate principal amount of our loans are secured by properties located in the Dallas, Texas area; approximately 13% are secured by properties located in the Austin, Texas area; approximately 8% are secured by properties located in the Houston, Texas area; approximately 9% are secured by properties located in the San Antonio, Texas area; and approximately 1% are secured by properties located in the Lubbock, Texas area.

 

We did not have any individual loans to borrowers that accounted for over 10% of the outstanding balance of our portfolio as of December 31, 2014. Our largest individual borrower and its affiliates comprised approximately 61% of the outstanding balance of our portfolio.

 

As of December 31, 2014, interest rates ranged from 12% to 15% on the outstanding participation agreements and from 11% to 15% on the outstanding notes receivable, including notes receivable from related parties. The participation agreements have terms ranging from 3 to 32 months, while the notes receivable have terms ranging from 6 to 84 months.

 

For a summary of the collateral associated with our outstanding loans as of December 31, 2014, see “Item 1 – Business – Investment Objectives and Policies – Security” below.

 

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Investment Objectives and Policies

 

Principal Investment Objectives

 

Our principal investment objectives are: 

·to make, originate or acquire a participation interest in secured loans (first lien priority, junior lien priority and mezzanine loans secured by real estate and/or a pledge of the equity interest in the entity owning the real estate and/or pledges of other collateral including personal guarantees) for the acquisition of land and development of single-family lots, and the construction of model and new single-family homes, including development of mixed-use master planned residential communities, typically with the loan allocation for any single asset in the range of $2.5 million to $15.0 million;
·to make direct investments in land for development into single-family lots, new and model homes and finished lots and homes and joint ventures with real estate developers, homebuilders, land bankers and other real estate investors;
·to provide secured senior and subordinate lines of credit to real estate developers, homebuilders, land bankers and other real estate investors, including affiliated programs, for the purchase of finished lots and for the construction of single-family homes;
·to provide credit enhancements to real estate developers, homebuilders, land bankers and other real estate investors who acquire real property, subdivide real property into single-family residential lots, acquire finished lots and/or build homes on such lots;
·to purchase participations in, or finance for other real estate investors the purchase of, securitized real estate loan pools;
·to purchase participations in, or finance for other real estate investors the purchase of, discounted cash flows secured by state, county, municipal or other similar assessments levied on real property;
·to produce net interest income from the interest paid to us on secured loans, securitized loan pools and discounted cash flows that we originate, purchase or finance or in which we acquire a participation interest;
·to produce investment income from equity investments that we make or in which we acquire a participation interest;
·to produce a profitable fee from credit enhancements and other transaction fees;
·to participate, through a direct or indirect interest in borrowers, in the profits earned by such borrowers through the underlying properties;
·to maximize distributable cash to investors; and
·to preserve, protect and return capital contributions.

 

Investment Policy

 

We derive a significant portion of our income by originating, purchasing, participating in and holding for investment secured loans made directly by us or indirectly through our affiliates to persons and entities for the acquisition and development of parcels of real property as single-family residential lots, and the construction of model and new single-family homes, including development of mixed-use master planned residential communities, typically with the loan allocation for any single asset in the range of $2.5 million to $15.0 million. In most cases, we obtain a first or subordinate lien on the underlying real property to secure our loans (mortgage loans), and we also may require a pledge of all of the equity ownership interests in the borrower entity itself as additional security for our loans. In instances where we do not have a lien on the underlying real property, we may obtain a pledge of all of the equity ownership interests of the borrower entity itself to secure such loans and/or a pledge of the equity ownership interests of the borrower entity (so-called “mezzanine loans”) or other parent entity that owns the borrower entity. We also may require a pledge of additional assets of the borrower, liens against additional parcels of undeveloped and developed real property and/or the personal guarantees of principals or guarantees of operating entities in connection with our secured loans. We apply the same underwriting criteria and analysis of the underlying real property to each of our secured loans, regardless of how we decide to structure the secured loan. Our intention is to structure a majority of our loans so that they are treated as a real estate asset, giving rise to interest on an obligation secured by an interest in real property for REIT qualification purposes.

 

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In addition to our investments in secured loans, we may make direct investments in land for development into single-family lots, new and model homes and finished lots and homes; however, we will not independently develop land or construct homes. In cases where we invest in land for the purpose of development, we may engage an unaffiliated third-party developer, and we may bear the cost of development and/or fund construction costs. When we acquire properties, we most often do so through a special purpose entity formed for such purpose or a joint venture formed with a single-family residential developer, homebuilder, real estate developer or other real estate investor, with us providing equity and/or debt financing for the newly-formed entity. In limited circumstances, and in accordance with the federal tax rules for REITs and the exemptions from registration under the Investment Company Act of 1940, as amended (the “Investment Company Act”), we may make equity investments through special purpose entities in land for development into single-family lots, new and model homes and finished lots. We also may enter into joint ventures with unaffiliated real estate developers, homebuilders, land bankers and other real estate investors, or with other United Development Funding-sponsored programs, to originate or acquire, as the case may be, the same kind of secured loans or real estate investments we may originate or acquire directly.

 

We also seek an increased return by entering into participation agreements with real estate developers, homebuilders or real estate investors or joint venture entities, or by providing credit enhancements for the benefit of other entities that are associated with residential real estate financing transactions. The participation agreements and credit enhancements may come in a variety of forms; participation agreements may take the form of profit agreements, ownership interests and participating loans, while credit enhancements may take the form of guarantees, pledges of assets, letters of credit and inter-creditor agreements. We also provide secured senior and subordinate lines of credit to real estate developers, homebuilders, land bankers and other real estate investors, including other United Development Funding-sponsored programs, for the purchase of finished lots and for the construction of single-family homes.

 

In the typical transaction in which we provide a credit enhancement to a borrower with respect to a loan from a third party, we expect to charge such borrower a credit enhancement fee of 1% to 7% of the projected maximum amount of our outstanding credit enhancement obligation for each 12-month period such obligation is outstanding, in addition to any costs that we may incur in providing the credit enhancement to the borrower. We cannot assure investors that we will obtain a 1% to 7% credit enhancement fee. The actual amount of such credit enhancement fee will be based on the risk perceived by our Advisor to be associated with the transaction, the value of the collateral associated with the transaction, our security priority as to the collateral associated with the transaction, the form and term of the credit enhancement, and our overall costs associated with providing the credit enhancement. Higher risks and increased costs associated with providing the credit enhancement may result in the charging of a higher credit enhancement fee. Federal tax laws applicable to REITs also may limit our ability to charge credit enhancement fees unless we make our credit enhancements through a taxable REIT subsidiary (“TRS”).

 

Furthermore, we may purchase participations in, or finance for other real estate investors, the purchase of securitized real estate loan pools, including pools originated by our affiliates. Typically, real estate lenders wishing to create liquidity will pool loans and sell participations in the pools priced in accordance with the seniority in payment of each level or “tranche” of participation. We will seek yields and priority in accordance with our risk profile and return expectations. If we invest in securitized real estate loan pools originated by our affiliates, such investments must be approved by a majority of our trustees (including a majority of our independent trustees) not otherwise interested in the transaction as being fair and reasonable to us and on terms and conditions not less favorable to us than those available from unaffiliated third parties. In addition, the price must be based on the fair market value of the assets, as determined by an independent expert selected by a majority of our independent trustees.

 

We also may purchase participations in discounted cash flows secured by state, county, municipal or similar assessments levied on real property. In certain geographic areas, developers use a form of state, county, municipal or similar assessment-based financing to pay for development infrastructure. The development entity is empowered to levy and collect an assessment on real property to repay the cost of the designated improvements. Developers wishing to create liquidity will discount and sell the future revenue stream associated with the levy. We will seek yields and priority in accordance with our risk profile and return expectations.

 

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We concentrate our investments on single-family lot developers who sell their lots to national, regional and local homebuilders for the acquisition of property and the development of residential lots, as well as homebuilders for the construction of single-family homes. We target as a primary development market lots that are under contract to national or regional affordable housing builders, as well as targeting homebuilders themselves for the construction of single-family homes. We generally seek to finance projects where the completed subdivision will consist of homes priced at or below the “conforming loan” limits for the specific geographic region. Conforming loans are loans that are eligible for purchase in the secondary market by government sponsored agencies or insured by an agency of the United States (“U.S.”) government. Generally, conforming loan limits are approximately 150% of the median home price of the respective housing market, adjusted for the specific market. The conforming loan limits are subject to change by law or regulation. We expect most of these homes will be targeted for the first time home buyer or, for the higher priced homes, persons moving from their first, or “starter,” homes to slightly more upscale homes, the so-called “move-up” home buyers. The housing development projects may also include large-scale planned communities, commonly referred to as “master planned communities,” that provide a variety of housing choices, including choices suitable for first time home buyers and move-up home buyers, as well as homes with purchase prices exceeding the conforming loan limits.

 

We anticipate that the developments that secure our loans and investments will consist of both single-phase and, where larger parcels of land are involved, multi-phase projects and will be subject to third-party land acquisition and development loans representing approximately 60% to 75% of total project costs. These loans will have priority over the loans that we originate or buy, which we expect will represent approximately 15% to 30% of total project costs; however, we will not invest in any property in which the total amount of all secured loans outstanding on such property, including our loans with respect to the property, exceeds 85% of the appraised improved value of the property, unless substantial justification exists because of the presence of other underwriting criteria. In each instance, we will require the borrower to cover at least 10% of the total project costs with its own equity investment, which may be in the form of cash, additional collateral or value-add improvements. We will oftentimes subordinate our loans to the terms of indebtedness from other lenders relating to the subject real property to allow our borrowers to avail themselves of additional land and lot acquisition and development financing at a lower total cost to the borrower than the cost of our loan, although we will not subordinate our loans to any debt or equity interest of our Advisor, our sponsor or any of our trustees, or any of our affiliates. The use of third-party leverage, typically senior bank debt, at favorable rates allows borrowers to reduce their overall cost of funds for lot and land acquisition, community development or home construction by combining our funds with lower-cost debt. Projects that fail to meet timing projections will increase the borrowers’ overall cost of funds because the borrower will be carrying debt and incurring interest for a longer period than anticipated. Conversely, borrowers whose lots, land and homes are sold or otherwise disposed of ahead of schedule may benefit from a lower overall cost of funds.

 

In addition to the risk that a borrower’s activities to build homes or develop the subject parcels will not be successful or will exceed the borrower’s budget, we believe that we will be subject to market-timing risk, or the risk that market conditions will adversely impact the borrower’s ability to sell the home or developed lots at a profit. Economic issues affecting the new home sales market, such as interest rates, employment rates, population growth, migration and immigration, as well as home ownership rates and household formation trends, will affect the demand for homes and lots, and therefore also impact the likelihood that a developer or homebuilder will be successful. Some of the risks inherent with development and construction financing include: (1) the availability of home mortgage loans and the liquidity of the secondary home mortgage market; (2) the availability of commercial land acquisition and development loans and the corresponding interest and advance rates; (3) the stability of global capital and financial institution markets; (4) the need to contribute additional capital in the event the market softens and the developer or homebuilder requires additional funding; (5) the reduction of the developer’s or homebuilder’s incentive if the developer’s or homebuilder’s profits decrease, which could result in both capital advanced and marketing time increases; and (6) the possibility, in those situations, that our returns will be less than our projected returns.

 

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Our real estate loan and investment model differs from traditional models primarily due to our “actively managed portfolio” approach. UMTH LD, as our asset manager, will identify and underwrite real estate professionals in each region or, in some cases, each sub-market in which we invest, and it will utilize these proprietary strategic partner relationships to actively manage each loan or investment. In some cases, this may involve developing relationships with strategic partners in correcting markets, who may be able to provide us with knowledge, a presence and access to investment opportunities. Large institutional investors generally rely on investments meeting initial expectations and, when market conditions negatively impact the performance of their investments, find themselves in need of asset managers or, in some cases, must liquidate investments below their initial return expectations. The inability of some homebuilders and developers to obtain financing through traditional sources may cause homebuilders and developers to seek additional financing from entities with cash, which may include us. Therefore, we will look to purchase investments at a discount when such opportunities are presented. We believe that our strategic partner relationships will help us to identify such potentially beneficial investments.

 

Our loans and investments are underwritten, in part, on the basis of an assessment by our asset manager of its ability to execute on possible alternative development and exit strategies in light of changing market conditions. We believe there is significant value added through the use of an actively managed portfolio investment model. We manage our investment portfolio in the context of both the development lifecycle and changing market conditions in order to ensure that our assets continue to meet our investment objectives and underwriting criteria.

 

Security

 

As of December 31, 2014, 90% of our loans were secured by multiple security interests or a security interest and a repayment guaranty. Additional security interests for our loans include reimbursements of development costs due to the developer being under contract with districts or municipalities, pledges of equity interests (generally, partnership interests or limited liability company interests, as applicable) that are documented by pledge agreements, assignments of equity interests, assignments of distributions from equity interests, assignments of lot sale contracts, cross collateralization agreements and subordinate deeds of trust. We also utilize guarantees to secure our loans.

 

The table below represents the primary form of security and the approximate associated loan balance for each of our loans for the period indicated.

 

   As of December 31, 2014 
Primary Security  # of
Loans
   Loan Balance   % of
Total
Loan
Balance
 
Parcels of land under development or to be developed   53   $269,026,000    43%
Finished lots   42    79,844,000    13%
Parcels of land under development or to be developed and finished lots   18    130,130,000    21%
Model and single-family homes   5    52,827,000    9%
Pledge of equity interests in borrower or borrower affiliate   8    46,457,000    7%
Reimbursements of development costs   4    28,222,000    5%
Unsecured   1    11,500,000    2%
TOTAL   131   $618,006,000    100%

 

In addition to the primary form of security identified above, each of our outstanding loans may be secured by other forms of collateral, as reflected in the information below, as of December 31, 2014:

 

·90 loans, representing approximately 62% of the aggregate principal amount of the outstanding loans, include a first lien on the respective property as security for the loan;
·41 loans, representing approximately 43% of the aggregate principal amount of the outstanding loans, include a second lien on the respective property as security for the loan;

 

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·23 loans, representing approximately 20% of the aggregate principal amount of the outstanding loans, include a pledge of some or all of the equity interests in the developer entity or other parent entity that owns the borrower entity as security for the loan;
·33 loans, representing approximately 41% of the aggregate principal amount of the outstanding loans, include reimbursements of development costs due to the developer under contracts with districts and municipalities as security for the loan;
·108 loans, representing approximately 73% of the aggregate principal amount of the outstanding loans, include a guarantee of the principals or parent companies of the borrower as security for the loan.

 

If there is no third-party financing for a development project, we expect that our lien on the subject parcels will be a first priority lien. If there is third-party financing, we expect our lien on the subject parcels will be subordinate to such financing. We will enter each loan prepared to assume or retire any senior debt, if necessary to protect our capital. We will seek to enter into agreements with third-party lenders that will require the third-party lenders to notify us of a default by the borrower under the senior debt and allow us to assume or retire the senior debt upon any default under the senior debt.

 

Mortgage notes that are secured only by a pledge of ownership interests may not be as valuable as notes secured by a first lien if a loan defaults, as there may be liens on the property and the borrower’s only source of cash flow and only asset may be the property itself. Most of our real estate loans, including loans made to entities affiliated with our Advisor, have the benefit of guarantees of the borrower and/or its parent company and pledges of additional assets of the borrower. The parent company of the borrower may own no assets other than its equity interest in the borrower and equity interest of other subsidiaries of the parent company.  The parent company guarantees are not secured by the assets of the parent company or the assets of other subsidiaries of the parent company or its affiliates.  Thus, we do not attribute any financial value to the parent company’s guarantees in our underwriting process.  The use of pledges of ownership interests allows us to more quickly obtain ownership of a property when the borrower has defaulted on a loan, thus allowing us to more quickly determine future actions regarding the property. Where the borrower owns more than one property, the use of pledges may provide us with additional sources of repayment. In addition, loans made to the same borrower or related borrowers may be cross-collateralized, unless cross-collateralization is prohibited by the borrowers senior lender or the investors in the related borrowers are materially different.

 

We obtain an appraisal in conjunction with the initial underwriting and origination of each loan in our portfolio. In some cases, we may use an appraisal that has been prepared for another third-party lender, such as a commercial bank. We are not required to reappraise any individual asset; however, we generally will obtain an updated appraisal within 36 months from the date we originate our loan. We expect that the new appraisals we obtain will cover the next section of the project to be developed. We actively manage our portfolio, reviewing development timelines and budgets, market absorption rates and trends, lot and land prices, homebuilder performance and third-party market studies to evaluate the value of our collateral on a real time and continuous basis.

 

Underwriting Criteria

 

We have developed general and asset specific underwriting criteria for the loans and investments that we originate and purchase. In most cases, we obtain a first or subordinate lien on the underlying real property to secure our loans (mortgage loans), and we also may require a pledge of all of the equity ownership interests in the borrower entity itself as additional security for our loans. In instances where we do not have a lien on the underlying real property, we may obtain a pledge of some or all of the equity ownership interests of the borrower entity itself to secure such loans and/or a pledge of the equity ownership interests of the borrower entity or other parent entity that owns the borrower entity (so-called “mezzanine loans”). We also may require a pledge of additional assets of the borrower, liens against additional parcels of undeveloped and developed real property and/or the personal guarantees of principals or guarantees of operating entities in connection with our secured loans. We typically originate loans bearing interest at rates ranging from 10% to 18% per annum. Loans secured by a first or senior lien generally bear interest from 10% to 18%, further dependent on the amount of all secured loans on the property, creditworthiness of the borrower, the term of the loan and the presence of additional guarantees and/or pledges of additional collateral. Land acquisition loans, finished lot loans and construction loans are generally first-lien secured. Loans secured by subordinate or junior liens or pledges of equity ownership interests generally bear interest from 13% to 18%, further dependent on the amount of all secured loans on the property, creditworthiness of the borrower, the term of the loan and the presence of additional guarantees and/or pledges of additional collateral. Loans for development of real property as single-family residential lots are generally subordinate to conventional third-party financing. We currently do not have a policy that establishes a minimum or maximum term for the loans we may make, nor do we intend to establish one. Loans typically are structured as interest-only notes with balloon payments or reductions to principal tied to net cash from the sale of developed lots and finished homes with the release formula created by the senior lender, i.e., the conditions under which principal is repaid to the senior lender, if any. We will not make or invest in loans on any one property if the aggregate amount of all secured loans on such property, including loans from us, exceeds an amount equal to 85% of the appraised value of such property, unless our board of trustees, including a majority of our independent trustees, determines that substantial justification exists for exceeding such limit because of the presence of other underwriting criteria. We may buy or originate loans in any of the 48 contiguous United States.

 

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Credit Underwriting

 

We are primarily an asset-based lender and as such our loans are underwritten based on collateral value. The creditworthiness of our borrower and the presence of personal guarantees both influence the amount of money we will agree to advance to the borrower and the interest rate we will charge the borrower.

 

Asset Specific Underwriting Criteria

 

The following is a general description of our underwriting criteria with respect to the various types of real estate investments we make and loans we originate or acquire. Origination fees and interest rates charged to borrowers are determined based on collateral, credit repayment guarantees and competition in the credit markets. The term of the loan represents the typical initial term of a loan, without regard to subsequent extensions. Combined loan-to-value ratio is the aggregate of all loan balances, senior and subordinated, divided by the appraised value of the property. Substantial justification to exceed an 85% loan-to-value ratio may exist because of the presence of other underwriting criteria such as the net worth of the borrower, the credit rating of the borrower based on historical financial performance, or collateral adequate to justify a waiver of the 85% limitation. In addition, the 85% limitation may be exceeded where mortgage loans are or will be insured or guaranteed by a government or government agency; where the loan is secured by the pledge or assignment of other real estate or another real estate mortgage; where rents are assigned under a lease where a tenant or tenants have demonstrated through historical net worth and cash flow the ability to satisfy the terms of the lease, or where similar criteria is presented satisfactory to the official or agency administering the securities laws of a jurisdiction. Leverage refers to the maximum aggregate asset-specific indebtedness provided by unaffiliated third parties with respect to a specific asset and is expressed as a percentage of either cost or appraised value. A tri-party agreement refers to agreements between the senior and subordinate lenders that set forth the rights and obligations amongst and between the parties, and pursuant to which the subordinate lender may assume or purchase the senior indebtedness in the event of a default by the borrower.

 

In addition to the types of real estate investments described below, our board of trustees has approved one builder equity loan as of December 31, 2014, to BRHG TX-I, LLC (“BRHG”), an affiliated party, for the purpose of partially financing the acquisition by BRHG of Scott Felder Homes, a homebuilder operating in the Austin and San Antonio, Texas markets. This loan is not secured by real estate or by a pledge of the equity interest in the borrower. For further discussion of the loan to BRHG, see Note I to the accompanying consolidated financial statements.

