Chapter 9: Financing Real Property

Question 1

Creating the obligation

Define Promissory Note

Answer 1

A specialized type of contract between the borrower and the lender which the borrower agrees to repay the loan on certain terms and conditions (has intrinsic value, can be resold)

Question 2

Creating the obligation

Define Mortgage

Answer 2

Has no intrinsic value, merely provides a remedy that the lender can use. Mortgagor conveys an interest in the property to the mortgagee as security for performance.

Question 3

Creating the obligation

Define Acceleration Clause

Answer 3

Acceleration of loan after default is the preliminary step of the foreclosure process

Question 4

Creating the obligation

Define “Due on Sale” clause

Answer 4

Gives the lender the option to demand full payment of the loan if the borrowers sell the property or any part of it

Question 5

Creating the obligation

List of common nonmonetary obligations

Answer 5

1. Keep the property in good repair
2. Avoid waste
3. Maintain adequate property insurance
4. Defend title in litigation

Question 6

Creating the obligation

What occurs when the buyer “assumes the loan?”

Answer 6

The buyer is personally liable to repay the loan and the personal assets of the buyer are at risk

Question 7

Creating the obligation

What occurs when the buyer “takes subject to” the loan?

Answer 7

The buyer is not personally liable and personal assets are not at risk

Question 8

Providing the security

3 mortgage theories

Answer 8

1. Title theory
2. Intermediate theory
3. Lien theory

Question 9

Providing the security

Define Title Theory

Answer 9

Mortgage transfers title from the borrower to the lender and the lenders has right of possession

Question 10

Providing the security

Define Intermediate theory

Answer 10

Lender holds title but does not have right of possession

Question 11

Providing the security

Define Lien theory

Answer 11

Lender has security interest in the property but does not have right of possession until foreclosure

Question 12

Providing the security

How does the “rents and profits clause” function?

Answer 12

If the security is rental property the lender may collect rents directly from the tenants

Question 13

Deed of Trust

Define Deed of Trust

Answer 13

The trustor conveys property in trust to 3d party, trustee, for the benefit of the beneficiary (lender)

Closely resembles a mortgage but designed to allow lenders to circumvent laws - courts have rejected the distinction

Question 14

Installment Land Contract

Define Installment Land Contract

Answer 14

Buyer promises to pay seller over a fixed period and seller retains title until all the payments are made (many courts view this arrangement as merely a mortgage to avoid unfair outcomes)

Question 15

Equitable Mortgage

What is the rule for creating equitable mortgages?

Answer 15

If a transaction resolves itself into a security where it is used for the purpose of pledging real property with the intent to have the effect of a mortgage, it is a mortgage

Question 16

Equitable Mortgage

What are the 8 factors for finding an equitable mortgage?

Answer 16

1. Statements made by the homeoowner indicating that homeownership continues
2. Disparity between value paid and actual value
3. Existence of option to repurchase
4. Homeowner’s continued possession
5. Continued responsibilites for paying taxes and maintaining the property
6. Disparity in bargaining power and sophisitication
7. Irregularity of purchase process - listed? appraisal?
8. Financial distress of homeowner

Question 17

Foreclosing on the Security

What can owners do to avoid losing their home?

Answer 17

1. Reinstatement
2. Equitable Redemption

Question 18

Foreclosing on the Security

Define Reinstatement

Answer 18

A borrower can avoid foreclosure by paying the missed payments before the lender accelerates the loan - some states allow for a limited time

Question 19

Foreclosing on the Security

Define Equitable redemption

Answer 19

A borrower may avoid foreclosure by paying the loan in full (plus incurred costs) after default but before the sale

Question 20

Judicial foreclosure

What are the steps to a judicial foreclosure?

Answer 20

1. Complaint is filed against necessary parties
2. Notice is given of the time and place of the foreclosure sale
3. Judicial confirmation of the sale
4. Quitclaim deed is delivered to successful bidder

Question 21

Results of the Foreclosure Sale

How does foreclosure effect other interests?

Answer 21

A foreclosure on a senior mortgage will wipe out all junior mortgages (because lender took on the risk before additional risk was added) and buyer will take subject to any senior mortgages

Question 22

Results of the Foreclosure Sale

In what order are foreclosure proceeds distributed?

Answer 22

1. First to the foreclosing lender
2. Then to junior interests in order of priority
3. Any surplus proceeds go to the borrower

Question 23

Special Mortgage Priority Rules

What are the 3 situations where special priority rules apply?

Answer 23

1. Purchase money mortgage
2. Future advance mortgage
3. Deed in lieu of foreclosure

Question 24

Special Mortgage Priority Rules

How does a purchase money mortgage effect priority rules?

Answer 24

A purchase money mortgage has priority over any other lien or interest that attaches to the property

Question 25

Special Mortgage Priority Rules

How does a future advance mortgage effect priority rules?

Answer 25

If the mortgage obligates the lender to make additional loans, the new loan takes priority

Question 26

Special Mortgage Priority Rules

How does a deed in lieu of foreclosure effect priority rules?

Answer 26

Lender accepts the deed, but it does not wipe out junior interests. Lender takes subject to the junior interests.

Question 27

Exercising Rights After Foreclosure

What rights does the borrower have after foreclosure?

Answer 27

1. Statutory right of redemption
2. Setting aside the sale

Question 28

Exercising Rights After Foreclosure

What is the buyer’s statutory right of redemption?

Answer 28

In about half of states buyer may regain title by redeeming property from successful bidder within a set period of time - borrower must pay sales price plus interest to the bidder

Question 29

Exercising Rights After Foreclosure

What is the buyer’s right to set aside the sale?

Answer 29

If a nonjudicial sale is so inadequate as to “shock the conscience” or is “grossly inadequate” the court may set aside the sale. (eg a sale for 20% or less of market value will often meet this standard)

Question 30

Protecting the Lender

How can the lender recover the remainder of the loan if the sale does not suffice?

Answer 30

Lender can sue the borrower for breach of contract and obtain a deficiency judgment

Question 31

Protecting the Lender

How do states restrict deficiency judgments from producing unfair outcomes? (eg bank forecloses on loan for $170k, acquires house worth $200k for $50k, gets judgment for $120k, and ultimately receives $320k of total assets)

Answer 31

1. Fair value
2. Prohibition
3. Other approaches

Question 32

Protecting the Lender

Define fair value as a method for promoting fair outcomes in deficiency judgments

Answer 32

Most states restrict the size of a deficiency judgment by limiting it to the amount by which the unpaid loan balance exceeds the fair market value of the property

Question 33

Protecting the Lender

Define prohibition as a method for promoting fair outcomes in deficiency judgments

Answer 33

Some states prohibit deficiency judgments altogether in certain situations such as nonjudicial foreclosures

Question 34

Protecting the Lender

What are some other approaches for promoting fair outcomes

Answer 34

A number of courts will invalidate deficiency judgments based on inadequacy of the sale price