Real Estate Transactions Part VI: Financing and Security - April 4

Question 1

What collateral is usually used for home buyers? (Barros)

Answer 1

The bank will take the home as collateral if you don’t pay the mortgage. (509)

Question 2

The lender in a real estate transaction will typically want what two primary things? (Barros)

Answer 2

(1) a series of payments of money representing the principal and interest on the loan and (2) a way to access the property as collateral if the borrower fails to pay the loan back. (509)

Question 3

What are the two basic components of the mortgage loan? (Barros)

Answer 3

The mortgage loan has two basic components. In return for the loan of money, the borrower delivers to the lender (a) a promissory note and (b) a mortgage. (509)

Question 4

What is a promissory note? (Barros)

Answer 4

The promissory note, or note for short, is the borrower’s promise to repay the loan. (509)

Question 5

What is a mortgage? (Barros)

Answer 5

The mortgage itself is a grant of a security interest in the property from the borrower to the lender. This security interest allows the lender to foreclose on the property in the event the borrower fails to honor the promissory note. (509)

Question 6

Does a mortgage require consideration? (Barros)

Answer 6

There is no requirement, however, that there be consideration for a mortgage. A mortgage securing a gratuitous obligation, or a mortgage securing a pre-existing obligation, generally will be valid. (509)

Question 7

What is the title theory of mortgages? (Barros)

Answer 7

The title theory of mortgages views a mortgage as a conveyance of title to the lender/mortgagee. (510)

Question 8

What is the lien theory of mortgages? (Barros)

Answer 8

The lien theory views a mortgage as the conveyance of lien to the lender/mortgagee. (510)

Question 9

Who is the mortgagee? (Barros)

Answer 9

The lender. (511)

Question 10

Who is the mortgagor? (Barros)

Answer 10

The borrower. (511)

Question 11

What is the purpose of a mortgage? (Barros)

Answer 11

The entire purpose of the mortgage is to allow the lender to foreclose on the property in the event that the borrower defaults on the obligations in the note. (511)

Question 12

What are the two common types of foreclosures in the U.S.? (Barros)

Answer 12

Judicial and power of sale foreclosures. (511)

Question 13

What is a judicial foreclosure? (Barros) (Eason)

Answer 13

In a judicial foreclosure jurisdiction, foreclosure occurs through a judicial proceeding and the foreclosure sale is subject to judicial supervision. (511) The lender files a lawsuit against the borrower and any junior interest holders seeking a judgment that foreclosure is justified. (4/4)

Question 14

What is a power of sale foreclosure? (Barros)

Answer 14

In a power of sale jurisdiction, foreclosure is a private process. The lender or other private party is given the power to sell the property on default by the borrower. There is no direct judicial supervision of the foreclosure sale. (511)

Question 15

How many parties are there in a mortgage? What are they? (Barros)

Answer 15

Two. The borrower and the lender. (511)

Question 16

How many parties are there in a deed of trust? What are they? (Barros)

Answer 16

Three. The borrower, the lender, and the trustee. (511)

Question 17

What happens in a deed of trust? (Barros)

Answer 17

The borrower conveys title to the property to the trustee through an instrument called a deed of trust. The trustee is given the power to sell the property if the borrower defaults on the note. (511)

Question 18

What is equity of redemption? (Barros)

Answer 18

To protect borrowers from overreaching lenders, the equity courts began to allow borrowers to retain ownership of the property by paying off the loan even if the borrower missed the formal due date. (513)

Question 19

What is clogging? (Barros)

Answer 19

A term in a mortgage or note that purports to waive or otherwise interfere with the borrower’s right to redeem the property will typically be invalid. Courts often describe such terms as impermissibly “clogging” the equity of redemption. (513)

Question 20

What is strict foreclosure? (Barros)

Answer 20

The process where the foreclosure ends with the lender getting fee simple ownership. (514)

Question 21

What is an acceleration clause? (Barros)

Answer 21

Under these clauses, the full amount of the loan accelerates and becomes immediately due on the borrower’s default. This process is called acceleration because the parties originally agreed that the principal would be repaid in a series of payments made over 30 years. On default, the obligation to repay accelerates and the entire outstanding amount of debt becomes immediately due. (515)

Question 22

What is the main advantage of the judicial foreclosure process? (Barros)

Answer 22

The main advantage of the judicial foreclosure process is that it provides due process protection and court supervision for property owners facing foreclosure. (515)

Question 23

What is the main disadvantage of the judicial foreclosure process? (Barros)

Answer 23

Its main disadvantage is that, like any judicial process, it can be slow and expensive. (515)

Question 24

What is the main advantage of the power of sale foreclosure process? (Barros)

Answer 24

The main advantage of power of sale foreclosure is that it is relatively quick and inexpensive. (515)

Question 25

What is the main disadvantage of the power of sale foreclosure process? (Barros)

Answer 25

The main disadvantage is that it lacks the process and fairness protections that are provided by judicial foreclosure. (515)

Question 26

When does a surplus occur? (Barros)

Answer 26

A surplus occurs if the sale brings in more than enough money to pay off the lender and cover the expenses of foreclosure. If there is a surplus, then it goes to the owner/mortgagor. (515)

Ex: If you lose your home through foreclosure, and the foreclosure sale nets more than you owed to the lender, you will be entitled to the surplus.