 

Loans 

 

·Senior and Subordinated Secured Land Acquisition Loans
   
·Asset: land designated for development into residential lots (in certain instances, this may include ancillary commercial land)
·Liens: first liens, junior liens and/or pledges of all of the equity interests of the entity holding title to the subject property, including without limitation personal and entity guarantees and additional pledges of cash, revenue streams, municipal reimbursements or property
·Term: 12 to 24 months
·Combined Loan-to-Value Ratio: not to exceed 85% of appraised value unless substantial justification exists because of the presence of other underwriting criteria
·Leverage: third-party indebtedness up to 65% of the cost of the land

 

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·Title Insurance: mortgagee’s title policy required on all senior and junior liens and owner’s title policy required on pledges of equity interests
·Tri-Party Agreement: required if loan is subordinated to third-party lender

·Senior and Subordinated Secured Development Loans
·Asset: land under development into residential lots and all improvements thereon
·Liens: first liens, junior liens and/or pledges of all of the equity interests of the entity holding title to the subject property, including without limitation personal and entity guarantees and additional pledges of cash, revenue streams, municipal reimbursements or property
·Term: 18 to 48 months
·Combined Loan-to-Value Ratio: not to exceed 85% of appraised value unless substantial justification exists because of the presence of other underwriting criteria
·Leverage: third-party senior indebtedness up to 75% of the cost of land and improvements
·Title Insurance: mortgagee’s title policy required on all senior and junior liens and owner’s title policy required on pledges of equity interests
·Tri-Party Agreement: required if loan is subordinated to third-party lender

·Senior and Subordinated Secured Finished Lot Loans
·Asset: finished residential lots
·Liens: first liens, junior liens and/or pledges of all of the equity interests of the entity holding title to the subject property, including without limitation personal and entity guarantees and additional pledges of cash, revenue streams, municipal reimbursements or property
·Term: 12 to 36 months
·Combined Loan-to-Value Ratio: not to exceed 85% of appraised value unless substantial justification exists because of the presence of other underwriting criteria
·Leverage: third-party senior indebtedness up to 75% of the appraised value of the finished lots
·Title Insurance: mortgagee’s title policy required on all senior and junior liens and owner’s title policy required on pledges of equity interests
·Tri-Party Agreement: required if loan is subordinated to third-party lender

·Senior and Subordinated Secured Model Home Loans
·Asset: finished model homes
·Liens: first liens, junior liens and/or pledges of all of the equity interests of the entity holding title to the subject property, including without limitation personal and entity guarantees and additional pledges of cash, revenue streams, municipal reimbursements or property
·Term: 12 to 36 months
·Combined Loan-to-Value Ratio: not to exceed 85% of appraised value unless substantial justification exists because of the presence of other underwriting criteria
·Leverage: third-party senior indebtedness up to 80% of the appraised value of the model homes
·Title Insurance: mortgagee’s title policy required on all senior and junior liens and owner’s title policy required on pledges of equity interests
·Other: assignment of model home lease
·Tri-Party Agreement: required if loan is subordinated to third-party lender

·Senior and Subordinated Secured Construction Loans

·Asset: residential lots with homes under construction
·Liens: first liens, junior liens and/or pledges of all of the equity interests of the entity holding title to the subject property, including without limitation personal and entity guarantees and additional pledges of cash, revenue streams, municipal reimbursements or property
·Term: 12 months
·Combined Loan-to-Value Ratio: not to exceed 85% of appraised value
·Leverage: third-party senior indebtedness up to 90% of the cost of the lots and homes
·Title Insurance: mortgagee’s title policy required on all senior and junior liens and owner’s title policy required on pledges of equity interests
·Tri-Party Agreement: required if loan is subordinated to third-party lender

·Senior Lines of Credit for Finished Lots
·Asset: finished residential lots

 

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·Liens: first liens and/or pledges of all of the equity interests of the entity holding title to the subject property, including without limitation personal and entity guarantees and additional pledges of cash, revenue streams, municipal reimbursements or property
·Term: 12 to 36 months
·Loan-to-Value Ratio: not to exceed 85% of appraised value unless substantial justification exists because of the presence of other underwriting criteria
·Leverage: third-party senior indebtedness up to 90% of the appraised value of the finished lot
·Title Insurance: mortgagee’s title policy required
·Other: earnest money deposit, option fees and/or letters of credit supporting lot purchase contracts
·Senior Lines of Credit for Home Construction
·Asset: residential lots with homes under construction
·Liens: first liens and/or pledges of all of the equity interests of the entity holding title to the subject property, including without limitation personal and entity guarantees and additional pledges of cash, revenue streams, municipal reimbursements or property
·Term: 12 months
·Loan-to-Value Ratio: not to exceed 85% of appraised value
·Leverage: third-party senior indebtedness up to 90% of the cost of the lots and homes
·Title Insurance: mortgagee’s title policy required
·Subordinate Lines of Credit for Finished Lots
·Asset: finished residential lots
·Liens: junior liens and/or pledges of all of the equity interests of the entity holding title to the subject property, including without limitation personal and entity guarantees and additional pledges of cash, revenue streams, municipal reimbursements or property
·Term: 12 to 36 months
·Combined Loan-to-Value Ratio: not to exceed 85% of appraised value unless substantial justification exists because of the presence of other underwriting criteria
·Leverage: third-party senior indebtedness up to 75% of the appraised value of the finished lots
·Title Insurance: mortgagee’s title policy required on all senior and junior liens and owner’s title policy required on pledges of equity interests
·Other: earnest money deposit, option fees or letters of credit supporting lot purchase contracts
·Tri-Party Agreement: required if loan is subordinated to third-party lender
·Subordinate Lines of Credit for Home Construction
·Asset: residential lots with homes under construction
·Liens: junior liens and/or pledges of all of the equity interests of the entity holding title to the subject property, including without limitation personal and entity guarantees and additional pledges of cash, revenue streams, municipal reimbursements or property
·Term: 12 months
·Combined Loan-to-Value Ratio: not to exceed 85% of appraised value unless substantial justification exists because of the presence of other underwriting criteria
·Leverage: third-party senior indebtedness up to 90% of the cost of the lots and homes
·Title Insurance: mortgagee’s title policy required on all senior and junior liens and owner’s title policy required on pledges of equity interests
·Tri-Party Agreement: required if loan is subordinated to third-party lender

 

Real Estate Investments

 

·Land Investments
·Asset:  land designated for development and land under development into residential lots
·Ownership: fee simple to us, our wholly-owned subsidiary or co-venturer entity designated for ownership of property
·Term: 12 to 60 months
·Leverage: third-party senior indebtedness up to 75% of the cost of the land
·Title Insurance: owner’s title policy required
·Model Home and Finished Home Investments

 

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·Asset: finished model homes
·Ownership: fee simple to us, our wholly-owned subsidiary or co-venturer entity designated for ownership of property
·Term: 24 to 36 months
·Leverage: third-party senior indebtedness up to 90% of the appraised value of the lots and homes
·Title Insurance: owner’s title policy required
·Finished Lot Investments
·Asset: finished residential lots
·Ownership: fee simple to us, our wholly-owned subsidiary or co-venturer entity designated for ownership of property
·Term: 24 to 36 months
·Leverage: third-party senior indebtedness up to 80% of the appraised value of the finished lots
·Title Insurance: owner’s title policy required
·Purchase of Discounted Cash Flow
·Asset: state, county, municipal or other similar assessments levied on real property
·Ownership: through assignment or purchase of debt instrument to us, our wholly-owned subsidiary or co-venturer entity designated for ownership
·Term: indeterminate
·Leverage: the appraised value of the finished lots up to 90% of the cost of the asset

 

Credit Facilities

 

As of December 31, 2014, we have entered into various credit facilities with an aggregate outstanding balance of $120,238,000. See Note F to the accompanying consolidated financial statements for a description of the credit facilities in effect as of December 31, 2014.

 

Credit Enhancements

 

Credit enhancements are underwritten in the same manner as our other real estate investments. The collateral, term, leverage, rates and guarantee criteria will follow the applicable land, development, finished lot or construction loan terms.

 

Borrowing Policies

 

There is no limitation on the amount we may borrow for the purchase or origination of a single secured loan, the purchase of an individual property or any other investment. Our board of trustees has adopted a policy to generally limit our borrowings to 50% of the aggregate fair market value of our assets unless substantial justification exists that borrowing a greater amount is in our best interests. We have incurred indebtedness in the form of revolving credit facilities permitting us to borrow up to an agreed-upon outstanding principal amount. Such debt is and will continue to be secured by a first priority lien upon all of our existing and future acquired assets. See Note F in the accompanying consolidated financial statements for further discussion of our notes payable and lines of credit.

 

Disposition Policies

 

If we acquire real properties, as each of those properties reach what we believe to be its optimum value, we may consider disposing of the investment for the purpose of either distributing the net sale proceeds to our shareholders or investing the proceeds in other assets that we believe may produce a higher overall future return to our shareholders. The determination of when a particular investment should be sold or otherwise disposed of will be made after consideration of relevant factors, including prevailing and projected economic conditions, whether the value of the property or other investment is anticipated to decline substantially, whether we could apply the proceeds from the sale of the asset to make other investments consistent with our investment objectives, whether disposition of the asset would allow us to increase cash flow, and whether the sale of the asset would constitute a prohibited transaction under the Internal Revenue Code or otherwise impact our status as a REIT. Our ability to dispose of property during the first few years following its acquisition will be restricted to a substantial extent as a result of our REIT status. Under applicable provisions of the Internal Revenue Code regarding prohibited transactions by REITs, a REIT that sells property other than foreclosure property that is deemed to be inventory or property held primarily for sale in the ordinary course of business is deemed a “dealer” and subject to a 100% penalty tax on the net income from any such transaction. As a result, our board of trustees will attempt to structure any disposition of our properties to avoid this penalty tax through reliance on safe harbors available under the Internal Revenue Code for properties held at least two years or through the use of a TRS.

 

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Conflicts of Interest

 

We depend on our Advisor and its affiliates for the day-to-day management of our operations. As a result, we are subject to various conflicts of interest arising out of our relationship with our Advisor and its affiliates, including conflicts related to the arrangements pursuant to which our Advisor and its affiliates are compensated by us. All of our agreements and arrangements with our Advisor and its affiliates, including those relating to compensation, are not the result of arm’s length negotiations. In addition, our legal counsel, Morris, Manning & Martin, LLP, and our independent registered public accounting firm, Whitley Penn LLP, are independent entities and each provides services to our Advisor and other entities affiliated with our Advisor. If the interests of the various parties become adverse, they may face conflicts of interest and may be precluded from representing any one or all of such parties.

 

Our independent trustees have an obligation to function on our behalf in all situations in which a conflict of interest may arise, and all of our trustees have a fiduciary obligation to act on behalf of our shareholders.

 

Our Advisor and its affiliates act as advisors, asset managers or general partners of other United Development Funding-sponsored programs that have investment objectives similar to ours, and we expect that they will organize other such programs in the future. These persons have legal and financial obligations with respect to these programs that are similar to their obligations to us. As general partners, they may have contingent liability for the obligations of programs structured as partnerships. If such obligations were enforced against them, it could result in a substantial reduction of their net worth. The chart below indicates the relationships between our Advisor and its affiliates.

 

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(1)Todd F. Etter and Hollis M. Greenlaw each own one-half of the equity interests in UMT Services, Inc. (“UMT Services”). Messrs. Etter and Greenlaw and Michael K. Wilson serve as directors of UMT Services. UMT Services serves as general partner of UMTH GS, our Advisor.

 

(2)UMT Services serves as the general partner and owns 0.1% of the limited partnership interests in UMT Holdings, L.P. (“UMT Holdings”). The remaining 99.9% of the limited partnership interests in UMT Holdings are held as follows as of December 31, 2014: Mr. Etter (30.00%), Mr. Greenlaw (30.00%), Craig A. Pettit (5.00%), Timothy J. Kopacka (4.84%), Michael K. Wilson (7.41%), Christine A. Griffin (1.95%), Cara D. Obert (4.82%), William E. Lowe (1.06%), Ben L. Wissink (10.09%) and Melissa H. Youngblood (4.83%).

 

(3)UMT Services serves as the general partner and owns 0.1% of the limited partnership interests in each of UMTH GS and UMTH LD. UMT Holdings owns the remaining 99.9% of the limited partnership interests in each of UMTH GS and UMTH LD, our asset manager. UMTH LD also serves as the asset manager for United Development Funding, L.P. (“UDF I”) and United Development Funding II, L.P. (“UDF II”), each a Delaware limited partnership. In addition, UMTH LD serves as the general partner of United Development Funding III, L.P. (“UDF III”), a publicly registered Delaware limited partnership, and as the general partner and sole limited partner of UDF Land GenPar, L.P., a Delaware limited partnership (“UDF LGP”). UDF LGP serves as the general partner of United Development Funding Land Opportunity Fund, L.P., a Delaware limited partnership (“UDF LOF”). UMTH LD also serves as the asset manager of UDF LOF.

 

(4)United Development Funding, Inc. is owned 33.75% by each of Messrs. Greenlaw and Etter, 22.5% by Mr. Kopacka, and 10% by Ms. Griffin.

 

(5)United Development Funding II, Inc. is owned 50% by each of Messrs. Etter and Greenlaw.

 

(6)UMTH LD owns 100% of the general partnership and limited partnership interests in UDF LGP.

 

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(7)UMTH GS serves as the advisor for United Mortgage Trust (“UMT”), a Maryland real estate investment trust.

 

(8)United Development Funding, Inc. serves as general partner for UDF I and owns a 0.02% general partnership interest, UMTH LD owns a 49.99% subordinated profits interest, and unaffiliated limited partners own the remaining 49.99% of the interests in UDF I. UDF I is a real estate finance company that engages in the business in which we engage and intend to continue to engage.

 

(9)United Development Funding II, Inc. serves as general partner for UDF II and owns a 0.1% general partnership interest, UMTH LD owns a 49.95% subordinated profits interest, and unaffiliated limited partners own the remaining 49.95% of the interests in UDF II. UDF II is a real estate finance company that engages in the business in which we engage and intend to continue to engage.

 

(10)UMTH LD holds a 0.01% general partner interest in UDF III. Approximately 8,900 limited partners as of December 31, 2014 own 99.99% of the limited partnership units of UDF III. UDF III is a real estate finance company that engages in the business in which we engage and intend to continue to engage.

 

(11) UDF LGP holds a 0.01% general partnership interest in UDF LOF. UDF LGP also holds a subordinated profit participation interest in UDF LOF. The investors who purchased units in the private offering of UDF LOF own 99.9% of the limited partnership interests. As of December 31, 2014, approximately 615 limited partners held interests in UDF LOF. UDF LOF is a real estate finance company that engages in the business in which we engage and intend to continue to engage.

 

(12)UMT Holdings owns 10,000 of our shares of beneficial interest as of December 31, 2014.

 

(13)We own a 99.999% general partner interest in UDF IV OP. UMTH LD owns a 0.001% limited partner interest in UDF IV OP.

 

In addition to the affiliate relationships described above, certain of the principals of our Advisor, including Messrs. Etter, Greenlaw, Wilson and Wissink, Ms. Youngblood and Ms. Obert, are also principals, directors, officers and/or equity holders of UDFH General Services, L.P., a Delaware limited partnership (“UDFH GS”), and UDFH Land Development, L.P., a Delaware limited partnership (“UDFH Land”). UDFH GS serves as the sub-advisor to United Development Funding Income Fund V, a Maryland real estate investment trust that intends to qualify as a REIT under federal income tax laws (“UDF V”). UDFH Land serves as the asset manager to UDF V. UDF V engages in the same or similar businesses in which we engage.

 

Our board of trustees has approved one builder equity loan to BRHG for the purpose of partially financing the acquisition by BRHG of Scott Felder Homes, a homebuilder operating in the Austin and San Antonio, Texas markets. BRHG is a wholly-owned subsidiary of BR Homebuilding Group, L.P., a Delaware limited partnership (“BR Homebuilding”). John R. (“Bobby”) Ray, a trustee of UDF IV, Hollis Greenlaw, our Chief Executive Officer and a trustee of UDF IV, and Todd Etter, Chairman and partner of UMT Holdings, each own approximately 25% of the common equity of BR Homebuilding and direct the management of BR Homebuilding.  For further discussion of the loan to BRHG, see Note I to the accompanying consolidated financial statements.

 

Housing Industry

 

During 2014, the U.S. housing market recovery that began in 2012 continued, with annual increases in the volume of new home sales, single-family starts and single-family permits. Housing affordability remains strong compared to historical levels, even as home prices continued to increase in 2014. We believe the main drivers of housing demand are the continued improvement in job creation and wages which have contributed to the highest consumer confidence levels since 2007. Household formations, a housing metric that had been lagging in the housing recovery, increased significantly during 2014. We believe that demand for new homes will strengthen further in 2015 as the U.S. economy continues to improve, although the improvement may be uneven from market to market based on local economic conditions. We also believe that the Federal Housing Finance Agency’s (“FHFA”) recent lowering of down payment requirements for Fannie Mae and Freddie Mac mortgage programs and the Federal Housing Administration’s decrease in mortgage insurance premiums are incremental positives for housing demand in 2015.

 

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Competition

 

Real estate investment and finance is a very competitive industry. We compete with many other entities engaged in real estate investment activities, including individuals, corporations, bank and insurance company investment accounts, real estate limited partnerships, other REITs, institutional investors, homebuilders, developers and other entities engaged in real estate investment activities. Many of these may have greater resources than we do and may enjoy significant competitive advantages, such as a lower cost of capital and enhanced operating efficiencies. In addition, the proliferation of the Internet as a tool for real estate acquisitions and loan origination has made it very inexpensive for new competitors to participate in the real estate investment and finance industry. Our ability to make or purchase a sufficient number of loans and investments to meet our objectives will depend on the extent to which we can compete successfully against these other entities, including entities that may have greater financial or marketing resources, greater name recognition or larger customer bases than we have. Our competitors may be able to undertake more effective marketing campaigns or adopt more aggressive pricing policies than we can, which may make it more difficult for us to attract customers. Increased competition could result in lower revenues and higher expenses, which would reduce our profitability.

 

Regulations

 

All real property and the operations conducted on real property are subject to federal, state and local laws and regulations relating to environmental protection and human health and safety. These laws and regulations generally govern wastewater discharges, air emissions, the operation and removal of underground and above-ground storage tanks, the use, storage, treatment, transportation and disposal of solid and hazardous materials, and the remediation of contamination associated with disposals. Under limited circumstances, a secured lender, in addition to the owner of real estate, may be liable for clean-up costs or have the obligation to take remedial actions under environmental laws, including, but not limited to, the Federal Comprehensive Environmental Response, Compensation and Liability Act of 1980, as amended (“CERCLA”). Some of these laws and regulations may impose joint and several liability for the costs of investigation or remediation of contaminated properties, regardless of fault or the legality of the original disposal. In addition, the presence of these substances, or the failure to properly remediate these substances, may adversely affect our ability to sell such property or to use the property as collateral for future borrowing.

 

If we foreclose on a defaulted loan to recover our investment, we may become subject to environmental liabilities associated with that property if we participate in the management of that property or do not divest ourselves of the property at the earliest practicable time on commercially reasonable terms. Environmental laws may impose restrictions on the manner in which property may be used or businesses may be operated, and these restrictions may require substantial expenditures. It is possible that property on which we foreclose may contain hazardous substances, wastes, contaminants or pollutants that we may be required to remove or remediate in order to clean up the property. If we foreclose on a contaminated property, we may also incur liability to tenants or other users of neighboring properties. We cannot assure our shareholders that we will not incur full recourse liability for the entire cost of removal and cleanup, that the cost of such removal and cleanup will not exceed the value of the property, or that we will recover any of these costs from any other party. It may be difficult or impossible to sell a property following discovery of hazardous substances or wastes on the property. The cost of defending against claims of liability, of compliance with environmental regulatory requirements, of remediating any contaminated property, or of paying personal injury claims could materially adversely affect our business, assets or results of operations and, consequently, amounts available for distribution to our shareholders.

 

In addition, as a non-bank lender of commercial loans, we are subject to various state and federal regulations regarding usury laws. State and federal usury laws limit the interest that lenders are entitled to receive on a mortgage loan. In determining whether a given transaction is usurious, courts may include charges in the form of “points” and “feesas “interest,” but may exclude payments in the form of “reimbursement of foreclosure expenses” or other charges found to be distinct from “interest.” While we contract for interest at a rate that is less than or equal to the applicable maximum amount of non-usurious interest and our loan documents and Texas law provide us with an opportunity to cure usurious charges, if the amount charged for the use of the money loaned is found to exceed a statutorily established maximum rate (under Texas law, the current maximum amount of non-usurious interest is 18% per annum) and we fail to cure, the form employed and the degree of overcharge are both immaterial to the determination that the loan is usurious. Statutes differ in their provision as to the consequences of a usurious loan. One group of statutes requires the lender to forfeit the interest above the applicable limit or imposes a specified penalty. Under this statutory scheme, the borrower may have the recorded mortgage or deed of trust cancelled upon paying its debt with lawful interest, or the lender may foreclose, but only for the debt plus lawful interest. Under a second, more severe type of statute, a violation of the usury law results in the invalidation of the transaction, thereby permitting the borrower to have the recorded mortgage or deed of trust cancelled without any payment (thus prohibiting the lender from foreclosing).

 

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Employees

 

On February 3, 2014, our board of trustees appointed Stacey H. Dwyer as our Chief Operating Officer, effective February 17, 2014. As of December 31, 2014, Ms. Dwyer is our only employee. However, our Advisor and affiliates of our Advisor have a staff of employees who perform a range of services for us, including originations, acquisitions, asset management, accounting, legal and investor relations.

 

Financial Information about Industry Segments

 

Our current business consists of originating, acquiring, servicing and managing loans on real property and reimbursements, acquiring participation interests in third-party loans on real property, issuing or acquiring an interest in credit enhancements to borrowers, making equity loans to homebuilders and making direct investments in finished lots. We internally evaluate our activities as one industry segment, and, accordingly, we do not report segment information.

 

Available Information

 

We electronically file an annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports with the SEC. Copies of our filings with the SEC may be obtained from the website maintained by our sponsor at http://www.udfonline.com or at the SEC’s website, at http://www.sec.gov. Access to these filings is free of charge. We are not incorporating our website or any information from the website into this Annual Report on Form 10-K.

 

Item 1A. Risk Factors.

 

The factors described below represent our principal risks. Other factors may exist that we do not consider to be significant based on information that is currently available or that we are not currently able to anticipate.

 

Risks Related to our Shares of Beneficial Interest

 

Our share price may be volatile, and investors may be unable to sell their shares at or above the current market price.

 

The market price of our common shares of beneficial interest has been and could be subject to wide fluctuations in response to, among other things, the following:

 

·variations in our quarterly operating results;

 

·decreases in market valuations of similar companies;

 

·the failure of securities analysts to cover our common shares or changes in financial estimates by analysts who cover us, our competitors or our industry;

 

·failure by us or our competitors to meet analysts’ projections or guidance that we or our competitors may give to the market; and

 

·fluctuations in stock market prices and volumes.

 

Furthermore, the stock markets have experienced price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies. These fluctuations often have been unrelated or disproportionate to the operating performance of those companies. These broad market fluctuations, as well as general economic, political and market conditions, such as recessions, interest rate changes and international currency fluctuations, may negatively affect the market price of our common shares.

 

In the past, many companies that have experienced volatility in the market price of their securities have become subject to securities class action litigation. We may be the target of this type of litigation in the future. Securities litigation against us could result in substantial costs and divert our management’s attention from other business concerns, which could seriously harm our business. All of these factors could cause the market price of our shares to decline, and shareholders may lose some or all of their investment.

 

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The market price for our common shares varies, and there is no guarantee that there will be an active trading market for our common shares.

 

Although our common shares are listed on the NASDAQ, our common shares may not be actively traded. We cannot assure our shareholders that there will be an active trading market for our common shares at any time in the future. Even if there is an active trading market for our common shares, we cannot assure our shareholders that they will be able to sell all of their common shares at one time or at a favorable price, if at all.

 

Our past performance and the prior performance of real estate investment programs sponsored by our Advisor and its affiliates may not be an indication of our future results.

 

We were formed in May 2008, and UMTH GS, our Advisor, was formed in March 2003. Shareholders should not assume that our future performance will be similar to our past performance or the past performance of other real estate investment programs sponsored by our Advisor and its affiliates. To be successful in this market, we must, among other things:

 

·increase awareness of the United Development Funding name;

 

·attract, integrate, motivate and retain qualified personnel to manage our day-to-day operations;

 

·respond to competition both for investment opportunities and potential investors in us; and

 

·build and expand our operations structure to support our business.

 

We cannot guarantee that we will succeed in achieving these goals, and our failure to do so could cause shareholders to lose all or a portion of their investment.

 

If we, through our Advisor, are unable to find suitable investments, then we may not be able to achieve our investment objectives or pay distributions.

 

Our ability to achieve our investment objectives and to pay distributions is dependent upon the performance of our Advisor in the identification of real estate loans and other investments and the determination of any financing arrangements. Shareholders will have no opportunity to evaluate the terms of transactions or other economic or financial data concerning our investments. Shareholders must rely entirely on the oversight of our board of trustees and the management ability of our Advisor. We cannot be sure that our Advisor will be successful in obtaining suitable investments on financially attractive terms or that our objectives will be achieved.

