Legal Question in Real Estate Law in California
Is a promissory note have an equivalent amount of money at risk by the lender? Or does a promissory note create money by the signature of the single endorser? For example, Joe Buyer signs a promissory note for 200,000 dollars at 4 percent interest for 30 years, lender wire transfers the amount of 200,000 dollars to John Seller paying off any liens and equity if any to John Seller. Where did the 200,000 for Joe Buyer come from?
2 Answers from Attorneys
From the lender who wired it. What kind of question is this?
The answer is really "both." The $200,000 came from approximately $220,000 in deposits with the lender (I'm not up on the current reserve limits and they vary anyway depending on the type of lending institution). Once Joe Seller gets his equity payment and deposits that to his bank, his bank can loan out, say, $90,000 on a deposit of $100,000. In addition, Joe Seller's lender(s) can re-lend the $100,000 pay off. So now $220,000 in deposits has generated $290,000 in loans, plus the old loan funds to Joe Seller can be relent. Bank A still owes its depositors $220,000, though, whether it gets paid back the $200,000 or not. And Bank B still owes Joe Seller $100,000 whether it gets its loans paid back. And Joe Seller's old lending bank still owes its depositors $110,000 for the deposits that allowed it to lend $100,000. So in a sense money has been created out of thin air, but the banks are still at risk for the full amount. For more information start here: http://en.wikipedia.org/wiki/Fractional-reserve_banking
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