Question 27

When does a deficiency occur? (Barros)

Answer 27

A deficiency occurs if the foreclosure sale does not bring in enough money to pay off the lender/mortgagee. (515)

Question 28

What is a deficiency judgment? (Barros)

Answer 28

A deficiency judgment is a court judgment against the borrower/mortgagor individually. (515)

Question 29

What is leverage a synonym for? (Barros)

Answer 29

Debt. (516)

Question 30

What does it mean when ownership is highly leveraged? (Barros)

Answer 30

If a person owns an asset that is encumbered by a large amount of debt. (516)

Question 31

What is an anti-deficiency statute? (Barros)

Answer 31

As their name implies, these statutes prohibit the lender/mortgagee from obtaining a deficiency judgment against the borrower/mortgagor. (517)

Question 32

What is a disadvantage of anti-deficiency statutes? (Barros)

Answer 32

They force lenders, who often are far more sophisticated than borrowers, to be more careful in the loans that they make. (517)

Question 33

What is an advantage of anti-deficiency statutes? (Barros)

Answer 33

They allow borrower/mortgagors to walk away from obligations that they had agreed to undertake. (517)

Question 34

What is a recourse transaction? (Barros)

Answer 34

The transaction could be set up so that if the collateral is not sufficient, the lender can obtain a judgment against the borrower for the remainder of the debt. If the transaction is set up in this way, it is called a recourse transaction, because the lender has recourse (i.e., can obtain a judgment) against the borrower individually. In a jurisdiction that allows deficiency judgments, mortgage transactions typically are recourse transactions. (517)

Question 35

What is a non-recourse transaction? (Barros)

Answer 35

A transaction that is set up so that the lender is limited to the amount of collateral. In this type of transaction, the lender cannot obtain a judgment against the borrower for the remainder of the debt. If the transaction is set up in this way, it is called a non-recourse transaction, because the lender does not have recourse against the borrower individually. In jurisdictions with anti-deficiency statutes, residential mortgage transactions are non-recourse as a matter of law. (517)

Question 36

Besides anti-deficiency statutes, what other way for transactions to become non-recourse transactions? (Barros)

Answer 36

Transactions may be made non-recourse by contract or by corporate structure, and there are many areas of secured finance where non-recourse transactions are very common. (517)

Question 37

What does it mean when a property is underwater or upside-down? (Barros)

Answer 37

When the current value of a property is less than the amount owed on the mortgage loan. (518)

Question 38

What happens in a short sale? (Barros)

Answer 38

In a short sale, the lender/mortgagee agrees to release the mortgage on the property in return for less than full payment of the amount outstanding on the loan. In some cases, the lender will agree to release the borrower/mortgagor from liability for the additional amount due on the loan. In other cases, the borrower/mortgagor will remain liable for the remaining deficiency. The crucial point for the sale going forward is that the lender/mortgage will agree to release the mortgage, allowing the buyer to take the property with clear title. (518)

Question 39

What is the grossly inadequate standard? (Barros)

Answer 39

A court is warranted in invalidating a sale where the price is less than 20 percent of fair market value and, absent other foreclosure defects, is usually not warranted in invalidating a sale that yields in excess of that amount. (519)

Ex: A foreclosure sale for $100,000 of a home with a fair market value of $400,000 would be adequate and upheld under the Restatement test, because the sale price was 25 percent of the fair market value.

Question 40

What is the majority rule of the grossly inadequate standard? (Barros)

Answer 40

The strong majority rule remains that courts will only interfere with a procedurally correct foreclosure sale if the sale price is grossly inadequate. (519)

Question 41

What does it mean to be subject to the mortgage? (Barros)

Answer 41

This means that if original borrower/mortgagor defaults on the note, lender/mortgagee can foreclose on the mortgage on Blackacre. (520)

Question 42

In some circumstances, how can New Owner assume Original Borrower/Mortgagor’s obligations under the note and mortgage? (Barros)

Answer 42

Assumption is achieved through an affirmative agreement by New Owner to take on these obligations. In an assumption, New Owner is not only subject to the mortgage, but is also personally liable for the note and mortgage obligations. As a result, if there is a default, New Owner not only faces loss of the property through foreclosure, but also will be responsible for any deficiency that arises out of the foreclosure sale. (520)

Question 43

What is the crucial difference between a subject to transaction and an assumption? (Barros)

Answer 43

With a subject to transaction, New Owner is not personally liable and will not face a deficiency judgment. With an assumption, New Owner is personally liable and will face a deficiency judgment. (520)

Question 44

What is a due on sale clause? (Barros)

Answer 44

As its name implies, a due on sale clause makes the entire amount of debt due immediately on the sale of the property. (521)

Question 45

What happens if there is a due on sale clause other similar provision in the note or mortgage? (Barros)

Answer 45

If there is a due on sale clause or other similar provision in the note or mortgage, the Lender/Mortgagee has the power to force the new owner to assume the obligations in the note and mortgage as a condition for waiving the due on sale clause. (521)