 

We may suffer from delays in locating suitable investments, which could adversely affect the return on shareholders’ investments.

 

We could suffer from delays in locating suitable investments, particularly as a result of our reliance on our Advisor and referrals by borrowers, developers, commercial lenders, homebuilders and other referral sources. Losses during the housing downturn combined with continuing capital constraints have reduced the number of real estate lenders able or willing to finance development, construction and the purchase of homes, thus reducing the number of homebuilders and developers that are able to receive such financing. In the event that homebuilders and developers fail or reduce the number of their development and homebuilding projects, resulting in a reduction of new loan applicants, or the supply of referrals by borrowers, developers, commercial lenders and homebuilders decreases, the availability of investments for us would also decrease, which may reduce our ability to pay distributions to our shareholders.

 

The payment of distributions from sources other than our cash flow from operations reduces the funds available for real estate investments, and a shareholder’s overall return may be reduced. 

 

Our organizational documents permit us to make distributions from any source. Because we have funded distributions from sources other than our cash flow from operations, we have less funds available for real estate investments, and a shareholder’s overall return may be reduced. Further, to the extent distributions exceed cash flow from operations, a shareholder’s basis in our common shares of beneficial interest will be reduced and, to the extent distributions exceed a shareholder’s basis, the shareholder may recognize capital gain. We have not established any limit on the sources that may be used to fund distributions, except that, in accordance with our organizational documents and Maryland law, we may not make distributions that would (1) cause us to be unable to pay our debts as they become due in the usual course of business; or (2) cause our total assets to be less than the sum of our total liabilities plus senior liquidation preferences, if any.

 

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For the year ended December 31, 2014, we paid distributions of approximately $51.2 million ($42.3 million in cash and $8.9 million in our common shares of beneficial interest pursuant to our DRIP and New DRIP), as compared to cash flows provided by operations of approximately $47.2 million. As of December 31, 2014, we had approximately $1.2 million of cash distributions declared that were paid subsequent to period end.

 

The distributions paid during the years ended December 31, 2014 and 2013, along with the amount of distributions reinvested pursuant to our DRIP and New DRIP and the sources of our distributions are reflected in the table below.

 

   Year Ended December 31, 
   2014   2013 
Distributions paid in cash  $42,335,000        $27,697,000      
Distributions reinvested   8,895,000         16,888,000      
Total distributions  $51,230,000        $44,585,000      
Source of distributions:                    
Cash from operations  $41,665,000    81%  $24,512,000    55%
Proceeds from the Offering   -    -    13,521,000    30%
Borrowings under credit facilities   9,565,000    19%   6,552,000    15%
Total sources  $51,230,000    100%  $44,585,000    100%

 

Competition with third parties in financing properties may reduce our profitability and the return on a shareholder’s investment.

 

Real estate investment and finance is a very competitive industry. We compete with many other entities engaged in real estate investment activities, including individuals, corporations, bank and insurance company investment accounts, real estate limited partnerships, other REITs, institutional investors, homebuilders, developers and other entities engaged in real estate investment activities, many of which have greater resources than we do and may enjoy significant competitive advantages that result from, among other things, a lower cost of capital and enhanced operating efficiencies. In addition, the proliferation of the Internet as a tool for real estate acquisitions and loan origination has made it very inexpensive for new competitors to participate in the real estate investment and finance industry. Our ability to make or purchase a sufficient number of loans and investments to meet our objectives will depend on the extent to which we can compete successfully against these other entities, including entities that may have greater financial or marketing resources, greater name recognition or larger customer bases than we have. Our competitors may be able to undertake more effective marketing campaigns or adopt more aggressive pricing policies than we can, which may make it more difficult for us to attract customers. Increased competition could result in lower revenues and higher expenses, which would reduce our profitability.

 

Deterioration in the homebuilding industry or economic conditions could decrease demand and pricing for new homes and residential home lots and have additional adverse effects on our operations and financial results.

 

Developers to whom we will make senior or subordinated loans will use the proceeds of our loans and investments to develop raw real estate into residential home lots. The developers obtain the money to repay our development loans by selling the residential home lots to homebuilders or individuals who will build single-family residences on the lots, or by obtaining replacement financing from other lenders. The developer’s ability to repay our loans is based primarily on the proceeds generated by the developer’s sale of its inventory of single-family residential lots.

 

The homebuilding industry is cyclical and is significantly affected by changes in industry conditions, as well as in general and local economic conditions, such as:

 

employment levels and job growth;

 

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demographic trends, including population increases and decreases and household formation;

 

availability of financing for homebuyers;

 

interest rates;

 

affordability of homes;

 

consumer confidence;

 

levels of new and existing homes for sale, including foreclosed homes; and

 

housing demand.

 

These conditions may exist on a national scale or may affect some of the regions or markets in which we operate more than others. An oversupply of alternatives to new homes, such as existing homes, including homes held for sale by investors and speculators, foreclosed homes, and rental properties, can also reduce the homebuilder’s ability to sell new homes, depress new home prices, and reduce homebuilder margins on the sales of new homes, which likely would reduce the amount and price of the residential homes sold by the homebuilders purchasing lots from developers to which we have loaned money and/or increase the absorption period in which such lots are purchased. Homebuilding industry participants have historically used expectations for future volume growth to determine the amount of land and lots to own. If the amount and price of residential homes decline, homebuilders and developers may reduce the pace of purchasing and developing land and lots, which may reduce demand for our loans.

 

Increases in interest rates, reductions in mortgage availability or increases in other costs of owning a home could prevent potential customers from buying new homes and adversely affect our business or our financial results.

 

Demand for new homes is sensitive to changes in housing affordability. Most new home purchasers finance their home purchases through lenders providing mortgage financing. Since 2007, the mortgage lending industry has experienced significant changes. As a result of increased default rates and governmental initiatives to improve capital ratios, many mortgage lenders tightened credit requirements and reduced residential mortgage lending. Fewer loan products, with stricter loan underwriting standards and higher down payment requirements, have made it more difficult for many potential homebuyers to finance the purchase of homes. Increases in interest rates may make houses more difficult to afford. Lack of availability of mortgage financing at acceptable rates reduces demand for homes.

 

Even if potential customers do not need financing, changes in interest rates and the availability of mortgage financing products may make it harder for them to sell their current homes to potential buyers who need financing.

 

A reduction in the demand for new homes may reduce the amount and price of the residential home lots sold by the homebuilders and developers to which we loan money and/or increase the absorption period in which such home lots are purchased and, consequently, increase the likelihood of defaults on our loans.

 

Increases in interest rates could increase the risk of default under our development loans.

 

Developers and homebuilders to whom we make loans and with whom we enter into subordinate debt positions will use the proceeds of our loans and investments to develop raw real estate into residential home lots and construct homes. The developers and homebuilders obtain the money to repay our loans by selling the residential home lots to homebuilders or individuals, by building and selling single-family residences or by obtaining replacement financing from other lenders. The developers’ or homebuilders’ ability to repay our loans will be based primarily on the amount of money generated by the developers’ or homebuilders’ sale of their inventory of single-family homes or residential lots. If interest rates increase and/or consumer mortgage credit standards tighten, the demand for single-family residences is likely to decrease. In such an interest rate and/or mortgage climate, developers and homebuilders to whom we have loaned money may be unable to generate sufficient income from the resale of single-family homes or residential lots to repay our loans, which could reduce our ability to pay distributions to our shareholders.

 

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In some cases, the loans we make as part of our investments will be secured by collateral that is already encumbered, so our loans may have a higher risk than conventional real estate loans on residential properties.

 

We plan to originate and purchase loans to affiliated and unaffiliated third parties on land to be developed into residential lots, new and model homes and finished home inventories. Our goal is to obtain a first or subordinate lien on the underlying real property to secure our loans, and we may require a pledge of the equity ownership interests in the borrower itself to secure our loans, either as the sole collateral or in addition to our lien on the underlying real property. In some instances where the subject parcel is encumbered by a lien in favor of a third party other than us, we may, at our option, become the senior lender in order to protect the priority of our lien on the parcels. Our loans may also be secured by other assets of the borrower. While we will seek to obtain a guarantee of the borrower and/or its parent companies to further secure the borrower’s obligations to us, we cannot assure our shareholders that we will obtain such a guarantee in all cases. If a default occurs under one or more of our loans, payments to us could be reduced or postponed. Further, in the event of a default, we may be left with a security or ownership interest in finished homes or lots or unfinished homes or an undeveloped or partially developed parcel of real estate, which may have less value than a completed home or developed parcel. The guarantee of the borrower and/or its parent companies and other pledged assets, if any, may be insufficient to compensate us for any difference in the amounts due to us under a loan and the value of our interest in the subject parcel.

 

Decreases in the values of the properties underlying our loans may decrease the value of our assets.

 

In most cases, we obtain a first or subordinate lien on the underlying real property to secure our loans (mortgage loans), and we also may require a pledge of all of the equity ownership interests in the borrower entity itself as additional security for our loans. In instances where we do not have a lien on the underlying real property, we may obtain a pledge of all of the equity ownership interests of the borrower entity itself to secure such loans and/or a pledge of the equity ownership interests of the borrower entity or other parent entity that owns the borrower entity (so-called “mezzanine loans”). We also may require a pledge of additional assets of the borrower, liens against additional parcels of undeveloped and developed real property and/or the personal guarantees of principals or guarantees of operating entities in connection with our secured loans. To the extent that the value of the property that serves as security for these loans or investments is lower than we expect, the value of our assets, and consequently our ability to pay distributions to our shareholders, will be adversely affected.

 

Our investments and participation agreements with borrowers will expose us to various risks and will not guarantee that we will receive any amount under such agreements.

 

The investments and participation agreements that we enter with borrowers will be separate from the loans that we will make to the borrowers. Participation agreements will be structured either as contracts entitling us to participate in the borrower’s profits or as joint venture investments organized as partnerships or limited liability companies in which we will have an equity interest. The participation agreements may represent an equity joint venture interest that will, and our investment will, expose us to all of the risks inherent in real estate investments generally and with real estate investments made with a co-venturer. These risks include, among others, the fact that there is no guaranteed return on the equity participations. In the event our loan is paid off prior to sale of the parcel, we would hold an equity participation that would be junior to any liens or claims against the parcel. Our joint venture participations could subject us to liabilities arising out of environmental claims or claims for injuries, tax levies or other charges against the owner of the parcel as well as from the risk of bankruptcy of our co-venturer.

 

We are subject to the general market risks associated with real estate construction and development.

 

Our financial performance depends on the successful construction and/or development and sale of the homes and real estate parcels that we own, that serve as security for the loans we make to homebuilders and developers or that will be the subject of our participation agreements with borrowers. As a result, we are subject to the general market risks of real estate construction and development, including weather conditions, the price and availability of materials used in the construction of the homes and development of the lots, environmental liabilities and zoning laws and numerous other factors that may materially and adversely affect the success of the projects. In the event the market softens, the homebuilder or developer may require additional funding and such funding may not be available. In addition, if the market softens, the amount of capital required to be advanced and the required marketing time for such home or development may both increase, and the homebuilder’s or developer’s incentive to complete a particular home or real estate development may decrease. Such circumstances may reduce our profitability and the returns on our shareholders’ investments.

 

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If we lose or are unable to obtain key personnel or one or more of our key personnel decides to compete with us, our ability to implement our investment strategies could be delayed or hindered which could adversely affect our ability to make distributions and the value of our shareholders’ investments.

 

Our success depends to a significant degree on the diligence, experience and skill of certain executive officers and other key personnel of us, our Advisor and its affiliates, including Todd F. Etter, Hollis M. Greenlaw, Michael K. Wilson, Ben L. Wissink, Melissa H. Youngblood, Cara D. Obert, David A. Hanson and Stacey H. Dwyer, for the selection, acquisition, structuring and monitoring of our lending and investment activities. With the exception of Ms. Dwyer, these individuals are not bound by employment agreements with us. If any such individuals were to cease their affiliation with us, our Advisor or its affiliates, our operating results could suffer. Affiliates of our Advisor maintain key person life insurance with respect to Hollis M. Greenlaw. We have not obtained life insurance policies on any other key personnel involved in our operations and, therefore, have no insulation against extraneous events that may adversely affect their ability to implement our investment strategies. We also believe that our future success depends, in large part, upon our Advisor’s and its affiliates’ ability to hire and retain highly skilled personnel. We cannot assure our shareholders that we will be successful in attracting and retaining such personnel. The loss of any key person could harm our business, financial condition, cash flow and results of operations. If we lose or are unable to obtain the services of key personnel, our ability to implement our investment strategy could be delayed or hindered.

 

In addition, many of the officers and key personnel of the Trust, our Advisor and its affiliates are bound by non-competition agreements, and there are remedies under certain state laws if such officers or key personnel conduct activities that compete with us either during or after their employment. However, our ability to prohibit former employees from competing with us, our Advisor or its affiliates may be limited in many respects, and we cannot assure our shareholders that one or more of those persons may not choose to compete with us, or that we could limit their ability to do so or recover anything in such an event. Competition by these officers or key employees may harm our business, financial condition and results of operations.

 

Our rights and the rights of our shareholders to recover claims against our independent trustees are limited, which could reduce our and our shareholders’ recovery against them if they negligently cause us to incur losses.

 

Maryland law provides that a trustee has no liability in that capacity if he performs his duties in good faith, in a manner he reasonably believes to be in our best interests and with the care that an ordinarily prudent person in a like position would use under similar circumstances. Our declaration of trust provides for indemnification of our directors to the maximum extent permitted by Maryland law. As a result, we and our shareholders may have more limited rights against our independent trustees than might otherwise exist under common law, which could reduce our and our shareholders’ recovery from these persons if they act in a negligent manner. In addition, we may be obligated to fund the defense costs incurred by our independent trustees (as well as by our other trustees, officers, employees of our Advisor and agents) in some cases, which would decrease the cash otherwise available for distributions to our shareholders.

 

Other real estate investment programs sponsored by our Advisor and its affiliates have experienced adverse business developments, and our business may be affected by similar conditions.

 

The prior programs sponsored by our Advisor and its affiliates have occasionally been adversely affected by the limited supply of suitable loans available for purchase. When sufficient numbers of suitable loans historically were not available for purchase, UMT experienced excess uninvested cash, resulting in lower earnings per share in 1998 and 1999. Increased loan default rates resulted in decreased net income for UMT for the years 2008, 2009, 2010, 2011, 2012 and 2013. As a result, UMT made distributions in excess of earnings for the period from September 30, 1997 through December 31, 2005 and in 2008, 2009, 2010, 2011, 2012, 2013 and 2014. Furthermore, decreases in the available amount and use of leverage, along with increases in the amount of equity in relation to debt, result in lower returns on equity, as was experienced by UDF I and UDF II for the years 2007, 2008, 2009, 2010 and 2011. The continuing operations of prior programs sponsored by our Advisor and its affiliates can be expected in the future to experience decreases in net income when economic conditions decline, specifically the availability of suitable loans, loan default increases and decreases in the amount and availability of leverage. Some of these programs may be unable to optimize their returns to investors because of requirements to liquidate when adverse economic conditions cause real estate prices to be relatively depressed. In addition, prior programs may be required to assume or pay off senior debt in order to protect their investments. Our business will be affected by similar conditions, and no assurance can be made that our program or other programs sponsored by our advisor and its affiliates will ultimately be successful in meeting their investment objectives.

 

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Cybersecurity risks and cyber incidents may adversely affect our business by causing a disruption to our operations, a compromise or corruption of our confidential information, and/or damage to our business relationships, all of which could negatively impact our financial results.

 

A cyber incident is considered to be any adverse event that threatens the confidentiality, integrity or availability of our information resources. These incidents may be an intentional attack or an unintentional event and could involve gaining unauthorized access to our information systems for purposes of misappropriating assets, stealing confidential information, corrupting data or causing operational disruption. The result of these incidents may include disrupted operations, misstated or unreliable financial data, liability for stolen assets or information, increased cybersecurity protection and insurance costs, litigation and damage to our investor relationships. As our reliance on technology increases, so will the risks posed to our information systems, both internal and those we outsource. There is no guarantee that any processes, procedures and internal controls we have implemented or will implement will prevent cyber intrusions, which could have a negative impact on our financial results, operations, business relationships or confidential information.

 

Risks Related to Conflicts of Interest

 

We are subject to conflicts of interest arising out of our relationships with our affiliates and our Advisor and its affiliates, including the material conflicts discussed below. When conflicts arise between us, our affiliates, our Advisor and/or its affiliates, they may not be resolved in our favor, which could cause our operating results to suffer.

 

We, our affiliates, our Advisor and its affiliates will have equity interests and/or profit participations in entities for which we provide financing, and we may have a greater incentive to make loans and/or provide credit enhancements to such entities to preserve and/or enhance our economic interest or the economic interest of our affiliates, our Advisor or its affiliates in such entities.

 

We expect to make loans and/or provide credit enhancement transactions to our affiliates and affiliates of our Advisor. If our affiliate, our Advisor or its affiliate has an equity interest or participation interest in an entity that requires a loan or credit enhancement, we and our Advisor may have a greater incentive to make a loan to such entity to preserve and/or enhance our economic interest or the economic interest of our affiliate, our Advisor or its affiliate in such entity. As of December 31, 2014, our 20 loans to related parties have an outstanding balance of approximately $101.3 million.

 

Investment opportunities may not be allocated equitably among us and the other United Development Funding programs.

 

Our Advisor and our asset manager are affiliates of the other United Development Funding programs (UDF I, UDF II, UDF III, UDF LOF and UDF V), all of which engage in the same or similar businesses in which we engage. Our Advisor and our asset manager seek to equitably allocate among us and these other United Development Funding programs all investment opportunities of which they become aware. We have entered into an Allocation Policy Agreement pursuant to which we may invest in the same loans and transactions as the other United Development Funding programs, except that UDF V will not invest with us or other affiliates in the same loans. However, pursuant to the Allocation Policy Agreement, investment opportunities may be allocated among the United Development Funding programs based upon each fund’s risk profile and the cash available for investment in each fund. Circumstances may arise, due to availability of capital or other reasons, when our Advisor and our asset manager are not able to equitably allocate investments to us. Our Advisor and our asset manager may determine that we will not invest in otherwise suitable investments in which one or more of the other United Development Funding programs invest, in order for us to avoid unrelated business taxable income, or “UBTI,” which is generally defined as income derived from any unrelated trade or business carried on by a tax-exempt entity or by a partnership of which it is a member, and which is generally subject to taxation. We cannot assure our shareholders that we will be able to invest in all suitable opportunities of which our Advisor and our asset manager become aware.

 

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Our Advisor, our asset manager and their affiliates may form other companies that will engage in the same businesses as we do, and investment opportunities may not be allocated equitably among us, the other United Development Funding programs and such other companies.

 

Our Advisor, our asset manager and their affiliates may engage in additional real estate-related activities in the future, including the activities in which we engage, and may form new entities to engage in these activities. When new companies are formed for the purpose of engaging in the businesses in which we engage, our Advisor and our asset manager intend to equitably allocate among us, the other United Development Funding programs, and such other companies all investment opportunities of which they become aware. We cannot assure our shareholders that the allocation of investment opportunities will be equitable.

 

Certain of the principals of our Advisor will face conflicts of interest relating to the extension and purchase of loans, and such conflicts may not be resolved in our favor.

 

Certain of the principals of our Advisor, including Mr. Etter, Mr. Greenlaw, Michael K. Wilson, Ben L. Wissink, Melissa H. Youngblood and Cara D. Obert, are also principals, directors, officers and equity holders of other entities, including UDF I, UDF II, UDF III, UDF LOF, UMT Holdings, UMT Services and UDF V. These multiple responsibilities may create conflicts of interest for these individuals if they are presented with opportunities that may benefit us and their other affiliates. These individuals may be incentivized to allocate opportunities to other entities rather than to us if they are more highly compensated based on investments made by other entities. In determining which opportunities to allocate to us and to their other affiliates, these individuals will consider the investment strategy and guidelines of each entity. Because we cannot predict the precise circumstances under which future potential conflicts may arise, we intend to address potential conflicts on a case-by-case basis. There is a risk that our Advisor will choose an investment for us that provides lower returns to us than a loan made by one of our affiliates. Investors will not have the opportunity to evaluate the manner in which any conflicts of interest involving our Advisor and its affiliates are resolved before making their investment.

 

Our Advisor and its affiliates, including some of our trustees and all of our executive officers, with the exception of Ms. Dwyer, will face conflicts of interest caused by their compensation arrangements with us, which could result in actions that are not in the long-term best interests of our shareholders.

 

Our Advisor and its affiliates are entitled to substantial fees from us in connection with our business operations. These fees could influence our Advisor’s advice to us as well as the judgment of affiliates of our Advisor performing services for us. Among other matters, these compensation arrangements could affect their judgment with respect to:

 

·the continuation, renewal or enforcement of our agreements with our Advisor and its affiliates, including the advisory agreement; and
·borrowings, which would increase the fees payable to our Advisor.

 

We will face risks relating to joint ventures with our affiliates and third parties that are not present with other methods of investing in properties and secured loans.

 

We may enter into joint ventures with certain of our affiliates, as well as with third parties, for the funding of loans or the acquisition of properties. We may also purchase loan participation interests or loans through joint ventures, partnerships or other co-ownership arrangements with our affiliates, the sellers of the loans, affiliates of the sellers, developers or other persons. Such investments may involve risks not otherwise present with other methods of investment in secured loans, including, for example:

 

·that such affiliate, co-venturer or partner may at any time have economic or business interests or goals that are or that become inconsistent with our business interests or goals, which may cause us to disagree with our affiliate, co-venturer or partner as to the best course of action with respect to the investment and which disagreement may not be resolved to our satisfaction;
·that such affiliate, co-venturer or partner may be in a position to take action contrary to our instructions or requests or contrary to our policies or objectives, which may cause us not to realize the return anticipated from our investment; or
·that it may be difficult for us to sell our interest in any such participation, co-venture or partnership.

 

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Moreover, in the event we determine to foreclose on the collateral underlying a non-performing investment, we may be required to obtain the cooperation of our affiliate, co-venturer or partner to do so. We anticipate that we will participate with our affiliates in certain development projects where we and our affiliates make loans to the borrower, in which case we expect to enter into an inter-creditor agreement that will define our rights and priority with respect to the underlying collateral. Our inability to foreclose on a property acting alone may cause significant delay in the foreclosure process, in which time the value of the property may decline.

 

As of December 31, 2014, we have not entered into any joint ventures. As of December 31, 2014, we are participating in 10 loans originated by affiliates, with an outstanding balance of approximately $40.7 million.

 

Our Advisor faces additional conflicts of interest relating to management relationships with affiliated entities and may make decisions that disproportionately benefit one or more of our affiliated entities instead of us.

 

Our Advisor also serves as the advisor for UMT and is an affiliate of the other United Development Funding programs, all of which engage in the same businesses as us. Our asset manager also serves as the asset manager for the other United Development Funding programs, but does not serve as the asset manager for UMT. Because our Advisor or our asset manager have advisory and management arrangements with UMT and the other United Development Funding programs, it is likely that they will encounter opportunities to invest in or acquire interests in secured loans, participations and/or properties to the benefit of UMT or one of the United Development Funding programs, but not others. Our Advisor or our asset manager may make decisions to finance certain properties, which decisions might disproportionately benefit UMT or another United Development Funding program other than us. In such event, our results of operations and ability to pay distributions to our shareholders could be adversely affected.

 

Because our Advisor and its affiliates are affiliated with UMT, UDF I, UDF II, UDF III, UDF V and UDF LOF, agreements and transactions among the parties with respect to any loan participation among two or more of such parties will not have the benefit of arm’s length negotiation of the type normally conducted between unrelated co-venturers. Under these loan participation arrangements, we may not have a first priority position with respect to the underlying collateral. In the event that a co-venturer has a right of first refusal to buy out the other co-venturer, it may be unable to finance such buy-out at that time. In addition, to the extent that our co-venturer is an affiliate of our Advisor, certain conflicts of interest will exist. As of December 31, 2014, we are participating in 10 loans originated by affiliates, with an outstanding balance of approximately $40.7 million.

 

Our Advisor’s officers and key personnel will face conflicts of interest relating to the allocation of their time and other resources among the various entities that they serve or have interests in, and such conflicts may not be resolved in our favor.

 

Certain of the officers and key personnel of our Advisor will face competing demands relating to their time and resources because they are also affiliated with entities with investment programs similar to ours, and they may have other business interests as well, including business interests that currently exist and business interests they develop in the future. Because these persons have competing interests for their time and resources, they may have conflicts of interest in allocating their time between our business and these other activities. As a result, they may devote less time and resources to our business than is necessary. If this occurs, our business, financial condition and results of operations may suffer.

 

There is no separate counsel for certain of our affiliates and us, which could result in conflicts of interest.

 

Morris, Manning & Martin, LLP acts as legal counsel to us, our Advisor and certain of its affiliates. If the interests of the various parties become adverse, under the Code of Professional Responsibility of the legal profession, Morris, Manning & Martin, LLP may be precluded from representing any one or all of such parties. If any situation arises in which our interests appear to be in conflict with those of our Advisor or its affiliates, additional counsel may be retained by one or more of the parties to assure that their interests are adequately protected.

 

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Risks Related to Our Business in General

 

A limit on the number of shares a person may own may discourage a takeover.

 

Our declaration of trust, with certain exceptions, authorizes our trustees to take such actions as are necessary and desirable to preserve our qualification as a REIT. Unless exempted by our board of trustees, no person may own more than 9.8% of the value of our outstanding shares or more than 9.8% of the number or value, whichever is more restrictive, of our outstanding common shares. This restriction may have the effect of delaying, deferring or preventing a change in control, including an extraordinary transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might otherwise provide shareholders with the opportunity to receive a premium price for their shares.

 

Our declaration of trust permits our board of trustees to issue securities with terms that may subordinate the rights of the holders of our current common shares of beneficial interest or discourage a third party from acquiring us.

 

Our declaration of trust permits our board of trustees to issue up to 350,000,000 common shares of beneficial interest and up to 50,000,000 preferred shares of beneficial interest. Our board of trustees, without any action by our shareholders, may (1) amend our declaration of trust from time to time to increase or decrease the aggregate number of shares or the number of shares of any class or series we have authority to issue or (2) classify or reclassify any unissued shares of beneficial interest from time to time in one or more classes or series of shares and establish the preferences, conversion or other rights, voting powers, restrictions, limitations as to distributions, qualifications, or terms or conditions of redemption of any such shares. Thus, our board of trustees could authorize the issuance of such shares with terms and conditions that could subordinate the rights of the holders of our current common shares of beneficial interest or have the effect of delaying, deferring or preventing a change in control of us, including an extraordinary transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might provide a premium price for holders of our common shares of beneficial interest.

 

Maryland law prohibits certain business combinations, which may make it more difficult for us to be acquired.

 

Under Maryland law, “business combinations” between a Maryland corporation and an interested shareholder or an affiliate of an interested shareholder are prohibited for five years after the most recent date on which the interested shareholder becomes an interested shareholder. These business combinations include a merger, consolidation, share exchange, or, in circumstances specified in the statute, an asset transfer or issuance or reclassification of equity securities. An interested shareholder is defined as:

 

·any person who beneficially owns 10% or more of the voting power of the then outstanding voting shares of the company; or
·an affiliate or associate of the company who, at any time within the two-year period prior to the date in question, was the beneficial owner of 10% or more of the voting power of the then outstanding shares of the company.

 

A person is not an interested shareholder under the statute if the board of trustees approved in advance the transaction by which the shareholder otherwise would have become an interested shareholder. However, in approving a transaction, the board of trustees may provide that its approval is subject to compliance, at or after the time of approval, with any terms and conditions determined by the board of trustees. After the expiration of the five-year period described above, any business combination between the Maryland corporation and an interested shareholder must generally be recommended by the board of trustees of the company and approved by the affirmative vote of at least:

 

·80% of the votes entitled to be cast by holders of the then outstanding voting shares of the company; and
·two-thirds of the votes entitled to be cast by holders of voting shares of the company other than voting shares held by the interested shareholder with whom or with whose affiliate the business combination is to be effected or held by an affiliate or associate of the interest shareholder.

 

These super-majority vote requirements do not apply if the holder of the company’s common shares of beneficial interest receives a minimum price, as defined under Maryland law, for their shares in the form of cash or other consideration in the same form as previously paid by the interested shareholder for its shares. Maryland law also permits various exemptions from these provisions, including business combinations that are exempted by the board of trustees before the time that the interested shareholder becomes an interested shareholder. Our board of trustees has exempted any business combination with UMTH GS or any affiliate of UMTH GS and, provided that such business combination is first approved by the board of trustees, any business combination with any other person. Consequently, the five-year prohibition and the super-majority vote requirements will not apply to business combinations between us and UMTH GS or any affiliate of UMTH GS or any board-approved business combination with any other person. As a result, UMTH GS or any affiliate of UMTH GS may be able to enter into business combinations with us that may not be in the best interest of our shareholders, without compliance with the super-majority vote requirements and the other provisions of the business combination statute.

 

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Should the board of trustees opt back in to the business combination statute or fail to first approve a business combination with any person other than UMTH GS or any affiliate of UMTH GS, the business combination statute may discourage others from trying to acquire control of us and increase the difficulty of consummating any offer.

 

Maryland law also limits the ability of a third party to buy a large stake in us and exercise voting power in electing trustees.

 

Under the Maryland Control Share Acquisition Act, “control shares” of a Maryland company acquired in a “control share acquisition” have no voting rights except to the extent approved by the company’s disinterested shareholders by a vote of two-thirds of the votes entitled to be cast on the matter. Common shares of beneficial interest owned by interested shareholders, that is, by the acquirer, by officers or by employees who are trustees of the company, are excluded from the vote on whether to accord voting rights to the control shares. “Control shares” are voting shares that would entitle the acquirer to exercise voting power in electing trustees within specified ranges of voting power. Control shares do not include shares the acquiring person is then entitled to vote as a result of having previously obtained shareholder approval. A “control share acquisition” means, subject to certain exceptions, the acquisition of issued and outstanding control shares. The control share acquisition statute does not apply (1) to shares acquired in a merger, consolidation or share exchange if the company is a party to the transaction or (2) to acquisitions approved or exempted by a company’s declaration of trust or bylaws. Our bylaws contain a provision exempting from the Control Share Acquisition Act any and all acquisitions by any person of our shares of beneficial interest. We can offer no assurance that this provision will not be amended or eliminated at any time in the future. This statute could have the effect of discouraging offers from third parties to acquire us and increasing the difficulty of successfully completing this type of offer by anyone other than our affiliates or any of their affiliates.

 

Shareholders’ investment returns will be reduced if we are required to register as an investment company under the Investment Company Act of 1940.

 

If we were obligated to register as an investment company, we would have to comply with a variety of substantive requirements under the Investment Company Act imposing, among other things:

 

·limitations on capital structure;
·restrictions on specified investments;
·prohibitions on transactions with affiliates; and
·compliance with reporting, record keeping, voting, proxy disclosure and other rules and regulations that would significantly change our operations.

 

We conduct our operations so as not to become regulated as an investment company under the Investment Company Act. We intend to qualify for an exclusion from registration under Section 3(c)(5)(C) of the Investment Company Act, which generally means that at least 55% of our portfolio must comprise qualifying real estate assets and at least another 25% of our portfolio must comprise additional qualifying real estate assets and real estate-related assets. Although we monitor our portfolio periodically and prior to each acquisition, we may not be able to maintain this exclusion from registration. How we determine to classify our assets for purposes of the Investment Company Act will be based in large measure upon no-action positions taken by the SEC in the past. We believe that we have conducted our operations to comply with these no-action positions. However, these no-action positions were issued in accordance with factual situations that may be substantially different from the factual situations we may face, and a number of these no-action positions were issued more than ten years ago. No assurance can be given that the SEC will concur with our classification of our assets. Future revisions to the Investment Company Act or further guidance from the SEC may cause us to lose our exclusion from registration or force us to re-evaluate our portfolio and our investment strategy. Such changes may prevent us from operating our business successfully.

 

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To maintain compliance with the Investment Company Act exclusion, we may be unable to sell assets we would otherwise want to sell and may need to sell assets we would otherwise wish to retain. In addition, we may have to acquire additional assets that we might not otherwise have acquired or may have to forego opportunities to acquire assets that we would otherwise want to acquire and would be important to our investment strategy. Further, we may not be able to invest in a sufficient number of qualifying real estate assets and/or real estate-related assets to comply with the exclusion from registration.

 

We may determine to operate through our operating partnership or other wholly-owned or majority-owned subsidiaries that may be formed in the future. If so, we intend to operate in such a manner that we would not come within the definition of an investment company under Section 3(a)(1) of the Investment Company Act, and we intend to operate our operating partnership and any other subsidiary or subsidiaries in a manner that would exclude such entities from registration under the Investment Company Act pursuant to the exclusions provided by Sections 3(c)(1), 3(c)(5)(C) or 3(c)(7) of the Investment Company Act.

 

As part of our Advisor’s obligations under the advisory agreement, our Advisor will agree to refrain from taking any action which, in its sole judgment made in good faith, would subject us to regulation under the Investment Company Act. Failure to maintain an exclusion from registration under the Investment Company Act would require us to significantly restructure our business plan. For example, because affiliate transactions are severely limited under the Investment Company Act, we would not be able to enter into transactions with any of our affiliates if we are required to register as an investment company, and we may be required to terminate our advisory agreement and any other agreements with affiliates, which could have a material adverse effect on our ability to operate our business and pay distributions.

 

Shareholders have limited control over changes in our policies and operations.

 

Our board of trustees determines our major policies, including our policies regarding financing, growth, debt capitalization, REIT qualification and distributions. Our board of trustees may amend or revise these and other policies without a vote of the shareholders. Under our declaration of trust, the Maryland REIT Law and the Maryland General Corporation Law, our shareholders currently have a right to vote only on the following matters:

 

·the election or removal of trustees;
·the amendment of our declaration of trust, except that our board of trustees may amend our declaration of trust without shareholder approval to:
§change our name;
§increase or decrease the aggregate number of shares;
§increase or decrease the number of the shares of any class or series that we have the authority to issue;
§effect certain reverse stock splits; or
§qualify as a REIT under the Internal Revenue Code or the Maryland REIT Law;
·our termination; and
·certain mergers, consolidations and sales or other dispositions of all or substantially all of our assets.

 

All other matters are subject to the discretion of our board of trustees.

 

Our board of trustees may change the methods of implementing our investment policies and objectives without shareholder approval, which could alter the nature of a shareholder’s investment.

 

Our investment policies may change over time, and the methods of implementing our investment policies may also vary, as new investment techniques are developed. The methods of implementing our investment policies, objectives and procedures may be altered by our board of trustees without the approval of our shareholders. As a result, the nature of our shareholders’ investment could change without their consent.

 

Payment of fees to our Advisor and its affiliates will reduce cash available for investment and distribution.

 

Our Advisor and its affiliates will perform services for us in connection with the selection and acquisition of our investments and the administration of our investments. They will be paid substantial fees for these services, which will reduce the amount of cash available for investment in properties or distribution to shareholders.

 

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We are under no obligation to continue to pay cash distributions. Distributions have been, and may continue to be, paid from capital and there can be no assurance that we will be able to pay or maintain cash distributions, or that distributions will increase over time.

 

There are many factors, including factors beyond our control that can affect the availability and timing of cash distributions to shareholders. Distributions are based principally on cash available from our loans, real estate securities, property acquisitions and other investments. The amount of cash available for distributions will be affected by our ability to invest in real estate properties, secured loans, mezzanine loans or participations in loans as offering proceeds become available, the yields on the secured loans in which we invest, amounts set aside to create a retained earnings reserve and our operating expense levels, as well as many other variables. Actual cash available for distributions may vary substantially from estimates. We are under no obligation to pay cash distributions and we can provide no assurance that we will be able to continue to pay or maintain distributions or that distributions will increase over time. Nor can we give any assurance that income from the properties we purchase or the loans we make or acquire, or in which we participate, will increase or that future investments will increase our cash available for distributions to shareholders. Our actual results may differ significantly from the assumptions used by our board of trustees in establishing the distribution rate to shareholders. In addition, our board of trustees, in its discretion, may reinvest or retain for working capital any portion of our cash on hand. We cannot assure our shareholders that sufficient cash will be available to continue to pay distributions to them.

 

Adverse market and economic conditions will negatively affect our returns and profitability.

 

Our results are sensitive to changes in market and economic conditions such as the level of employment, consumer confidence, consumer income, the availability of consumer and commercial financing, interest rate levels, supply of new and existing homes, supply of finished lots and the costs associated with constructing new homes and developing land. We may be affected by market and economic challenges, including the following, any of which may result from a continued or exacerbated general economic slowdown experienced by the nation as a whole or by the local economies where properties subject to our secured loans may be located:

 

·poor economic conditions may result in a slowing of new home sales and corresponding lot purchases by builders resulting in defaults by borrowers under our secured loans;
·job transfers and layoffs may cause new home sales to decrease;
·lack of liquidity in the secondary mortgage market;
·tighter credit standards for home buyers;
·general unavailability of commercial credit; and
·illiquidity of financial institutions.

 

The length and severity of any economic downturn cannot be predicted. Our operations could be negatively affected to the extent that an economic downturn is prolonged or becomes more severe.

 

The failure of any bank in which we deposit our funds could reduce the amount of cash we have available to pay distributions and make additional investments.

 

We diversify our cash and cash equivalents among several banking institutions in an attempt to minimize exposure to any one of these entities. Periodically, we may have cash and cash equivalents and restricted cash deposited in certain financial institutions in excess of federally insured levels. If any of the banking institutions in which we have deposited funds ultimately fails, we may lose our deposits over any federally insured amount. The loss of our deposits could reduce the amount of cash we have available to distribute or invest and could result in a decline in the value of our shareholders’ investments.

 

Risks Related to the Secured Loan Lending Business

 

Defaults on our secured loans will reduce our income and shareholders’ distributions.

 

Because a significant number of our assets are secured loans, failure of a borrower to pay interest or repay a loan will have adverse consequences on our income. For example,

 

·failure by a borrower to repay loans or interest on loans will reduce our income and, consequently, distributions to our shareholders;
·we may not be able to resolve the default prior to foreclosure of the property securing the loan;
·we may be required to expend substantial funds for an extended period to complete or develop foreclosed properties;
·the subsequent income and sale proceeds we receive from the foreclosed properties may be less than competing investments; and
·the proceeds from sales of foreclosed properties may be less than our investment in the properties.

 

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Investments in land development loans present additional risks compared to loans secured by operating properties.

 

We may invest in loans to purchase unimproved real property. As of December 31, 2014, we have invested 0% of our assets in such loans. Unimproved real property is generally defined as real property which has the following three characteristics: (a) an equity interest in real property which was not acquired for the purpose of producing rental or other income; (b) has no development or construction in process on such land; and (c) no development or construction on such land is planned in good faith to commence within one year. Land development mortgage loans may be riskier than loans secured by improved properties, because:

 

·until disposition, the property does not generate separate income for the borrower to make loan payments;
·the completion of planned development may require additional development financing by the borrower, which may not be available;
·depending on the velocity or amount of lot sales to homebuilders, demand for lots may decrease, causing the price of the lots to decrease;
·depending on the velocity or amount of lot sales to developers or homebuilders, demand for land may decrease, causing the price of the land to decrease;
·there is no assurance that we will be able to sell unimproved land promptly if we are forced to foreclose upon it; and
·lot sale contracts are generally not “specific performance” contracts, and the borrower may have no recourse if a homebuilder elects not to purchase lots.

 

Investments in second, mezzanine and wraparound mortgage loans present additional risks compared to loans secured by first deeds of trust.

 

We expect that we will be the junior lender with respect to some of our loans. We may invest in (a) second mortgage loans (some of which are also secured by pledges), which investments represent approximately 43% of our outstanding loans as of December 31, 2014; (b) co-investment loans (which are secured by pledges and collateral-sharing arrangements permitting us to share in the proceeds of second liens held by affiliates), which investments represent 0% of our outstanding loans as of December 31, 2014; (c) mezzanine loans (which are secured by pledges), which investments represent approximately 2% of our outstanding loans as of December 31, 2014; and (d) wraparound mortgage loans, which investments represent 0% of our outstanding loans as of December 31, 2014. A wraparound, or all-inclusive, mortgage loan is a loan in which the lender combines the remainder of an old loan with a new loan at an interest rate that blends the rate charged on the old loan with the current market rate. In a second mortgage loan and in a mezzanine loan, our rights as a lender, including our rights to receive payment on foreclosure, will be subject to the rights of the prior mortgage lender. In a wraparound mortgage loan, our rights will be similarly subject to the rights of any prior mortgage lender, but the aggregate indebtedness evidenced by our loan documentation will be the prior mortgage loans in addition to the new funds we invest. Under a wraparound mortgage loan, we would receive all payments from the borrower and forward to any senior lender its portion of the payments we receive. Because all of these types of loans are subject to the prior mortgage lender’s right to payment on foreclosure, we incur a greater risk when we invest in each of these types of loans.

 

Credit enhancements provided by us are subject to specific risks relating to the particular borrower and are subject to the general risks of investing in residential real estate.

 

We may provide credit enhancements to real estate developers, homebuilders, land bankers and other real estate investors (such credit enhancements may take the form of a loan guarantee, the pledge of assets, a letter of credit or an inter-creditor agreement provided by us to a third-party lender for the benefit of a borrower and are intended to enhance the creditworthiness of the borrower, thereby affording the borrower credit at terms it would otherwise be unable to obtain). Our provision of credit enhancements will involve special risks relating to the particular borrower under the third-party loan, including the financial condition and business outlook of the borrower. In addition, the borrowers who receive our credit enhancements are subject to the inherent risks associated with residential real estate.

 

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Substantially all of our loans require balloon payments, which are riskier than loans with fully amortized payments.

 

We anticipate that substantially all of our loans will have balloon payments or reductions to principal tied to net cash from the sale of developed lots and the release formula created by the senior lender (the conditions under which principal is repaid to the senior lender, if any). As of December 31, 2014, 100% of our loans have balloon payments or reductions to principal tied to net cash. A balloon payment is a large principal balance that is payable after a period of time during which the borrower has repaid none or only a small portion of the principal balance. Loans with balloon payments are riskier than loans with even payments of principal over an extended time period, such as 15 or 30 years, because the borrower’s repayment often depends on its ability to refinance the loan or sell the developed lots profitably when the loan comes due. There are no specific criteria used in evaluating the credit quality of borrowers for mortgage loans requiring balloon payments. Furthermore, a substantial period of time may elapse between the review of the financial statements of the borrower and the date when the balloon payment is due. As a result, there is no assurance that a borrower will have sufficient resources to make a balloon payment when due.

 

The interest-only loans we make or acquire may be subject to greater risk of default and there may not be sufficient funds or assets remaining to satisfy our loans, which may result in losses to us.

 

We will make and acquire interest-only loans or loans requiring reductions to accrued interest tied to net cash, and as of December 31, 2014, 100% of the loans we have made and acquired are interest-only loans or loans requiring reductions to accrued interest tied to net cash. Interest-only loans typically cost the borrower less in monthly loan payments than fully-amortizing loans which require a payment on principal as well as interest. This lower cost may enable a borrower to acquire a more expensive property than if the borrower was entering into a fully-amortizing mortgage loan. Borrowers utilizing interest-only loans are dependent on the appreciation of the value of the underlying property, and the sale or refinancing of such property, to pay down the interest-only loan since none of the principal balance is being paid down with the borrowers monthly payments. If the value of the underlying property declines due to market or other factors, it is likely that the borrower would hold a property that is worth less than the mortgage balance on the property. Thus, there may be greater risk of default by borrowers who enter into interest-only loans. In addition, interest-only loans include an interest reserve in the loan amount. If such reserve is required to be funded due to a borrower’s non-payment, the loan-to-value ratio for that loan will increase, possibly above generally acceptable levels. In the event of a defaulted interest-only loan, we would acquire the underlying collateral which may have declined in value. In addition, there are significant costs and delays associated with the foreclosure process. Any of these factors may result in losses to us.

 

Larger loans result in less portfolio diversity and may increase risk.

 

We intend to invest in individual loans with principal amounts generally between $2.5 million and $15 million. However, we may invest in larger loans depending on such factors as our performance and the value of the collateral. These larger loans are riskier because they may reduce our ability to diversify our loan portfolio. As of December 31, 2014, we have invested approximately 6% of the outstanding balance of our portfolio in our largest loan to a single borrower.

 

The concentration of loans with a common borrower may increase our risks.

 

We may invest in multiple mortgage loans that share a common borrower or loans to related borrowers. As of December 31, 2014, we have invested approximately 61% of the outstanding balance of our portfolio in 74 loans to our largest group of related borrowers. The bankruptcy, insolvency or other inability of any borrower that is the subject of multiple loans to pay interest or repay principal on its loans would have adverse consequences on our income and reduce the amount of funds available for distribution to investors. In addition, we expect to be dependent on a limited number of borrowers for a large portion of our business. The more concentrated our portfolio is with one or a few borrowers, the greater credit risk we face. The loss of any one of these borrowers would have a material adverse effect on our financial condition and results of operations.

 

We have made a loan which is not secured by real estate or pledges of equity interests, and we may make additional unsecured loans in the future.

 

On August 29, 2014, we made an $11.5 million unsecured subordinate loan to BRHG, an affiliated party, for the purpose of partially financing the acquisition by BRHG of Scott Felder Homes, a homebuilder operating in the Austin and San Antonio, Texas markets. Our loan is not secured by real estate or by a pledge of the equity interest in the borrower. Loans that are not secured are inherently riskier than secured loans. In the event that Scott Felder Homes performs poorly, the borrower may be unable to repay our loan, and our results of operations and our ability to pay distributions to our shareholders could be adversely affected.

 

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Incorrect or changed property values could result in losses and decreased distributions to our shareholders.