Question 46

What is a subordination agreement? (Barros)

Answer 46

A subordination agreement is where the senior interest agrees to subordinate, or become junior to, the junior interest. (522)

Question 47

What is the first important consequence in the foreclosure context? (Barros)

Answer 47

First, if there are multiple interests secured by the property, the interest with the highest priority will get paid first from the proceeds from the foreclosure sale. (522)

Question 48

What is the second important consequence in the foreclosure context? (Barros)

Answer 48

Second, interests that are junior to the interest that is being foreclosed upon are destroyed by the foreclosure process. (523)

Question 49

What is the first interest that the foreclosure process destroys? (Barros)

Answer 49

First, if there are multiple interests secured by the property, the interest with the highest priority will get paid first from the proceeds from the foreclosure sale. (523)

Question 50

What is the second interest that the foreclosure process destroys? (Barros)

Answer 50

Second, it terminates any interests in the property that are junior in priority to the mortgage being foreclosed. In other words, the purchaser in the foreclosure sale takes the property free and clear of the junior interests that have been terminated in the foreclosure process. (523)

Question 51

What is a purchase money mortgage? (Barros)

Answer 51

A purchase money mortgage is a mortgage that secures a loan used to acquire title to the property. Hence the name—a purchase money mortgage secures the loan used by the buyer to finance the purchase of the property. (524)

Question 52

When do purchase money mortgages generally get priority? (Barros)

Answer 52

Purchase money mortgages generally get priority over all other mortgages and liens against the property that arise

(a) against the property before the property is purchased using money secured by the purchase money mortgage and

(b) out of the obligations of the borrower/mortgage. (524)

Question 53

What is a judgment lien? (Barros)

Answer 53

A judgment lien is a lien imposed by a court to enforce a judgment. (524)

Question 54

What is an after-acquired property clause? (Barros)

Answer 54

An after-acquired property clause is a clause in a mortgage that states that the mortgage will apply not only to the initial property, but also to any property that the borrower/mortgagor later acquires. (524)

Question 55

What two primary things does the lender in a real estate transaction want? (Barros)

Answer 55

(1) a series of payments of money representing the principal and interest on the loan and

(2) a way to access the property as collateral if the borrower fails to pay the loan back. (533)

Question 56

What is an installment land contract? (Barros)

Answer 56

An installment land contract is rent-to-own for real property. (533)

Question 57

What happens in an installment land contract? (Barros)

Answer 57

The seller effectively acts as the lender in the transaction. The buyer agrees to make regular payments to the seller over a period of time. In return, the seller agrees to convey title to the buyer once the final payment has been made. In the intervening time, the buyer has the right to possess the property as a tenant. The payments are structured so that they include both the purchase price of the property and interest. In this way, the payments are roughly equivalent of payments made on a mortgage loan, which include both principal and interest components. (533)

Question 58

What happens in an installment land contract if a buyer defaults on the payments? (Barros)

Answer 58

If the buyer defaults on the payments, then the seller can simply evict the buyer. There is no need to foreclose, because the seller remains the fee simple owner of the property until the final payment is made. (533)

Question 59

What are the seller’s advantages in an installment land contract? (Barros)

Answer 59

The seller obtains a buyer for the property and receives payments that include an interest payment over time. As the fee simple owner, the seller has excellent collateral securing the buyer’s obligations.

Question 60

What are the seller’s disadvantages in an installment land contract? (Barros)

Answer 60

The installment land contract forces the seller into the role as the lender. As a result, the seller has to wait to receive the full purchase price of the property until the end of the contract term. In a typical transaction financed by a loan from a third party lender, in contrast, the seller would get the full purchase price as soon as the transaction closes. (533)

Question 61

What are the buyer’s advantages in an installment land contract? (Barros)

Answer 61

For the buyer, the installment land contract has the advantage of often allowing the purchase of the property with little or no down payment. Installment land contracts are also often used to sell property to people who might not qualify for a traditional mortgage loan. (533)

Question 62

What are the buyer’s disadvantages in an installment land contract? (Barros)

Answer 62

The major disadvantage of an installment land contract is that the buyer does not build up equity in the property as she makes payments over time to the seller. Even if the buyer has made payments on the property for many years, in many jurisdictions, the buyer will have no interest in the property if she defaults.

Question 63

In a title theory jurisdiction, if a borrower defaults on a loan, will the lender have the right to receive rents during the term of the mortgage? (Barros)

Answer 63

Yes. In a title theory jurisdiction, the lender/mortgagee will often have the right to receive rents during the term of the mortgage. (510)

Question 64

In a lien theory jurisdiction, if a borrower defaults on a loan, will the lender have the right to receive rents during the term of the mortgage? (Barros)

Answer 64

No. In a lien theory jurisdiction, the borrower/mortgagor would have clear possession of the property and would be entitled to the rents. (510)

Question 65

Why would someone agree to a subordinate clause? (Eason)

Answer 65

Vacant property, more fickle, total value of the lot and house will be worth it. Refinance fees also. (4/4)