 

We depend primarily upon our real estate security to protect us on the loans that we make. We depend partly upon the skill of independent appraisers to value the security underlying our loans and partly upon our Advisor’s internal underwriting and appraisal process. Notwithstanding the experience of the appraisers selected by our Advisor, they or our Advisor may make mistakes, and regardless of decisions made at the time of funding, market conditions may deteriorate for various reasons, causing a decrease to the value of the security for our loans. As a result, there may be less security than anticipated at the time the loan was originally made. If there is less security and a default occurs, we may not recover the full amount of our loan, thus reducing the amount of funds available to distribute to our shareholders.

 

Changes in market interest rates may reduce our income and distributions to our shareholders.

 

A substantial portion of our loans are fixed-interest rate loans. Market interest rates on investments comparable to the shares could materially increase above the general level of our fixed-rate loans. Our distributions could then be less than the yield our shareholders may obtain from these other investments. We will also make loans with variable interest rates, which will cause variations in the yield to us from these loans. We may make loans with interest rate guarantee provisions in them, requiring a minimum period of months or years of earned interest even if the loan is paid off during the guarantee period. The duration of the guarantee is subject to negotiation and will likely vary from loan to loan. Other than these provisions, the majority of our loans will not include prepayment penalties for a borrower paying off a loan prior to maturity. The absence of a prepayment penalty in our loans may lead borrowers to refinance higher interest rate loans in a market of falling interest rates. This would then require us to reinvest the prepayment proceeds in loans or alternative short-term investments with lower interest rates and a corresponding lower yield to our shareholders. All of these risks increase as the length of maturity of a loan increases and the amount of cash available for new higher interest loans decreases. A material increase in market interest rates could result in a decrease in the supply of suitable secured loans to us, as there will likely be fewer attractive transactions for borrowers and less activity in the marketplace.

 

Some losses that borrowers might incur may not be insured and may result in defaults that would increase our shareholders’ risk.

 

Our loans require that borrowers of interim construction loans carry adequate hazard insurance for our benefit. Some events are, however, either uninsurable or insurance coverage is economically not practicable. Losses from earthquakes, floods or mudslides, for example, may be uninsured and cause losses to us on entire loans. If a borrower allows insurance to lapse, an event of loss could occur before we become aware of the lapse and have time to obtain insurance ourselves. Insurance coverage may be inadequate to cover property losses, even though our Advisor imposes on borrowers insurance requirements that it believes are adequate.

 

Foreclosures create additional ownership risks to us of unexpected increased costs or decreased income.

 

When we acquire property by foreclosure, we have economic and liability risks as the owner, including:

 

·less income and reduced cash flows on foreclosed properties than could be earned and received on secured loans;
·selling the homes or lots to homebuyers or homebuilders;
·selling the land to developers, homebuilders or other real estate investors;
·controlling construction or development and holding expenses;
·coping with general and local market conditions;
·complying with changes in laws and regulations pertaining to taxes, use, zoning and environmental protection; and
·possible liability for injury to persons and property.

 

If any of these risks were to materialize, then the return on the particular investment could be reduced, and our business, financial condition and results of operations could be adversely affected.

 

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If we were found to have violated applicable usury laws, we would be subject to penalties and other possible risks.

 

Usury laws generally regulate the amount of interest that may lawfully be charged on indebtedness. Each state has its own distinct usury laws. We believe that our loans will not violate applicable usury laws (as of December 31, 2014, the highest interest rate we have charged on an annualized basis is 15%). There is a risk, however, that a court could determine that our loans do violate applicable usury laws. If we were found to have violated applicable usury laws, we could be subject to penalties, including fines equal to three times the amount of usurious interest collected and restitution to the borrower. Additionally, usury laws often provide that a loan that violates usury laws is unenforceable. If we are subject to penalties or restitution or if our loan agreements are adjudged unenforceable by a court, it would have a material, adverse effect on our business, financial condition and results of operations and we would have difficulty making distributions to our shareholders.

 

General Risks Related to Investments in Real Estate 

 

Our operating results may be affected by economic and regulatory changes that have an adverse impact on the real estate market in general.

 

Our operating results are subject to risks generally incident to the ownership of assets related to the real estate industry, including:

 

·changes in interest rates and availability of permanent mortgage funds;
·changes in general economic or local conditions;
·changes in tax, real estate, environmental and zoning laws; and
·periods of high interest rates and tight money supply.

 

For these and other reasons, we cannot assure our shareholders that we will be profitable or that we will realize growth in the amount of income we receive from our investments.

 

We borrow money to make loans or purchase some of our real estate assets. If we fail to obtain or renew sufficient funding on favorable terms, we will be limited in our ability to make loans or purchase assets, which will harm our results of operations. Furthermore, our shareholders’ risks will increase if defaults occur.

 

We have incurred and may continue to incur substantial debt. Our board of trustees has adopted a policy to generally limit our borrowings to 50% of the aggregate fair market value of our real estate properties or secured loans unless substantial justification exists that borrowing a greater amount is in our best interests. Generally, loans we obtain are secured with recourse to all of our assets, which will put those assets at risk of forfeiture if we are unable to pay our debts.

 

Our ability to achieve our investment objectives depends, in part, on our ability to borrow money in sufficient amounts and on favorable terms. We expect to depend on a few lenders to provide the primary credit facilities for our investments. In addition, our existing indebtedness may limit our ability to make additional borrowings. If our lenders do not allow us to renew our borrowings or we cannot replace maturing borrowings on favorable terms or at all, we might have to sell our investment assets under adverse market conditions, which would harm our results of operations and may result in permanent losses. In addition, loans we obtain may be secured by all of our assets, which will put those assets at risk of forfeiture if we are unable to pay our debts.

 

Dislocations in the credit markets and real estate markets could have a material adverse effect on our results of operations, financial condition and ability to pay distributions to our shareholders.

 

Domestic and international financial markets recently experienced significant dislocations which were brought about in large part by failures in the U.S. banking system. These dislocations have severely impacted the availability of credit and have contributed to rising costs associated with obtaining credit. If debt financing is not available on terms and conditions we find acceptable, we may not be able to obtain financing for investments. If this dislocation in the credit markets persists, our ability to borrow monies to finance investments in real estate assets will be negatively impacted. If we are unable to borrow monies on terms and conditions that we find acceptable, we likely will have to reduce the number of real estate investments we can make, and the return on the investments we do make likely will be lower. All of these events could have an adverse effect on our results of operations, financial condition and ability to pay distributions.

 

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Our operating results may be negatively affected by potential development and construction delays and resultant increased costs and risks.

 

We may provide financing for borrowers that will develop and construct improvements to land at a fixed contract price. We will be subject to risks relating to uncertainties associated with re-zoning for development and environmental concerns of governmental entities and/or community groups, as well as our borrower’s ability to control land development costs or to build infrastructure in conformity with plans, specifications and timetables deemed necessary by builders. The borrower’s failure to perform may necessitate legal action by us to compel performance. Performance may also be affected or delayed by conditions beyond the borrower’s control. Delays in completion of construction could also give builders the right to terminate preconstruction lot purchase contracts. These and other such factors can result in increased costs to the borrower that may make it difficult for the borrower to make payments to us. Furthermore, we must rely upon projections of lot take downs, expenses and estimates of the fair market value of property when evaluating whether to make loans. If our projections are inaccurate, and we are forced to foreclose on a property, our return on our investment could suffer.

 

The costs of compliance with environmental laws and other governmental laws and regulations may adversely affect our income and the cash available for any distributions.

 

All real property and the operations conducted on real property are subject to federal, state and local laws, ordinances and regulations relating to environmental protection and human health and safety. These laws and regulations generally govern wastewater discharges; air emissions; the operation and removal of underground and above-ground storage tanks; the use, storage, treatment, transportation and disposal of solid and hazardous materials and the remediation of contamination associated with disposals. Under limited circumstances, a secured lender, in addition to the owner of real estate, may be liable for clean-up costs or have the obligation to take remedial actions under environmental laws, including, but not limited to, CERCLA. Some of these laws and regulations may impose joint and several liability for the costs of investigation or remediation of contaminated properties, regardless of fault or the legality of the original disposal. In addition, the presence of these substances, or the failure to properly remediate these substances, may adversely affect our ability to sell such property or to use the property as collateral for future borrowing.

 

If we foreclose on a defaulted loan to recover our investment, we may become subject to environmental liabilities associated with that property if we participate in the management of that property or do not divest ourselves of the property at the earliest practicable time on commercially reasonable terms. Environmental laws may impose restrictions on the manner in which property may be used or businesses may be operated, and these restrictions may require substantial expenditures. It is possible that property on which we foreclose may contain hazardous substances, wastes, contaminants or pollutants that we may be required to remove or remediate in order to clean up the property. If we foreclose on a contaminated property, we may also incur liability to tenants or other users of neighboring properties. We cannot assure our shareholders that we will not incur full recourse liability for the entire cost of removal and cleanup, that the cost of such removal and cleanup will not exceed the value of the property, or that we will recover any of these costs from any other party. It may be difficult or impossible to sell a property following discovery of hazardous substances or wastes on the property. The cost of defending against claims of liability, compliance with environmental regulatory requirements, remediating any contaminated property, or paying personal injury claims could materially adversely affect our business, assets or results of operations and, consequently, amounts available for distribution to our shareholders.

 

Terrorist attacks or other acts of violence or war may affect the industry in which we operate, our operations and our profitability.

 

Terrorist attacks may harm our results of operations and our shareholders’ investments. We cannot assure our shareholders that there will not be further terrorist attacks against the United States or U.S. businesses. These attacks or armed conflicts may directly or indirectly impact the value of the property we own or the property underlying our loans. Losses resulting from these types of events are generally uninsurable. Moreover, any of these events could cause consumer confidence and spending to decrease or result in increased volatility in the United States and worldwide financial markets. They could also result in economic uncertainty in the United States or abroad. Adverse economic conditions resulting from terrorist activities could negatively impact borrowers’ ability to repay loans we make to them or harm the value of the property underlying our investments, both of which would impair the value of our investments and decrease our ability to make distributions to our shareholders.

 

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We are subject to risks related to the geographic concentration of the properties securing the loans and equity investments we make.

 

Although we may purchase loans and make investments throughout the contiguous United States, the majority of our investments are in the Southeastern and Southwestern United States, with a near term concentration of all of our investing and lending in the major Texas submarkets (approximately 98%, as of December 31, 2014). However, if the residential real estate market or general economic conditions in these geographic areas decline to an extent greater than we forecast, or recover to a lesser extent than we forecast, our and our borrowers’ ability to sell homes, lots and land located in these areas may be impaired, we may experience a greater rate of default on the loans or other investments we make with respect to real estate in these areas, and the value of the homes and parcels in which we invest and which are underlying our investments in these areas could decline. Any of these events could materially adversely affect our business, financial condition or results of operations.

 

We are subject to a number of legal and regulatory requirements, including regulations regarding interest rates, mortgage laws, securities laws and the taxation of REITs or business trusts, which may adversely affect our operations.

 

Federal and state lending laws and regulations generally regulate interest rates and many other aspects of real estate loans and contracts. Violations of those laws and regulations could materially adversely affect our business, financial condition and results of operations. We cannot predict the extent to which any law or regulation that may be enacted or enforced in the future may affect our operations. In addition, the costs to comply with these laws and regulations may adversely affect our profitability. Future changes to the laws and regulations affecting us, including changes to mortgage laws, securities laws and the Internal Revenue Code applicable to the taxation of REITs or business trusts, could make it more difficult or expensive for us to comply with such laws or otherwise harm our business.

 

Federal Income Tax Risks

 

Failure to maintain our REIT status would adversely affect our operations and our ability to make distributions.

 

We made an election under Section 856(c) of the Internal Revenue Code to be taxed as a REIT, beginning with the taxable year ended December 31, 2010. In order for us to continue to qualify as a REIT, we must satisfy certain requirements set forth in the Internal Revenue Code and treasury regulations promulgated thereunder and various factual matters and circumstances that are not entirely within our control. We structure our activities in a manner designed to satisfy all of these requirements. However, if certain of our operations were to be recharacterized by the Internal Revenue Service, such recharacterization could jeopardize our ability to satisfy all of the requirements for qualification as a REIT.

 

If we fail to qualify as a REIT for any taxable year, we will be subject to federal income tax on our taxable income at corporate rates. In addition, we may be disqualified from treatment as a REIT for the four taxable years following the year of losing our REIT status. Losing our REIT status would reduce our net earnings available for investment or distribution to shareholders because of the additional tax liability. In addition, distributions to shareholders would no longer qualify for the distributions paid deduction, and we would no longer be required to make distributions. If this occurs, we might be required to borrow funds or liquidate some investments in order to pay the applicable tax.

 

Qualification as a REIT is subject to the satisfaction of tax requirements and various factual matters and circumstances that are not entirely within our control. New legislation, regulations, administrative interpretations or court decisions could change the tax laws with respect to qualification as a REIT or the federal income tax consequences of being a REIT. Our failure to continue to qualify as a REIT would adversely affect our shareholders’ returns on their investments.

 

Our investment strategy may cause us to incur penalty taxes, lose our REIT status, or own and sell properties through taxable REIT subsidiaries, each of which would diminish the return to our shareholders.

 

In light of our investment strategy, it is possible that one or more sales of our properties may be “prohibited transactions” under provisions of the Internal Revenue Code. If we are deemed to have engaged in a “prohibited transaction” (i.e., we sell a property held by us primarily for sale in the ordinary course of our trade or business), all income that we derive from such sale would be subject to a 100% tax. The Internal Revenue Code sets forth a safe harbor for REITs that wish to sell property without risking the imposition of the 100% tax. A principal requirement of the safe harbor is that the REIT must hold the applicable property for not less than two years prior to its sale. Given our investment strategy, it is entirely possible, if not likely, that the sale of one or more of our properties will not fall within the prohibited transaction safe harbor.

 

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If we acquire a property that we anticipate will not fall within the safe harbor from the 100% penalty tax upon disposition, then we may acquire such property through a TRS in order to avoid the possibility that the sale of such property will be a prohibited transaction and subject to the 100% penalty tax. If we already own such a property directly or indirectly through an entity other than a TRS, we may contribute the property to a TRS if there is another, non-tax related business purpose for the contribution of such property to the TRS. Following the transfer of the property to a TRS, the TRS will operate the property and may sell such property and distribute the net proceeds from such sale to us, and we may distribute the net proceeds distributed to us by the TRS to our shareholders. However, there may be circumstances that prevent us from using a TRS in a transaction that does not qualify for the safe harbor. Additionally, even if it is possible to effect a property disposition through a TRS, we may decide to forego the use of a TRS in a transaction that does not meet the safe harbor based on our own internal analysis, the opinion of counsel or the opinion of other tax advisors that the disposition will not be subject to the 100% penalty tax. In cases where a property disposition is not effected through a TRS, the Internal Revenue Service could successfully assert that the disposition constitutes a prohibited transaction, in which event all of the net income from the sale of such property will be payable as a tax and none of the proceeds from such sale will be distributable by us to our shareholders or available for investment by us.

 

Though a sale of the property by a TRS may eliminate the danger of the application of the 100% penalty tax, the TRS itself would be subject to a tax at the federal level, and potentially at the state and local levels, on the gain realized by it from the sale of the property, as well as on the income earned while the property is operated by the TRS. This tax obligation would diminish the amount of the proceeds from the sale of such property that would be distributable to our shareholders. As a result, the amount available for distribution to our shareholders would be substantially less than if the REIT had not operated and sold such property through the TRS and such transaction was not characterized as a prohibited transaction. The maximum federal corporate income tax rate currently is 35%. Federal, state and local corporate income tax rates may be increased in the future, and any such increase would reduce the amount of the net proceeds available for distribution by us to our shareholders from the sale of property through a TRS after the effective date of any increase in such tax rates.

 

As a REIT, the value of the securities we hold in all of our TRSs may not exceed 25% of the value of all of our assets at the end of any calendar quarter. If the Internal Revenue Service were to determine that the value of our interests in all of our TRSs exceeded 25% of the value of total assets at the end of any calendar quarter, then we would fail to qualify as a REIT. If we determine it to be in our best interests to own a substantial number of our properties through one or more TRSs, then it is possible that the Internal Revenue Service may conclude that the value of our interests in our TRSs exceeds 25% of the value of our total assets at the end of any calendar quarter and therefore cause us to fail to qualify as a REIT. Additionally, as a REIT, no more than 25% of our gross income with respect to any year may be from sources other than real estate. Distributions paid to us from a TRS are considered to be non-real estate income. Therefore, we may fail to qualify as a REIT if distributions from all of our TRSs, when aggregated with all other non-real estate income with respect to any one year, are more than 25% of our gross income with respect to such year. We will use all reasonable efforts to structure our activities in a manner that satisfies the requirements for qualification as a REIT. Our failure to qualify as a REIT would adversely affect our shareholders’ returns on their investments.

 

Certain fees paid to us may affect our REIT status.

 

Certain fees and income we receive could be characterized by the Internal Revenue Service as non-qualifying income for purposes of satisfying the “income tests” required for REIT qualification. If this fee income were, in fact, treated as non-qualifying, and if the aggregate of such fee income and any other non-qualifying income in any taxable year ever exceeded 5% of our gross revenues for such year, we could lose our REIT status for that taxable year and the four ensuing taxable years. We will use all reasonable efforts to structure our activities in a manner that satisfies the requirements for our qualification as a REIT. Our failure to qualify as a REIT would adversely affect our shareholders’ returns on their investments.

 

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Shareholders may have tax liability on distributions they elect to reinvest in our common shares of beneficial interest, and they may have to use funds from other sources to pay such tax liability.

 

If shareholders elect to have their distributions reinvested in our common shares of beneficial interest pursuant to our distribution reinvestment plan, they will be deemed to have received, and for income tax purposes will be taxed on, the amount reinvested that does not represent a return of capital. As a result, unless a shareholder is a tax-exempt entity, a shareholder may have to use funds from other sources to pay their tax liability on the distributions reinvested in our shares.

 

If our operating partnership fails to maintain its status as a partnership, its income may be subject to taxation, which would reduce our cash available for distribution to our shareholders.

 

We intend to maintain the status of our operating partnership, UDF IV OP, as a partnership for federal income tax purposes. However, if the Internal Revenue Service were to successfully challenge the status of the operating partnership as a partnership, it would be taxable as a corporation. In such event, this would reduce the amount of distributions that the operating partnership could make to us. This would also result in our losing REIT status, and becoming subject to a corporate level tax on our own income. This would substantially reduce our cash available to make distributions and the return on our shareholders’ investments. In addition, if any of the partnerships or limited liability companies through which the operating partnership owns its properties, in whole or in part, loses its characterization as a partnership for federal income tax purposes, it would be subject to taxation as a corporation, thereby reducing distributions to the operating partnership. Such a recharacterization of an underlying property owner could also threaten our ability to maintain REIT status.

 

In certain circumstances, we may be subject to federal and state taxes on income as a REIT, which would reduce our cash available for distribution to our shareholders.

 

Even if we maintain our status as a REIT, we may become subject to federal income taxes and related state taxes. For example, if we have net income from a “prohibited transaction,” such income will be subject to a 100% tax. We may not be able to make sufficient distributions to avoid excise taxes applicable to REITs. We may also decide to retain income we earn from the interest on our secured loans or the sale or other disposition of our property and pay income tax directly on such income. In that event, our shareholders would be treated as if they earned that income and paid the tax on it directly. However, shareholders that are tax-exempt, such as charities or qualified pension plans, would have no benefit from their deemed payment of such tax liability. We may also be subject to state and local taxes on our income or property, either directly or at the level of the operating partnership or at the level of the other companies through which we indirectly make secured loans or own our assets. Any federal or state taxes paid by us will reduce our cash available for distribution to our shareholders.

 

Legislative or regulatory action could adversely affect the returns to our investors.

 

In recent years, numerous legislative, judicial and administrative changes have been made in the provisions of the federal income tax laws applicable to investments similar to an investment in our common shares of beneficial interest. On March 30, 2010, the President signed into law the Health Care and Education Reconciliation Act of 2010 (the “Reconciliation Act”). The Reconciliation Act requires certain U.S. shareholders who are individuals, estates or trusts to pay a 3.8% Medicare tax on, among other things, dividends on and capital gains from the sale or other disposition of shares, subject to certain exceptions. This additional tax applies broadly to essentially all dividends and all gains from dispositions of shares, including dividends from REITs and gains from dispositions of REIT shares, such as our common shares of beneficial interest.

 

Additional changes to the tax laws are likely to continue to occur, and we cannot assure investors that any such changes will not adversely affect the taxation of a shareholder. Any such changes could have an adverse effect on an investment in our shares or on the market value or the resale potential of our assets. Investors are urged to consult with their own tax advisor with respect to the impact of recent legislation on their investment in our shares and the status of legislative, regulatory or administrative developments and proposals and their potential effect on an investment in our shares.

 

Congress passed major federal tax legislation in 2003, with modifications to that legislation in 2005 and an extension of that legislation by the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010. One of the changes effected by that legislation generally reduced the maximum tax rate on qualified dividends paid by corporations to individuals to 15% through 2012. On January 3, 2013, President Obama signed into law the American Taxpayer Relief Act of 2012, extending such 15% qualified dividend rate for 2013 and subsequent taxable years for those unmarried individuals with income under $400,000 and for married couples with income under $450,000. For those with income above such thresholds, the qualified dividend rate is 20%. REIT distributions, however, generally do not constitute qualified dividends and consequently are not eligible for this reduced maximum tax rate. Therefore, our shareholders will pay federal income tax on our distributions (other than capital gains dividends or distributions which represent a return of capital for tax purposes) at the applicable “ordinary income” rate, the maximum of which is currently 39.6%. However, as a REIT, we generally would not be subject to federal or state corporate income taxes on that portion of our ordinary income or capital gain that we distribute currently to our shareholders, and we thus expect to avoid the “double taxation” to which other companies are typically subject.

 

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Although REITs continue to receive substantially better tax treatment than entities taxed as corporations, it is possible that future legislation would result in a REIT having fewer tax advantages, and it could become more advantageous for a company that invests in real estate to elect to be taxed for federal income tax purposes as a corporation. As a result, our declaration of trust provides our board of trustees with the power, under certain circumstances, to revoke or otherwise terminate our REIT election and cause us to be taxed as a corporation, without the vote of our shareholders. Our board of trustees has fiduciary duties to us and our shareholders and could only cause such changes in our tax treatment if it determines in good faith that such changes are in the best interest of our shareholders.

 

Equity participation in secured loans may result in taxable income and gains from these properties, which could adversely impact our REIT status.

 

If we participate under a secured loan in any appreciation of the properties securing the secured loan or its cash flow and the Internal Revenue Service characterizes this participation as “equity,” we might have to recognize income, gains and other items from the property. This could affect our ability to qualify as a REIT.

 

Distributions to tax-exempt investors may be classified as UBTI and tax-exempt investors would be required to pay tax on such income and to file income tax returns.

 

Neither ordinary nor capital gain distributions with respect to our common shares of beneficial interest nor gain from the sale of shares should generally constitute UBTI to a tax-exempt investor. However, there are certain exceptions to this rule, including:

 

·under certain circumstances, part of the income and gain recognized by certain qualified employee pension trusts with respect to our shares may be treated as UBTI if our shares are predominately held by qualified employee pension trusts, such that we are a “pension-held” REIT (which we do not expect to be the case);
·part of the income and gain recognized by a tax-exempt investor with respect to our shares would constitute UBTI if such investor incurs debt in order to acquire the common shares of beneficial interest; and
·part or all of the income or gain recognized with respect to our common shares of beneficial interest held by social clubs, voluntary employee benefit associations, supplemental unemployment benefit trusts and qualified group legal services plans which are exempt from U.S. federal income taxation under Sections 501(c)(7), (9), (17) or (20) of the Internal Revenue Code may be treated as UBTI.

 

Distributions to foreign investors may be treated as ordinary income distributions to the extent that they are made out of current or accumulated earnings and profits.

 

In general, foreign investors will be subject to regular U.S. federal income tax with respect to their investment in our shares if the income derived therefrom is “effectively connected” with the foreign investor’s conduct of a trade or business in the United States. A distribution to a foreign investor that is not attributable to gain realized by us from the sale or exchange of a “U.S. real property interest” within the meaning of the Foreign Investment in Real Property Tax Act of 1980, as amended (“FIRPTA”), and that we do not designate as a capital gain dividend, will be treated as an ordinary income distribution to the extent that it is made out of current or accumulated earnings and profits (as determined for U.S. federal income tax purposes). Generally, any ordinary income distribution will be subject to a U.S. withholding tax equal to 30% of the gross amount of the distribution, unless this tax is reduced by the provisions of an applicable treaty.

 

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Foreign investors may be subject to FIRPTA tax upon the sale of their shares.

 

A foreign investor disposing of a U.S. real property interest, including shares of a U.S. entity whose assets consist principally of U.S. real property interests, is generally subject to FIRPTA tax on the gain recognized on the disposition. Such FIRPTA tax does not apply, however, to the disposition of shares in a REIT if the REIT is “domestically controlled.” A REIT is “domestically controlled” if less than 50% of the REIT’s shares, by value, have been owned directly or indirectly by persons who are not qualifying U.S. persons during a continuous five-year period ending on the date of disposition or, if shorter, during the entire period of the REIT’s existence. While we intend to qualify as “domestically controlled,” we cannot assure shareholders that we will. If we were to fail to so qualify, gain realized by foreign investors on a sale of our shares would be subject to FIRPTA tax, unless the shares were traded on an established securities market and the foreign investor did not at any time during a specified testing period directly or indirectly own more than 5% of the value of our outstanding common shares of beneficial interest.

 

Foreign investors may be subject to FIRPTA tax upon the payment of a capital gain distribution.

 

A foreign investor also may be subject to income tax under FIRPTA tax upon the payment of any capital gain distribution by us that is attributable to gain from sales or exchanges of U.S. real property interests. Under FIRPTA, such distributions are taxed as though the foreign investor were engaged in a trade or business and the distributions constituted income that was effectively connected with such trade or business. A REIT is generally required to withhold 35% of all capital gain distributions paid to foreign investors to the extent attributable to gain from sales or exchanges of U.S. real property interests.

 

We encourage foreign investors to consult their tax advisor to determine the tax consequences applicable to them.

 

Item 1B. Unresolved Staff Comments.

 

Not applicable.

 

Item 2. Properties.

 

We do not maintain any physical properties except for the lot inventory owned by certain of our subsidiaries. Our operations are conducted at the corporate offices of our Advisor at 1301 Municipal Way, Grapevine, Texas 76051. For further discussion of our lot inventory, see Note B to the accompanying consolidated financial statements.

 

Item 3. Legal Proceedings.

 

In the ordinary course of business, the Trust may become subject to litigation or claims. There are no material pending or threatened legal proceedings known to be contemplated against the Trust.

 

Item 4. Mine Safety Disclosures.

 

Not applicable.

 

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Part II

 

Item 5. Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities.

 

Market Information

 

Our shares began trading on the NASDAQ under the symbol "UDF" on June 4, 2014. On March 4, 2015, the closing price of our shares, as reported on the NASDAQ, was $17.33 per share. The following table sets forth, for the periods indicated, the high and low closing sales prices per share for our shares, and the dividends paid with respect to such shares for the periods indicated.

 

Quarter ended  High   Low   Closing   Distributions
declared per
share
 
March 31, 2013 (1)  $-   $-   $-   $0.46(3)(4)
June 30, 2013 (1)  $-   $-   $-   $0.41(3)
September 30, 2013 (1)  $-   $-   $-   $0.41(3)
December 31, 2013 (1)  $-   $-   $-   $0.41(3)
March 31, 2014 (1)  $-   $-   $-   $0.41(3)
June 30, 2014 (2)  $19.82   $19.30   $19.50   $0.41(3)(5)
September 30, 2014  $19.94   $18.06   $19.82   $ 0.41(5)
December 31, 2014  $19.95   $16.77   $18.34   $0.45(5)(6)

 

(1)Sales price information unavailable for this period as our shares did not begin trading on NASDAQ until June 4, 2014.

 

(2)Reflects sales price information from June 4, 2014, the date our shares began trading on NASDAQ, through June 30, 2014.

 

(3)Our board of trustees authorized distributions payable to our shareholders on a monthly basis commencing on December 18, 2009. For distributions declared for each record date in the January 2013 through May 2014 periods, our daily distribution rate was $0.0044932 per common share of beneficial interest, which was equal to an annualized distribution rate of $1.64 per share and a quarterly distribution rate of $0.41 per share. These daily distributions were aggregated and paid monthly in arrears on or about the 25th day of each month.

 

(4)Includes a special distribution of $0.05 per share declared on March 6, 2013 and paid on May 17, 2013 to shareholders of record as of April 15, 2013, in addition to the monthly distributions authorized by our board.

 

(5)From June 2014 through December 2014, our board of trustees authorized monthly distributions of $0.1367 per common share of beneficial interest paid on or about the 25th day of each month to shareholders of record on or about the 15th day of each month, which is equal to an annualized distribution rate of $1.64 per share and a quarterly distribution rate of $0.41 per share.

 

(6)Includes a special distribution of $0.04 per share declared on November 17, 2014 and paid on February 4, 2015 to shareholders of record as of November 28, 2014, in addition to the monthly distributions authorized by our board.

 

On January 5, 2015, our board of trustees authorized monthly distributions of $0.1367 per share for the first quarter of 2015 payable on January 26, February 25 and March 25, 2015 to shareholders of record at the close of business on January 15, February 13 and March 13, 2015, respectively.

 

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On January 15, 2015, our board of trustees authorized the Trust to repurchase up to $25 million of its common shares of beneficial interest, par value $0.01 per share, in the open market or in privately negotiated transactions at the discretion of management. This authorization is in effect until January 13, 2016, but does not obligate the Trust to purchase any common shares and may be suspended or discontinued at any time. We have not repurchased any shares as the filing date of this Annual Report on Form 10-K in connection with this authorization.

 

Performance Graph

 

The following graph shows our cumulative total shareholder return from the period beginning with our Listing of our common shares on the NASDAQ on June 4, 2014 and ending on December 31, 2014, as compared with the cumulative total return on the Standard & Poor’s 500 Stock Index (“S&P 500”) and with the SNL U.S. Finance REIT Index (“SNL U.S. Finance REIT “). The graph assumes a $100 investment in each of our common shares, the S&P 500 and the SNL U.S. Finance REIT on June 4, 2014 and the reinvestment of all distributions. There can be no assurance that the performance of our common shares will continue in line with the same or similar trends depicted on the graph below. The information in the graph and table below were obtained from SNL Financial LC.

 

 

Holders

 

As of March 4, 2015, there were 1,775 holders of record of the Trust’s 30,635,232 outstanding common shares. One of the holders of record is Cede & Co., which holds shares as nominee for The Depository Trust Company which itself holds shares on behalf of other beneficial owners of our common shares.

 

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Share Redemption Program

 

On May 30, 2014, we announced the termination of our share redemption program, effective upon the Listing. Prior to its termination, our share redemption program enabled our shareholders to sell their shares back to us in limited circumstances. Pursuant to our share redemption program, for the year ended December 31, 2014, we received valid redemption requests relating to 183,166 shares of beneficial interest and we redeemed 106,018 shares of beneficial interest for an aggregate purchase price of $2.0 million (an average redemption price of $18.60 per share). Pursuant to our share redemption program, for the year ended December 31, 2013, we received valid redemption requests relating to 88,376 shares of beneficial interest, all of which were redeemed for an aggregate purchase price of approximately $1.7 million (an average redemption price of approximately $19.33 per share).  Shares redeemed are included in treasury stock in the consolidated balance sheet.

 

Distribution Reinvestment Plan

 

On August 4, 2014, we filed Post-Effective Amendment No. 1 to our Registration Statement on Form S-3 filed on April 19, 2013, in which we originally registered 7,500,000 common shares of beneficial interest to be offered pursuant to our DRIP. Pursuant to this amendment, we began offering common shares of beneficial interest pursuant to our New DRIP in August 2014. The purchase price for shares under the New DRIP will be equal to the current market value of our shares, calculated based upon the average of the open and close prices per share on the distribution payment date, as reported by NASDAQ.

 

Distributions

 

Distributions are authorized at the discretion of our board of trustees, which is directed, in substantial part, by its obligation to cause us to comply with the REIT requirements of the Internal Revenue Code. The funds we receive from operations that are available for distribution may be affected by a number of factors, including the following:

 

·our operating and interest expenses;
·the ability of borrowers to meet their obligations under the loans;
·the amount of distributions or dividends received by us from our indirect real estate investments;
·the ability of our clients to sell finished lots to homebuilders and the ability of homebuilders to sell new homes to home buyers;
·capital expenditures and reserves for such expenditures;
·the issuance of additional shares pursuant to our shelf registration statement; and
·financings and refinancings.

 

We must distribute to our shareholders at least 90% of our taxable income each year in order to meet the requirements for being treated as a REIT under the Internal Revenue Code. In accordance with this requirement, we pay monthly distributions to our shareholders. Our distribution rate is determined quarterly by our board of trustees and is dependent on a number of factors, including funds available for payment of distributions, our financial condition, loan funding commitments and annual distribution requirements needed to maintain our status as a REIT under the Internal Revenue Code. In addition to these distributions, in an effort to ensure we distribute at least 90% of our taxable income, our board of trustees will periodically authorize additional, special distributions. All distributions are paid in cash and New DRIP shares.

 

Securities Authorized For Issuance under Equity Compensation Plans

 

Adoption of Equity Incentive Plans

 

In connection with the Listing, on May 29, 2014, the Board, including a majority of the independent trustees, approved the adoption of equity incentive plans for the Advisor (the “Advisor Equity Plan”), its trustees, officers, advisors and consultants (the “Equity Plan”) and its non-executive trustees (the “Non-Executive Trustee Stock Plan”). These equity incentive plans (collectively, the “Equity Incentive Plans”) are overseen by the Board’s compensation committee, which consists solely of non-executive trustees. Shares issued pursuant to the Equity Incentive Plans are subject to an aggregate limitation of 2,423,284 shares of beneficial interest (7.5% of the number of shares that were issued and outstanding immediately following the approval for listing and trading of the shares on NASDAQ).

 

The Advisor Equity Plan provides for the grant of stock options, restricted common shares, restricted stock units, stock appreciation rights and other equity-based awards to the Advisor. The Advisor may in turn issue such awards to its officers, employees or other consultants in order to promote the success of the Trust.

 

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The Equity Plan provides for the grant of stock options, restricted common shares, restricted stock units, dividend equivalent rights and other equity-based awards to the trustees, officers and other employees and independent contractors, including employees or trustees of the Advisor and its affiliates who are providing services to the Trust.

 

The Non-Executive Trustee Stock Plan provides for the issuance of restricted common shares, restricted stock units, or other equity-based awards to the Trust’s non-executive trustees in order to provide incentives to such trustees to promote the success of the Trust.

 

Share Based Compensation

 

On February 3, 2014, our board of trustees appointed Stacey H. Dwyer as our Chief Operating Officer, effective February 17, 2014. In connection with this appointment, we entered into an employment agreement with Ms. Dwyer effective as of February 17, 2014.

 

Pursuant to her employment agreement, Ms. Dwyer’s compensation includes (a) an initial equity award of 82,410 common shares, one-quarter of which will vest annually over four years, subject to Ms. Dwyer’s continued employment with us through such date and (b) an annual equity grant of 12,500 common shares on each anniversary date of the effective date of the employment agreement, with each annual equity grant vesting five years after the applicable grant date, subject to Ms. Dwyer’s continued employment with us through such date. From the date of grant until such time as they become vested and payable (the “Restricted Period”), the shares granted to Ms. Dwyer pursuant to her employment agreement (the “Restricted Shares”) may not be sold, assigned, transferred or otherwise disposed of. Compensation expense will be recognized on a straight-line basis over the vesting period of each grant. In connection with Restricted Shares granted to Ms. Dwyer, approximately $361,000 in share-based compensation is included in general and administrative expense in the accompanying consolidated statements of income for the year ended December 31, 2014.

 

The following table reflects Restricted Shares that have been granted to Ms. Dwyer and shares that have vested or have been forfeited by Ms. Dwyer for the year ended December 31, 2014.

 

    Restricted
Shares
   Grant Date
Fair Value
Per Share
   Total 
Outstanding as of January 1, 2014    -   $-   $- 
Granted    82,410    20.00    1,648,200 
Vested    -    -    - 
Forfeited    -    -    - 
                  
Outstanding as of December 31, 2014    82,410   $20.00   $1,648,200 

 

As a result of the Listing on June 4, 2014, a total of 15,000 common shares, with a grant date fair value of $20.00 per share, were awarded to members of our board of trustees and a consultant providing services to us pursuant to our Equity Incentive Plans. These shares vested immediately upon issuance. In connection with these shares, $300,000 of share-based compensation is included in listing expense in the accompanying consolidated statements of income for the year ended December 31, 2014.

 

Recent Sales of Unregistered Securities

 

Other than shares issued pursuant to the compensation plans described above, there have been no unregistered sales of equity securities during the year ended December 31, 2014.

 

Item 6. Selected Financial Data.

 

We present below selected financial information. We encourage you to read the consolidated financial statements and the notes accompanying the consolidated financial statements included in this Annual Report. This information is not intended to be a replacement for the consolidated financial statements.

 

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   December 31, 
   2014   2013   2012   2011   2010 
                     
BALANCE SHEET DATA                         
Cash and cash equivalents  $30,481,912   $33,565,191   $23,225,858   $6,031,956   $2,543,501 
Loan participation interest – related parties, net   40,658,253    32,909,958    29,393,316    22,756,800    5,791,644 
Notes receivable, net   508,435,988    444,720,197    239,972,601    105,907,543    52,323,943 
Notes receivable – related parties, net   60,497,391    30,854,000    27,786,215    13,689,146    5,477,544 
Lot inventory   10,621,316    8,236,953    -    -    - 
Deferred offering costs   -    -    5,050,715    8,533,957    7,372,116 
Other assets   31,457,924    20,575,918    11,050,362    5,474,250    4,036,981 
Total assets  $682,152,784   $570,862,217   $336,479,067   $162,393,652   $77,545,729 
                          
Accrued liabilities – related parties  $1,228,028   $3,339,143   $6,229,710   $9,064,509   $8,103,153 
Notes payable   50,000,000    -    5,095,523    8,832,296    14,330,000 
Lines of credit   120,238,340    30,519,056    28,688,003    19,315,551    9,854,491 
Other liabilities   6,743,817    5,894,459    2,165,079    937,748    688,901 
Total liabilities   178,210,185    39,752,658    42,178,315    38,150,104    32,976,545 
Shareholders’ equity   503,942,599    531,109,559    294,300,752    124,243,548    44,569,184 
Total liabilities and shareholders’ equity  $682,152,784   $570,862,217   $336,479,067   $162,393,652   $77,545,729 

 

   Year Ended December 31, 
   2014   2013   2012   2011   2010 
OPERATING DATA                         
Interest income – related parties  $10,457,047   $7,766,463   $5,666,896   $3,409,831   $1,417,320 
Total interest income   74,772,217    50,763,098    26,997,326    12,860,239    4,053,715 
Interest expense   5,367,115    1,044,293    1,584,732    1,731,058    976,141 
Net interest income   69,405,102    49,718,805    25,412,594    11,129,181    3,077,574 
Provision for loan losses   2,924,077    2,062,253    1,091,447    512,440    162,092 
Net interest income after provision for loan losses   66,481,025    47,656,552    24,321,147    10,616,741    2,915,482 
Commitment fee income – related parties   285,624    190,171    77,365    40,689    - 
Total noninterest income   13,119,668    2,399,648    590,368    437,811    424,643 
Management fees – related party   10,077,226    8,162,057    4,187,205    1,936,690    629,240 
General and administrative – related parties   (945,584)   9,958,988    5,586,931    2,773,922    2,330,153 
Total noninterest expense   29,463,611    20,714,981    11,015,272    5,211,890    3,099,027 
Net income   50,137,082    29,341,219    13,896,243    5,842,662    241,098 
Net income per weighted average share outstanding(1)   1.60    1.08    1.17    1.23    0.18 
Distributions per weighted average share outstanding (1)   1.59    1.66    1.74    1.74    1.75 
STATEMENT OF CASH FLOWS DATA                         
Cash flows provided by (used in) operating activities   47,192,411    24,511,779    9,765,130    4,525,234    (2,787,055)
Cash flows used in investing activities   (105,938,453)   (219,984,758)   (155,829,543)   (79,272,798)   (62,368,203)
Cash flows provided by financing activities   55,662,763    205,812,312    163,258,315    78,236,019    67,178,448 

 

(1)   Net income per share and distributions per share are based upon the weighted average number of common shares of beneficial interest outstanding. Distributions of our current and accumulated earnings and profits for federal income tax purposes are taxable to shareholders as ordinary income. Distributions in excess of these earnings and profits generally are treated as a non-taxable reduction of the shareholders’ basis in the common shares of beneficial interest to the extent thereof (a return of capital for tax purposes) and, thereafter, as taxable gain. These distributions in excess of earnings and profits will have the effect of deferring taxation of the distributions until the sale of our shareholders’ common shares.

 

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

Overview

 

We are an externally-managed Maryland real estate investment trust formed on May 28, 2008 primarily to generate current interest income by investing in loans secured by residential real estate and by producing profits from investments in residential real estate. On June 4, 2014, we listed our common shares of beneficial interest on NASDAQ under the ticker symbol “UDF” and concurrently commenced our Tender Offer. On August 4, 2014, we established our New DRIP, began offering shares pursuant to our Amended Secondary DRIP Offering and filed a $750 million Shelf Registration. No offerings have been commenced pursuant to the Shelf Registration. For further discussion of our New DRIP, Amended Secondary DRIP Offering and our Shelf Registration, see Note C to the accompanying consolidated financial statements. 

 

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We made an election under Section 856(c) of the Internal Revenue Code to be taxed as a REIT, beginning with the taxable year ended December 31, 2010, which was the first year in which we had material operations. As a REIT, we generally are not subject to federal income tax on income that we distribute to our shareholders. If we later fail to qualify as a REIT in any taxable year, we will be subject to federal income tax on our taxable income at regular corporate rates and may not be permitted to qualify for treatment as a REIT for federal income tax purposes for four years following the year in which our qualification is denied, unless we are entitled to relief under certain statutory provisions. Such an event could materially and adversely affect our net income. However, we believe that we are organized and operate in a manner that will enable us to remain qualified as a REIT for federal income tax purposes.

 

We primarily originate, purchase, participate in and hold for investment secured loans made directly by us or indirectly through our affiliates to persons and entities for the acquisition and development of parcels of real property as single-family residential lots or mixed-use master planned residential communities, for the construction of single-family homes and for completed model homes. We also make direct investments in land for development into single-family lots, home construction and portfolios of finished lots and model homes; provide credit enhancements to real estate developers, home builders, land bankers and other real estate investors; and may purchase participations in, or finance for other real estate investors the purchase of, securitized real estate loan pools and discounted cash flows secured by state, county, municipal or other similar assessments levied on real property. We also may enter into joint ventures with unaffiliated real estate developers, home builders, land bankers and other real estate investors, or with other United Development Funding-sponsored programs, to originate or acquire, as the case may be, the same kind of secured loans or real estate investments we may originate or acquire directly.

 

As of December 31, 2014, substantially all of our investments, including 126 loans, are in Texas. In addition, we have 3 loans in Florida, 1 loan in North Carolina and 1 loan in South Carolina. We monitor the fundamentals of supply and demand, such as housing inventory and absorption, population growth, employment, consumer confidence, household formation, home prices, rents and median incomes, in the markets and submarkets in which we make loans and where we may expand our operations in the future. We also monitor movements in home prices and the presence of market disruption activity, such as investor or speculator activity. Further, we study new home starts, new home closings, finished homes inventories, finished lot inventories, existing home sales, foreclosures, absorption, finished lots and land prices and changes in the levels of sales incentives and discounts in a market.

 

We believe that the overall housing market continues to recover and strengthen, and that the recovery will vary by market, led by those housing markets with stronger demand fundamentals and more balanced supplies of land and housing inventory relative to demand. We believe that the continued strengthening of the recovery depends on adequate supplies of both finished lots and homes available for purchase, as well as the continued recovery of the consumer. Consumer confidence and household formations increased significantly during 2014, reflecting improvement in employment levels, wage growth and economic growth.

 

We believe that our continued revenue growth and improved financial performance will come from a greater presence in our established markets and from possible entry into new markets. While the pace of improvement in those markets may be uneven, we expect demand to continue to rise at a moderate rate over an extended period of time, driven by economic improvement, job creation, historically low interest rates, attractive housing affordability levels, continued relaxation of the mortgage underwriting environment, low production of single-family lots and homes and an increase in the number of household formations. We believe that we are well positioned to benefit from the opportunities arising from the tight supply of debt capital for single-family land acquisition and development and the substantial demand for that type of financing. Nevertheless, the pace of the housing recovery and our future results could be negatively affected by weakening economic conditions, increases in unemployment or underemployment, decreases in housing demand or home affordability, significant increases in mortgage interest rates or tightening of mortgage lending standards. In some instances, the loans we make will be junior in the right of repayment to senior lenders. As senior lenders reengage or interest rates and advance rates available to our borrowers increase, demand for our mortgage loans may decrease, and vice versa.

 

We face a risk of loss resulting from adverse changes in interest rates. Changes in interest rates may impact demand for our real estate finance products, the rate of interest we receive on our loans receivable and the rate of interest we pay on outstanding loans. If interest rates increase or if mortgage financing underwriting criteria become more restrictive, demand for single-family residences may decrease, and developers and builders may be unable to generate sufficient cash flow from the sale of land parcels, finished lots or homes to repay loans from us.

 

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Our loan portfolio, consisting of notes receivable, notes receivable – related parties and loan participation interest – related parties, increased from approximately $142.4 million as of December 31, 2011, to approximately $297.2 million, $508.5 million and $609.6 million as of December 31, 2012, 2013 and 2014, respectively. As our loan portfolio increased, our revenues also increased, since the majority of our revenue is from recognizing interest income associated with our loan portfolio. Our expenses related to the portfolio increased, as well, including the provision for loan losses, which was approximately $1.1 million, $2.1 million and $2.9 million for the years ended December 31, 2012, 2013 and 2014, respectively.

 

Our working capital reserves may be invested in short-term, highly-liquid investments including, but not limited to, government obligations, bank certificates of deposit, short-term debt obligations and interest-bearing accounts. Our cash balances were approximately $23.2 million, $33.6 million and $30.5 million as of December 31, 2012, 2013 and 2014, respectively.

 

We use debt as a means of providing additional funds for the acquisition or origination of secured loans, acquisition of properties and the diversification of our portfolio. Interest expense associated with our indebtedness was approximately $1.6 million, $1.0 million and $5.4 million for the years ended December 31, 2012, 2013 and 2014, respectively. The change in interest expense is a result of a change in our aggregate borrowings from approximately $33.8 million as of December 31, 2012, to approximately $30.5 million and $170.2 million as of December 31, 2013 and 2014, respectively.

 

Net income was approximately $13.9 million, $29.3 million and $50.1 million for the years ended December 31, 2012, 2013 and 2014, respectively, and net income per share of beneficial interest was approximately $1.17, $1.08 and $1.60, respectively, for the same periods. Our net income per share of beneficial interest is calculated based on net income divided by the weighted average shares of beneficial interest outstanding.

 

As of December 31, 2014, we had originated or purchased 171 loans, including 40 loans that have either been repaid in full by the respective borrower or have matured and have not been renewed, with maximum loan amounts totaling approximately $1.1 billion. Of the 131 loans outstanding as of December 31, 2014, 10 loans totaling approximately $60.6 million and 10 loans totaling approximately $40.7 million are included in notes receivable – related parties, net and loan participation interest – related parties, net, respectively, on our balance sheet. In addition, through December 31, 2014, we had purchased a total of 217 finished single-family residential lots for approximately $21.2 million. As of December 31, 2014, we have 85 finished single-family residential lots included in our lot inventory balance of approximately $10.6 million. We have option agreements in place to sell these lots with terms ranging from 18 to 30 months.

 

Critical Accounting Policies and Estimates

 

Our accounting policies have been established to conform to generally accepted accounting principles in the United States of America (“GAAP”). The preparation of consolidated financial statements in conformity with GAAP requires management to use judgment in the application of accounting policies, including making estimates and assumptions. These judgments affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting periods. If management’s judgment or interpretation of the facts and circumstances relating to various transactions had been different, it is possible that different accounting policies would have been applied, thus resulting in a different presentation of the consolidated financial statements. Additionally, other companies may utilize different estimates that may impact comparability of our results of operations to those of companies in similar businesses.

 

Management’s discussion and analysis of financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these consolidated financial statements requires our management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On a regular basis, we evaluate these estimates, including investment impairment. These estimates are based on management’s historical industry experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates.

 

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Loan Participation Interest – Related Parties

 

Loan participation interest – related parties are recorded at the lower of cost or net realizable value. Loan participation interest – related parties represents the purchase of a financial interest in certain interim construction, paper lot (residential lots shown on a plat that has been accepted by the city or county, but which is currently undeveloped or under development) and finished lot loan facilities originated by our affiliates. We participate in these loans by funding the lending obligations of our affiliates under these credit facilities up to a maximum amount for each participation. Such participations entitle us to receive payments of principal and interest from the borrower up to the amounts funded by us. The participation interests in interim construction loan facilities are collateralized by first lien deeds of trust on the homes financed under the construction loans. The participation interests in paper lot loan and finished lot loan facilities are collateralized by one or more of the following: first or second lien deeds of trust, a pledge of ownership interests in the borrower, assignments of lot sale contracts, or reimbursements of development costs due to the borrower under contracts with districts and municipalities. None of such loans are insured or guaranteed by a federally owned or guaranteed mortgage agency. As of December 31, 2014, the participations have terms ranging from 3 to 32 months and bear interest at rates ranging from 12% to 15%. The participation interests may be paid off prior to maturity; however, we intend to hold all participation interests for the life of the loans.

 

Notes Receivable and Notes Receivable – Related Parties

 

Notes receivable and notes receivable – related parties are recorded at the lower of cost or net realizable value. The notes are collateralized by one or more of the following: first or second lien deeds of trust, a pledge of ownership interests in the borrower, assignments of lot sale contracts or reimbursements of development costs due to the borrower under contracts with districts and municipalities. None of such notes are insured or guaranteed by a federally owned or guaranteed mortgage agency. As of December 31, 2014, the notes have terms ranging from 6 to 84 months and bear interest at rates ranging from 11% to 15%. The notes may be paid off prior to maturity; however, the Trust intends to hold all notes for the life of the notes.

 

Lot Inventory

 

Lot inventory is stated at cost, which includes costs associated with the acquisition of the real estate, unless it is determined that the value has been impaired, in which case the lot inventory would be reduced to fair value less estimated costs to sell the lots.

 

Lot inventory consists of finished single-family residential lots purchased by UDF IV LBI, UDF IV LBII, UDF IV LBIII, UDF IV LBIV and UDF IV LBV (collectively, the “UDF IV LB Entities”) from third-party builders. Each UDF IV LB Entity has entered into a lot option agreement with a builder whereby the builder will reacquire the lots in accordance with a takedown schedule for a pre-determined lot price (the “base lot price”) identified in the lot option agreement. In consideration for the right to repurchase the lots from the UDF IV LB Entity, each builder provided the UDF IV LB Entity a non-refundable earnest money deposit, a portion of which will be applied to the purchase price of each lot, as it is repurchased. In addition, the builders have agreed to pay the UDF IV LB Entities a monthly option fee equal to one-twelfth of 13% of the base lot price of the lots the builder has not yet reacquired from the UDF IV LB Entity. If the builder does not perform in accordance with the terms of the lot option agreement, the builder will forfeit the remaining earnest money deposit and the lots can be sold to another builder. As of December 31, 2014, the lot option agreements have terms ranging from 18 to 30 months.

 

Allowance for Loan Losses

 

The allowance for loan losses is our estimate of incurred losses in our portfolio of notes receivable, notes receivable – related parties and loan participation interest – related parties. We periodically perform a detailed review of our portfolio of notes and other loans to determine if impairment has occurred and to assess the adequacy of the allowance for loan losses. Our review consists of evaluating economic conditions, the estimated value of the underlying collateral, the guarantor, adverse situations that may affect the borrower’s ability to pay or the value of the collateral and other relevant factors. We also utilize a peer group analysis and a historical analysis to validate the overall adequacy of our allowance for loan losses. This review is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

 

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In reviewing our portfolio, we consider cash flow estimates from the disposition of finished lots, paper lots and undeveloped land as well as cash flow received from the issuance of bonds from municipal reimbursement districts. These estimates are based on current market metrics, including, without limitation, the supply of finished lots, paper lots and undeveloped land; the supply of homes and the rate and price at which land and homes are sold; historic levels and trends; executed contracts; appraisals and discussions with third-party market analysts and participants, including homebuilders. We have based our valuations on current and historic market trends on our analysis of market events and conditions, including activity within our portfolio, and on the analysis of third-party services such as Metrostudy and Residential Strategies, Inc. Cash flow forecasts also have been based on executed purchase contracts which provide base prices, escalation rates, and absorption rates on an individual project basis. For projects deemed to have an extended time horizon for disposition, we have considered third-party appraisals to provide a valuation in accordance with guidelines set forth in the Uniform Standards of Professional Appraisal Practice. In addition to cash flows from the disposition of property, cost analysis has been performed based on estimates of development and senior financing expenditures provided by developers and independent professionals on a project-by-project basis. These amounts have been reconciled with our best estimates to establish the net realizable value of the portfolio.

 

We charge additions to the allowance for loan losses to current period earnings through a provision for loan losses. Amounts determined to be uncollectible are charged directly against, or “charged off,” and decrease the allowance for loan losses, while amounts recovered on previously charged off accounts increase the allowance. As of December 31, 2014 and 2013, the allowance for loan losses had a balance of $6.8 million and $3.8 million, respectively, offset against notes receivable.

 

Interest Income and Non-Interest Income Recognition

 

Interest income on loan participation interest – related parties, notes receivable and notes receivable – related parties is recognized over the life of the participation agreement or note agreement and recorded on the accrual basis. A loan is placed on non-accrual status and income recognition is suspended at the date at which, in the opinion of management, a full recovery of income and principal becomes more likely than not, but is no longer probable, based upon our review of economic conditions, the estimated value of the underlying collateral, the guarantor, adverse situations that may affect the borrower’s ability to pay or the value of the collateral and other relevant factors. Income recognition is resumed when the loan becomes contractually current and performance is demonstrated to be resumed. Any payments received on loans classified as non-accrual status are typically applied first to outstanding loan amounts and then to the recovery of lost interest. As of December 31, 2014 and 2013, we were accruing interest on all loan participation interest – related parties, notes receivable and notes receivable – related parties.

 

Commitment fee income and commitment fee income – related parties represents non-refundable fees charged to borrowers for entering into an obligation that commits us to make or acquire a loan or to satisfy a financial obligation of the borrower when certain conditions are met within a specified time period. When a commitment is considered an integral part of the resulting loan and we believe there is a reasonable expectation that the commitment will be called upon, the commitment fee is recognized as revenue over the life of the resulting loan. As of December 31, 2014 and 2013, approximately $1.5 million and $2.5 million, respectively, of unamortized commitment fees are included as an offset of notes receivable. Approximately $124,000 and $164,000 of unamortized commitment fees are included as an offset of notes receivable – related parties as of December 31, 2014 and 2013, respectively. When we believe it is unlikely that the commitment will be called upon or that the fee is not an integral part of the return of a specific future lending arrangement, the commitment fee is recognized as income when it is earned, based on the specific terms of the commitment. We make a determination of revenue recognition on a case-by-case basis, due to the unique and varying terms of each commitment.

 

In addition, commitment fee income includes option fees earned by us in connection with option agreements we have entered into to sell lots that are included in lot inventory. Option fees are recorded over the life of the lot option agreement as earned, pursuant to the terms of the lot option agreement.

 

Lot inventory – property sales income and lot inventory – property sales cost are recorded as lots are sold to builders.

 

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Related Party Payments and Fees

 

O&O Reimbursement

 

Various parties received payments and compensation as a result of our initial public offering from December 2009 through May 2013, including the Advisor. The Advisor or an affiliate of the Advisor funded organization and offering costs on the Trust’s behalf and our Advisor has been paid by the Trust for such costs in an amount equal to 3% of the gross offering proceeds raised by the Trust (the “O&O Reimbursement”) less any offering costs paid by the Trust directly (except that no organization and offering expenses were reimbursed with respect to sales under our distribution reinvestment plan). All Offering costs are reflected as a reduction of additional paid-in-capital in the accompanying consolidated statement of changes in shareholders’ equity.

 

Pre-Listing Advisory Agreement

 

In connection with the advisory agreement dated November 12, 2009, between the Trust and its Advisor, as amended by the first amendment dated June 2, 2010 (the “Pre-Listing Advisory Agreement”), the Trust was required to pay certain fees to its Advisor or an affiliate of its Advisor, as described below.

 

·An amount equal to 3% of the net amount available for investment in secured loans and other real estate assets (after payment of selling commissions, dealer manager fees and O&O Reimbursement) (“Acquisition and Origination Fees”); provided, however, that we did not incur Acquisition and Origination Fees with respect to any asset-level indebtedness we incurred. Acquisition and Origination Fees were payable to UMTH LD, our asset manager. Acquisition and Origination Fees were expensed as incurred as we entered into new loan commitments and were paid to UMTH LD as we raised capital through our initial public offering and our distribution reinvestment plan, both of which are discussed further in Note C to the accompanying consolidated financial statements. Acquisition and Origination Fees incurred are included in general and administrative – related parties expense on the accompanying consolidated statements of income. Acquisition and Origination Fees payable to UMTH LD are included in accrued liabilities – related parties on the accompanying consolidated balance sheets.

 

·An amount equal to 2% per annum of the average of invested assets, including secured loan assets (“Advisory Fees”); provided, however, that no Advisory Fees were paid with respect to any asset-level indebtedness the Trust incurred. Advisory Fees were payable monthly to our Advisor in an amount equal to one-twelfth of 2% of the Trust’s average invested assets, including secured loan assets, as of the last day of the immediately preceding month. Advisory Fees associated with the Pre-Listing Advisory Agreement were expensed as incurred and are included in management fees – related party expense on the accompanying consolidated statements of income.

 

·An amount equal to 1% of the amount made available to the Trust pursuant to the origination of any line of credit or other debt financing, provided that the Advisor provided a substantial amount of services as determined by the Trust’s independent trustees and, on each anniversary date of the origination of any such line of credit or other debt financing, an additional fee of 0.25% of the primary loan amount (collectively, “Debt Financing Fees”) was paid if such line of credit or other debt financing continued to be outstanding on such date, or a prorated portion of such additional fee was paid for the portion of such year that the financing was outstanding. Debt Financing Fees associated with the Pre-Listing Advisory Agreement were amortized into expense over the life of the related line of credit. Such expense is included in general and administrative – related parties expense on the accompanying consolidated statements of income.

 

In addition to the fees described above, the Pre-Listing Advisory Agreement would have required the Trust to pay the following fees and expenses to its Advisor under certain circumstances, although due to the entry of a new advisory agreement, as described below, the Trust did not incur any costs or make any payments to its Advisor in connection with these fees during the term of the Pre-Listing Advisory Agreement:

 

·The Trust would have been required to reimburse expenses incurred by the Advisor in connection with its provision of services to the Trust, including the Trust’s allocable share of the Advisor’s overhead, such as rent, personnel costs, utilities and IT costs, although the Trust was not required to reimburse the Advisor for personnel costs in connection with services for which the Advisor or its affiliates received other fees.

 

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·Upon termination of the Pre-Listing Advisory Agreement, the Trust would have been required to make an annual payment equal to 15% of the amount by which the Trust’s net income for the immediately preceding year exceeded a 10% annual cumulative, non-compounded return on aggregate capital contributions, as adjusted to reflect prior cash distributions to shareholders which constituted a return of capital.

 

·Upon successful sales by the Trust of securitized loan pool interests, the Trust would have been required to pay an amount equal to 2% of the net proceeds realized by the Trust, provided the Advisor or an affiliate of the Advisor provided a substantial amount of services as determined by the Trust’s independent trustees.

 

·For substantial assistance in connection with the sale of properties, the Trust would have been required to pay an amount equal to the lesser of one-half of the reasonable and customary real estate or brokerage commission or 2% of the contract sales price of each property sold; provided, however, in no event would the disposition fees paid to the Advisor, its affiliates and unaffiliated third parties exceed 6% of the contracted sales price.

 

·Upon listing the Trust’s common shares of beneficial interest on a national securities exchange, the Advisor would have been entitled to a fee equal to 15% of the amount, if any, by which (1) the market value of the Trust’s outstanding shares plus distributions paid by the Trust prior to listing, exceeded (2) the sum of the total amount of capital raised from investors and the amount of cash flow necessary to generate a 10% annual cumulative, non-compounded return to investors.

 

Advisory Agreement

 

On May 29, 2014, the Trust and the Advisor entered into a new advisory agreement, effective upon the completion of the Listing (the “Advisory Agreement”). The Pre-Listing Advisory Agreement automatically terminated upon completion of the Listing.

 

The Advisory Agreement changed the compensation arrangement with the Advisor. Pursuant to the Advisory Agreement, the Trust is required to pay the following fees to its Advisor or an affiliate of its Advisor:

 

·An amount equal to one-twelfth of 1.5% of the equity of the Trust, as defined in the Advisory Agreement (the “Base Management Fee”). The Base Management Fee is payable monthly in arrears and is expensed as incurred. The expense associated with the Base Management Fee is included in management fees – related party expense on the accompanying consolidated statements of income.

 

·An amount equal to 20% of the amount by which the Trust’s core earnings (as defined in the Advisory Agreement) for the preceding 12 months exceeds the product of 8% and the weighted average shares outstanding for the preceding 12 months multiplied by the weighted average share price for the preceding 12 months (as defined in the Advisory Agreement) (the “Incentive Management Fee”), provided that no Incentive Management Fee is payable with respect to any quarter unless the amount of the Trust’s core earnings for the 12 preceding quarters is greater than zero. Prior to the completion of a 12 month period during the term of the Advisory Agreement, core earnings will be calculated on the basis of the number of days the Advisory Agreement has been in effect on an annualized basis. The Incentive Management Fee is payable in arrears in quarterly installments. The expense associated with the Incentive Management Fee is included in management fees – related party expense on the accompanying consolidated statements of income.

 

·Debt Financing Fees equal to 0.5% of the amount made available to the Trust pursuant to the origination of any line of credit or other debt financing, provided that the Advisor provided a substantial amount of services as determined by a majority of the Trust’s independent trustees. This amount was reduced from 1.0%, per the terms of the Pre-Listing Advisory Agreement. On each anniversary date of the origination of any such line of credit or other debt financing, the Trust will continue to pay an additional fee of 0.25% of the primary loan amount if such line of credit or other debt financing continues to be outstanding on such date, or a prorated portion of such additional fee was paid for the portion of such year that the financing was outstanding. Debt Financing Fees are amortized into expense over the life of the related line of credit. Such expense is included in general and administrative – related parties expense on the accompanying consolidated statements of income.

 

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·An amount equal to 1% of the par amount of the securities sold by the Trust in connection with the securitization and placement of any secured loans (as defined in the Advisory Agreement) (“Securitized Loan Pool Placement Fees”), if the Advisor or an affiliate of the Advisor provided a substantial amount of services as determined by the Trust’s independent trustees. No Securitized Loan Pool Placement Fees are included on the accompanying consolidated financial statements.

 

·An amount equal to 15% of the amount by which (i) the market value of the Trust’s outstanding common shares of beneficial interest (measured by taking the average closing price for a single common share of beneficial interest over a period of thirty consecutive trading days commencing 180 days after Listing and multiplying that number by the total outstanding common shares of beneficial interest upon Listing) plus distributions paid by the Trust prior to listing exceeds (ii) the sum of (A) the total amount of capital raised from investors (after reduction of distributions attributable to net sales proceeds and amounts paid by the Trust to repurchase shares) and (B) the amount equal to a 10% annual cumulative, non-compounded return to investors from inception through Listing (the “Listing Fee”). The thirty-trading-day measurement period for the Listing Fee expired on January 13, 2015, and no Listing Fee was calculated to be payable under the Advisory Agreement.

 

In addition to the fees described above, pursuant to the terms of the Advisory Agreement, the Trust will reimburse the Advisor and its affiliates for expenses they incur on behalf of the Trust, including expenses incurred by the Advisor in employing the Trust’s Chief Financial Officer, Treasurer, Chief Compliance Officer, and General Counsel (the “Advisor Expense Reimbursement”). The Trust will pay the Advisor Expense Reimbursement on a monthly basis, and costs incurred by the Trust in connection with the Advisor Expense Reimbursement will be expensed by the Trust as incurred.

 

See Note I to the accompanying consolidated financial statements for additional discussion of payments made to related parties and expenses associated with related party payments.

 

Listing

 

The Trust incurred certain costs in connection with its Listing and Tender Offer. These listing costs consisted primarily of legal, investment banking, NASDAQ fees, share-based compensation, consulting and other third-party service provider costs incurred by us in connection with our Listing and Tender Offer. We expensed Listing costs totaling approximately $5.1 million during the year ended December 31, 2014. We did not expense Listing costs during the years ended December 31, 2013 and 2012. Of the $5.1 million of listing expenses incurred during the year ended December 31, 2014, approximately $300,000 was attributable to share-based compensation, as discussed further in Note C to the accompanying consolidated financial statements.

 

Income Taxes

 

We made an election under Section 856(c) of the Internal Revenue Code to be taxed as a REIT, beginning with the taxable year ended December 31, 2010, which was the first year in which we had material operations. As a REIT, we generally are not subject to federal income tax on income that we distribute to our shareholders. If we later fail to qualify as a REIT in any taxable year, we will be subject to federal income tax on our taxable income at regular corporate rates and may not be permitted to qualify for treatment as a REIT for federal income tax purposes for four years following the year in which our qualification is denied unless we are entitled to relief under certain statutory provisions. Such an event could materially and adversely affect our net income. However, we intend to continue to operate so as to remain qualified as a REIT for federal income tax purposes.

 

Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 740, Income Taxes, prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. In accordance with FASB ASC 740, we must determine whether it is more likely than not that a tax position will be sustained upon examination based on the technical merits of the position. We believe we have no such uncertain positions.

 

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We file income tax returns in the United States federal jurisdiction. At December 31, 2014, tax returns related to fiscal years ended December 31, 2011 through December 31, 2014 remain open to possible examination by the tax authorities. To our knowledge, no tax returns are currently under examination by any tax authorities. We did not incur any penalties or interest during the years ended December 31, 2014 and 2013.

 

Impact of Recently Issued Accounting Standards

 

In January 2014, the FASB issued Accounting Standards Update (“ASU”) No. 2014-04, Receivables — Troubled Debt Restructuring by Creditors (“ASU 2014-04”).  This guidance clarifies that when an “in substance repossession or foreclosure” occurs, a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan upon either (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. Additionally, the amendments of ASU 2014-04 also require interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction.  ASU 2014-04 is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. The Trust does not expect the adoption of ASU 2014-04 to have a material impact on its consolidated financial statements.

 

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”), which supersedes nearly all existing revenue recognition guidance under GAAP. The objective of ASU 2014-09 is to clarify the principles for recognizing revenue and to develop a common revenue standard for GAAP. The core principle of ASU 2014-09 is that an entity should recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five-step process to achieve this core principle, which may require more judgment and estimates within the revenue recognition process than are required under existing GAAP.

 

The standard is effective for annual periods beginning after December 15, 2016, and interim periods therein, using either of the following transition methods: (i) a full retrospective approach reflecting the application of the standard in each prior reporting period with the option to elect certain practical expedients, or (ii) a retrospective approach with the cumulative effect of initially adopting ASU 2014-09 recognized at the date of adoption (which includes additional footnote disclosures). Early adoption is not permitted. We are currently evaluating the impact of our pending adoption of ASU 2014-09 on our consolidated financial statements and have not yet determined the method by which we will adopt the standard.

 

In June 2014, the FASB issued ASU No. 2014-12, Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period (“ASU 2014-12”). The update requires that a performance target that affects vesting and could be achieved after the requisite service period be treated as a performance condition and, as a result, should not be included in the grant-date fair value of the award. ASU 2014-12 is effective for annual reporting periods beginning after December 15, 2015, and interim periods therein. Early adoption is permitted. The Trust does not expect the adoption of ASU 2014-12 to have a material impact on its consolidated financial statements.

 

Fair Value of Financial Instruments

 

In accordance with the reporting requirements of FASB ASC 825-10, Financial Instruments-Fair Value, we calculate the fair value of our assets and liabilities which qualify as financial instruments under this statement and include this additional information in the notes to the financial statements when the fair value is different than the carrying value of those financial instruments. The estimated fair value of restricted cash, accrued interest receivable, accrued receivable – related parties, accounts payable, accrued liabilities and accrued liabilities – related parties approximates the carrying amounts due to the relatively short maturity of these instruments. The estimated fair value of notes receivable, notes receivable – related parties, loan participation interest – related parties, senior credit facility, lines of credit and notes payable approximate the carrying amount since they bear interest at the market rate.

 

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Guarantees

 

From time to time we enter into guarantees of debtors’ or affiliates’ borrowings and provide credit enhancements for the benefit of senior lenders in connection with our debtors and investments (collectively referred to as “guarantees”), and we account for such guarantees in accordance with FASB ASC 460-10, Guarantees.

 

Share-Based Compensation

 

We value all share-based payments at the estimated fair value on the date of grant and we expense these payments over the applicable vesting period in accordance with GAAP.

 

Lot inventory and Loan Portfolio

 

Lot inventory

 

As of December 31, 2014, we have 85 finished single-family residential lots included in our lot inventory balance of approximately $10.6 million. We have option agreements in place to sell these lots with terms ranging from 18 to 30 months.

 

Loan Portfolio

 

For loans in which we are a subordinate lender, we are generally second in lien priority behind the senior lender. In some cases, we permit builders to file performance deeds of trust in second priority behind the senior lender. In such cases, we are generally third in lien priority behind the senior lender and the builder performance deeds of trust. For loans in which we are a subordinate lender, the aggregate of all loan balances on an individual project, both senior and subordinated, divided by the value of the collateral is 85% or less at origination, unless substantial justification to exceed an 85% loan-to-value ratio exists because of the presence of other underwriting criteria.

 

We may secure our loans with pledges of equity interests in lieu of, or in addition to, real property liens.  Pledges of equity interests are documented by pledge agreements, assignments of equity interests, and uniform commercial code (“UCC”) financing statements.  In some cases, we also secure assignments of distributions to secure our pledges of equity interests.  Should a loan secured by a pledge of equity interests default, we may foreclose on the pledge of equity interests through a personal property foreclosure under the terms of the pledge agreement and the UCC. 

 

We may secure our loans with assignments of reimbursement rights in lieu of, or in addition to, real property liens.  Assignments of reimbursement rights are documented by deeds of trust or by assignments and UCC financing statements.  Should a loan secured by an assignment of reimbursement rights default, we may foreclose on the reimbursement rights either in conjunction with a real property foreclosure or through a personal property foreclosure under the terms of the UCC.

 

In addition, our board of trustees has approved one builder equity loan as of December 31, 2014, to BRHG, an affiliated party, for the purpose of partially financing the acquisition by BRHG of Scott Felder Homes, a homebuilder operating in the Austin and San Antonio, Texas markets. This loan is not secured by real estate or by a pledge of the equity interest in the borrower. For further discussion of the loan to BRHG, see Note I to the accompanying consolidated financial statements.

 

As of December 31, 2014, we had purchased or entered into 18 participation agreements with related parties (8 of which were repaid in full) with aggregate, maximum loan amounts of approximately $98.8 million (with an unfunded balance of approximately $15.9 million) and 15 related party note agreements (4 of which were repaid in full and one of which matured and was not renewed) with aggregate, maximum loan amounts totaling approximately $100.2 million (with an unfunded balance of approximately $3.7 million). Additionally, we had purchased or entered into 138 note agreements with third parties (27 of which were repaid in full) with aggregate, maximum loan amounts of approximately $944.9 million, of which approximately $178.0 million had yet to be funded.

 

The participation agreements outstanding as of December 31, 2014 are made to borrower entities which may hold ownership interests in projects in addition to the project funded by us and/or may be secured by multiple single-family residential communities. Certain participation agreements are secured by a personal guarantee of the borrower in addition to a lien on the real property or the equity interests in the entity that holds the real property. The outstanding aggregate principal amount of mortgage notes originated by us as of December 31, 2014 are secured by properties located in the Dallas, Fort Worth, Austin, Houston, San Antonio and Lubbock metropolitan markets in Texas as well as Tampa and Orlando, Florida and Fort Mill, South Carolina. Security for such loans takes the form of either a direct security interest represented by a first or second lien on the respective property and/or an indirect security interest represented by a pledge of the ownership interests of the entity which holds title to the property.

  

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The following table summarizes our real property loans and investments as of December 31, 2014:

 

                                          2014     2013     2012        
                Interest     Original Note   Maturity   Maximum Loan     Principal     Cash     Cash     Cash     Unfunded  
Borrower   Lender (1)   Location   Collateral (2)   Rate     Date   Date (3)   Amount (3)     Balance     Receipts     Receipts     Receipts     Balance  
                                                               
Notes Receivable – Related Parties                                                                            
HLL II Land Acquisitions of Texas, LP   UDF IV AC   San Antonio, TX   1st lien; 18 finished lots; 147 paper lots     13 %   12/22/2010   3/22/2015   1,854,200     1,773,309     85,913     101,404     125,678      
HLL Land Acquisitions of Texas, LP   UDF IV FVIII   Houston, TX   1st lien and reimbursements; 8 finished lots; 115.87 acres     13 %   2/17/2011   1/21/2015     11,670,522       11,316,679       1,015,179                    
UDF Ash Creek, LP   UDF IV   Dallas, TX   1st  lien; 9 finished lots     13 %   4/20/2011   10/20/2015     3,000,000       1,428,086       412,702       934,197       75,711       149,304  
UDF PM, LLC   UDF IV   Lubbock, TX   Reimbursements     13 %   10/17/2012   10/17/2015     5,087,250       4,989,449                         97,801  
HLL Land Acquisitions of Texas, LP   UDF IV FII   San Antonio, TX   1st lien; 12 finished lots; 41 paper lots     13 %   11/29/2012   11/29/2015     6,414,410       2,760,577       779,135       1,751,811             1,122,886  
One KR Venture, LP   UDF IV   San Antonio, TX   1st lien and pledge of equity; 16 finished lots; 249.73 acres     13 %   12/14/2012   6/14/2016     15,295,897       13,668,651       1,664,294       4,866,556              
Rowe Lane 285, LP   UDF IV   Travis County, TX; Williamson County, TX   2nd lien and reimbursements; 285 paper lots     13 %   2/18/2014   2/18/2018     7,457,000       4,879,459       205,086                   2,372,455  
BRHG TX–1, LLC   UDF IV   Austin, TX   Unsecured     13 %   8/29/2014   8/29/2021     11,500,000       11,500,000                          
Maple Wolf Stoneleigh, LLC   UDF IV   Dallas, TX   1st lien; 13 condominium units     13 %   10/13/2014   10/13/2017     13,851,000       7,881,942                          
One KR Venture, LP   UDF IV FVIII   San Antonio, TX   1st lien; 107 paper lots     13 %   12/30/2014   12/30/2016     5,250,000       423,340                          
                                                                             
Subtotal – Notes Receivable – Related Parties             $ 81,380,279     $ 60,621,492     $ 4,162,309     $ 7,653,968     $ 201,389     $ 3,742,446  
                                                                             
Notes Receivable – Non–Related Parties                                                                            
CTMGT Granbury, LLC   UDF IV FI   Hood County, TX   1st lien and 2nd lien and reimbursements; 2,093.338 acres     13 %   5/21/2010   5/21/2015   $ 16,000,000     $ 13,900,296     $     $     $     $ 2,099,704  
Crescent Estates Custom Homes, LP   UDF IV FII   Dallas/Ft. Worth, TX   1st lien; 8 homes     13 %   6/10/2010   6/10/2015     4,000,000       1,331,736       2,132,510       4,109,611       3,343,663        
CTMGT Land Holdings, LP   UDF IV   Rockwall County, TX   2nd lien and reimbursements; 807.906 acres     14 %   7/23/2010   1/28/2015     25,012,000       19,849,433                         3,226,705  
Megatel Homes II, LLC   UDF IV HF   Dallas/Ft. Worth, TX; Austin, TX; San Antonio, TX; Houston, TX; Lubbock, TX   1st lien; 171 homes     13 %   8/24/2011   8/24/2015     40,000,000       34,690,151       46,678,440       34,987,757       7,627,536        
Nuway Homes Texas, LP/Lexington 26, LP   UDF IV HF   Harris County, TX   1st lien homebuilding line     13 %   6/13/2014   6/13/2015     3,000,000       338,299       167,230                    
165 Howe, LP   UDF IV   Denton and Tarrant County, TX   Reimbursements     13 %   11/22/2010   11/22/2015     2,575,000       1,583,024                   591,534        
BHM Highpointe, LTD   UDF IV FIV   Austin, TX   1st lien; 26 finished lots     13 %   11/16/2010   11/30/2014     2,858,309       2,211,273       532,526       254,421       11,635        
The Resort at Eagle Mountain Lake, LP   UDF IV   Tarrant County, TX   Reimbursements and pledge of equity; 116 acres     13 %   12/21/2010   12/21/2015     8,715,000       5,673,337             3,667,751              
FH 295 LLC/CTMGT   UDF IV AC   Denton County, TX   1st and 2nd lien, reimbursements and pledge of equity; 10 finished lots; 518 paper lots     15 %   10/5/2010   10/5/2015     22,342,515       13,345,157       4,828,741       8,406,785              
CTMGT Williamsburg, LLC   UDF IV FII   Rockwall County, TX   1st lien and reimbursements; 18 finished lots; 220 paper lots     13 %   11/30/2011   10/31/2015     24,500,000       18,685,775       4,670,333       1,431,964       388,995        
UDF Sinclair, LP   UDF IV AC   San Antonio, TX   1st lien; 5 finished lots     13 %   2/16/2011   12/31/2015     1,479,000       39,117       205,484       99,772       598,997       22,256  
Buffington Land, LTD   UDF IV   Austin, TX   1st lien and reimbursements; 4 finished lots     13 %   1/26/2011   1/26/2015     18,000,000       15,976,382       2,483,538       6,596,690       7,285,835        
Shale–114, LP   UDF IV   Denton and Wise County, TX   2nd lien and reimbursements; 422 paper lots     13 %   3/28/2011   3/28/2015     3,968,135       3,420,733       106,965       2,840,080              
Woods Chin Chapel, LTD   UDF IV   Denton County, TX   2nd lien; 118 paper lots     13 %   6/30/2011   1/31/2015     12,725,327       10,626,811       1,427,070                    
High Trophy Development, LLC   UDF IV AC   Tarrant County, TX   1st lien and pledge of equity; 3 finished lots; 107 paper lots     13 %   11/7/2011   7/29/2015     10,500,000       4,846,571       948,480       6,003,317              
CTMGT Montalcino, LLC   UDF IV   Denton County, TX   2nd lien and reimbursements; 33 finished lots; 125 paper lots     13 %   12/13/2011   6/13/2015     32,808,176       28,589,524                         4,218,652  
CTMGT Williamsburg, LLC   UDF IV FV   Rockwall County, TX   1st lien; 803 paper lots     13 %   2/7/2012   2/7/2015     5,653,700       4,989,209                         664,491  
CTMGT Valley Ridge, LLC   UDF IV FVIII   Tarrant County, TX   1st lien; 47 finished lots     13 %   3/2/2012   3/2/2015     3,613,000       1,970,934       1,419,071                   222,995  
Crescent Estates Custom Homes, LP   UDF IV AC   Dallas, TX   1st lien; 18 homes; 30 finished lots     13 %   4/27/2012   4/27/2015     19,848,712       14,372,432       10,490,465       6,215,403       669,913        
PH SLII, LP   UDF IV FII   Austin, TX   1st lien and reimbursements; 24 finished lots     13 %   6/12/2012   12/31/2014     4,727,016       607,584       1,607,790       2,044,850             466,792  
CTMGT Barcelona, LLC   UDF IV   Collin County, TX   2nd lien and pledge of equity; 56 finished lots and 44.2 acres     13 %   6/6/2012   6/6/2015     5,362,876       5,331,776       250                   30,850  
PH SPM2B, LP   UDF IV FII   Austin, TX   1st lien; 15 finished lots     13 %   6/26/2012   6/30/2015     3,738,507       1,080,080       2,810,297       796,257              
CTMGT Alpha Ranch, LLC   UDF IV   Tarrant County, TX   2nd lien, pledge of equity and reimbursements; 3,026 paper lots     13 %   7/31/2012   10/31/2015     19,066,243       18,101,263                         964,980  
BHM Highpointe, LTD   UDF IV FIII   Austin, TX   1st lien and reimbursements; 22 finished lots     13 %   8/7/2012   12/31/2014     3,809,735       151,985       2,081,802       1,299,120             276,828  
287 Waxahachie, LP   UDF IV   Ellis County, TX   1st lien and 2nd lien and reimbursements; 252 acres     13 %   8/10/2012   8/10/2015 (4)    9,732,500       957,906       1,298,047       1,192,693             6,283,853  
UDF Sinclair, LP   UDF IV FII   San Antonio, TX   1st lien; 19 finished lots     13 %   8/28/2012   6/30/2015     1,323,404       418,640       705,544       768,783              
SH 161 Acquisitions, LP   UDF IV FVII   Dallas County, TX   1st lien; 6 finished lots     13 %   9/7/2012   9/7/2015     1,301,248       21,517       820,854       1,116,223              
Megatel Homes II, LLC   UDF IV FIII   Austin, TX; San Antonio, TX   1st lien; 20 finished lots     13 %   3/27/2012   11/27/2015     1,500,000       1,400,885       426,562       904,123              
CTMGT AR II, LLC   UDF IV   Denton County, TX   2nd lien and pledge of equity; 501 paper lots     13 %   11/14/2012   11/14/2015     2,880,000       1,355,777                         1,524,223  
Pine Trace Village, LLC   UDF IV FV   Houston, TX   1st lien and reimbursements; 2 finished lots     13 %   11/16/2012   11/16/2015     1,953,432       31,928       544,384       575,441             801,680  
CTMGT Legends, LLC   UDF IV   Denton County, TX   2nd lien; 79 paper lots     13 %   11/16/2012   11/16/2015     2,425,000       2,411,649                         13,351  
CTMGT Erwin Farms, LLC   UDF IV   Collin County, TX   2nd lien; 156 finished lots; 409 paper lots     13 %   12/6/2012   9/30/2016     7,400,000       5,887,696                         1,512,304  

 

57
 

 

                                          2014     2013     2012        
                Interest     Original Note   Maturity   Maximum Loan     Principal     Cash     Cash     Cash     Unfunded  
Borrower   Lender (1)   Location   Collateral (2)   Rate     Date   Date (3)   Amount (3)     Balance     Receipts     Receipts     Receipts     Balance  
                                                               
BLG Plantation, LLC   UDF IV FVIII   Houston, TX   1st lien; 33 finished lots; 50 paper lots     13 %   11/26/2012   11/26/2015   4,095,000     2,038,983     847,180     108,837         1,100,000  
CTMGT Regatta II, LLC   UDF IV   Denton County, TX   1st and 2nd lien and reimbursements; 10.97 acres and 516 acres     13 %   12/27/2012   10/25/2015     8,970,229       8,954,283                         15,946  
CTMGT Rancho Del Lago, LLC   UDF IV FIV   San Antonio, TX   1st and 2nd lien; 249 acres and 341 acres     13 %   12/31/2012   12/31/2016     24,048,798       22,686,204       3,894,103                    
CTMGT Rockwall 38, LLC   UDF IV   Rockwall County, TX   2nd lien; 72 finished lots     13 %   2/4/2013   2/4/2016     1,800,000       1,600,374                         199,626  
BLG Hawkes, LLC   UDF IV   Austin, TX   2nd lien and pledge of equity; 47 finished lots; 77.39 acres     13 %   1/25/2013   1/25/2016     10,565,880       3,951,216       30,530                   6,584,133  
CTMGT Verandah, LLC   UDF IV AC   Hunt County, TX   1st lien; 71 finished lots     13 %   4/15/2013   4/15/2015     3,084,300       2,180,431       962,840                    
BLD Scenic Loop, LLC   UDF IV AC   San Antonio, TX   1st lien and pledge of equity; 35 finished lots     13 %   4/19/2013   4/19/2016     4,603,900       4,033,762                         570,138  
Buffington VOHL 5A 6A 6B, Ltd   UDF IV   Austin, TX   1st lien and reimbursements; 26.87 acres     13 %   4/26/2013   4/26/2016  (4)   4,500,000       3,783,273       8,322       1,294,274              
PH Park at BC, LP   UDF IV FVII   Austin, TX   1st lien; 8 finished lots     11 %   5/3/2013   12/30/2014  (4)   1,540,200       420,495       510,661       430,798             178,246  
CTMGT Brookside, LLC   UDF IV   Denton County, TX   2nd lien; 27 finished lots     13 %   5/24/2013   5/24/2015     1,253,847       1,073,341                         180,506  
CTMGT Frisco 122, LLC   UDF IV   Denton County, TX   2nd lien; 350 paper lots     13 %   5/30/2013   2/28/2015     5,165,272       4,816,235                         349,037  
Buffington Westpointe, LLC   UDF IV AC   San Antonio, TX   1st lien; 37 paper lots     13 %   5/31/2013   5/31/2016     4,850,000       2,207,733       2,454,318       53,313             134,637  
CTMGT Five Oaks Crossing, LLC   UDF IV   Tarrant County, TX   2nd lien; 125 finished lots     13 %   6/5/2013   6/5/2016     3,515,000       2,148,084                         1,366,916  
CTMGT Valley Ridge II, LLC   UDF IV   Tarrant County, TX   2nd lien; 103 paper lots     13 %   7/18/2013   7/18/2016     1,603,700       1,257,159                         346,541  
BLD Gosling, LLC   UDF IV FII   Houston, TX   1st lien and pledge of equity; 42 finished lots; 55 paper lots     13 %   6/28/2013   6/28/2016     9,582,400       5,034,119                         4,548,281  
BLD SPM 2A, LLC   UDF IV FIII   Austin, TX   1st lien; 43 paper lots     13 %   6/28/2013   6/28/2016     2,650,000       1,687,340                         962,660  
BLD SPM 3A, LLC   UDF IV FIII   Austin, TX   1st lien; 32 paper lots     13 %   6/28/2013   6/28/2016     2,375,000       1,649,053                         725,947  
BLD PBC 4A, LLC   UDF IV FIV   Austin, TX   1st lien and pledge of equity; 23 finished lots; 49 paper lots     13 %   6/28/2013   6/28/2016     3,467,600       1,487,880       828,810                   1,150,910  
BLD Crystal Springs, LLC   UDF IV FVIII   Austin, TX   1st lien; 261 paper lots     13 %   7/15/2013   12/31/2014     14,500,000       12,965,776             485,885             1,048,339  
CTMGT CR 2C, LLC   UDF IV FIII   Collin County, TX   1st lien; 78 finished lots     13 %   7/24/2013   7/24/2016     5,550,000       2,655,183       984,578                   1,910,239  
CTMGT Riverwalk Villas, LLC   UDF IV   Denton County, TX   2nd lien; 97 finished lots     13 %   8/1/2013   8/1/2016     5,237,300       3,288,620                         1,948,680  
CTMGT Lewisville 14, LLC   UDF IV   Denton County, TX   2nd lien; 62 finished lots     13 %   8/15/2013   8/15/2016     2,800,000       1,606,260             664,368             529,372  
CTMGT Hickory Creek 13, LLC   UDF IV FII   Denton County, TX   2nd lien; 38 paper lots     13 %   8/30/2013   8/30/2016     1,630,000       887,894                         742,106  
CTMGT Lucas 238, LLC   UDF IV   Collin County, TX   2nd lien; 120 paper lots     13 %   8/30/2013   8/30/2016     12,574,000       3,666,990       2,920,703                   5,986,307  
CTMGT Frontier 80, LLC   UDF IV   Collin County, TX   2nd lien; 288 paper lots     13 %   9/6/2013   2/18/2017     32,600,000       12,962,679       559                   19,636,762  
CTMGT Glenmere, LLC   UDF IV   Denton County, TX   2nd lien; 30 paper lots     13 %   9/12/2013   9/12/2016     1,010,000       876,149                         133,851  
CTMGT Frisco Hills 1A, 1B, 1C FL–2, LLC   UDF IV AC   Denton County, TX   1st lien and reimbursements; 70 finished lots     13 %   11/13/2013   11/13/2016     10,027,896       5,743,663       4,976,705                    
CTMGT Frisco Hills 4B FL–2, LLC   UDF IV AC   Denton County, TX   1st lien and reimbursements; 26 finished lots     13 %   10/9/2013   10/9/2016     4,654,111       2,050,854       1,647,440                   955,817  
BHM HP 5.3, LLC   UDF IV   Hays County, TX   1st lien and reimbursements; 53 paper lots     13 %   10/1/2013   10/1/2016     4,776,300       2,814,733                         1,961,567  
CTMGT Turbeville, LLC   UDF IV   Denton County, TX   2nd lien and reimbursements; 118 finished lots; 19.23 acres     13 %   4/8/2014   4/8/2017     18,200,000       10,294,313                         7,905,687  
CTMGT Williamsburg 1B FL–2, LLC   UDF IV FII   Rockwall County, TX   1st lien; 141 paper lots     13 %   10/31/2013   10/31/2016     7,838,300       2,482,555                         5,355,745  
CTMGT Travis Ranch 3G FL–2, LLC   UDF IV FII   Kaufman County, TX   1st lien and reimbursements; 45 paper lots; 34.416 acres     13 %   11/21/2013   11/21/2016     14,936,200       4,725,636                         10,210,564  
CTMGT Craig Ranch, LLC   UDF IV FVIII   Collin County, TX   1st lien; 74 paper lots     13 %   11/19/2013   11/19/2016     6,415,000       3,547,224                         2,867,776  
CTMGT Dominion Estates, LLC   UDF IV   Dallas County, TX   2nd lien; 137 paper lots     13 %   12/6/2013   12/6/2016     9,610,000       3,029,065       968,985                   5,611,950  
CTMGT Pine Trace Village FL–1, LLC   UDF IV FII   Houston, TX   1st lien and reimbursements; 16 finished lots; 32.693 acres     13 %   1/29/2014   1/29/2017     3,825,800       1,922,133       651,060                   1,252,607  
CTMGT Creekside Estates, LLC   UDF IV   Collin County, TX   2nd lien; 27 paper lots     13 %   2/12/2014   8/12/2017     3,420,000       1,365,477       1,610,930                   443,593  
CTMGT Bear Creek, LLC   UDF IV   Dallas County, TX   2nd lien and reimbursements; 367.983 acres     13 %   12/27/2013   6/27/2016     2,270,000       1,171,177                         1,098,823  
CTMGT Southlake Houston, LLC   UDF IV   Galveston County, TX   1st lien collateral assignment; 1,220 paper lots     13 %   12/27/2013   12/27/2015  (4)   6,803,210       6,791,117                         12,094  
BDMR Development, LLC   UDF IV   Kaufman County, TX   1st lien; 1,236 paper lots     13 %   1/9/2014   1/9/2015     8,052,964       6,917,500                         1,135,464  
Scofield 46, LLC   UDF IV   Travis County, TX   2nd lien; 46 paper lots     15