Chapter 2
Financing: Notes and Mortgages
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Overview
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Notes
The Mortgage Instrument
Assumption of Mortgage
Acquiring Title “Subject to” a Mortgage
Other Financing Sources
Land Contracts
Default
Alternatives to Foreclosure: Workouts
Foreclosure
Bankruptcy
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Notes
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Evidence of debt
Major provisions:
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Financial
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Amount borrowed and interest rate
Payment amount and maturity date
Application of payments
Reference to security for the loan
Default conditions and penalties
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Notes – Continued
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Major provisions
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Prepayment provision
Acceleration of note
Non-recourse clause
Assumability provisions
Assignment
Future advances
Release
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Note Example
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The Mortgage Instrument
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Note & Mortgage
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Note: Obligation to pay
Mortgage: Pledges property as security
Mortgagor: Borrower
Mortgagee: Lender
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The Mortgage Instrument –
Continued
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Important Clauses
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Taxes & insurance fund
Charges & liens
Hazard insurance
Property preservation and maintenance
Due on sale clause
Taxes & insurance fund
Charges & liens
Hazard insurance
Property preservation and maintenance
Due on sale clause
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Mortgage Example
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Mortgage Insurance Rider and
PMI Disclosure
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Assumption of Mortgage
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Assumption – A property may be
sold/granted with the condition of new
buyer/grantee taking over the
responsibility of the loan
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Liability – since the agreement is not with
the lender original borrower is still
responsible for the loan
Release conditions – the lender may or
may not release the original borrower
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Acquiring Title “Subject to” a
Mortgage
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“Subject to” a mortgage
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Loan is a liability of the grantor
Property covered by a mortgage
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Land
Improvements
Easements
Fixtures
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Special case of trade fixtures
Mineral rights
Junior mortgages – unsecured bridge loan
with high interest rate and short-term
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Other Financing Sources
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Seller financing: Source of credit for real
property purchaser from the seller
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It is used when
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third party mortgage is expensive
The buyer does not qualify for a loan
The seller wants to use installment method to report gain on
sale for tax purposes
The seller artificially increases the selling price by offering a
lower than market interest rate and therefore create more
capital gain and less interest or ordinary income from seller
financing
Purchase money mortgage in addition to another loan
– the lender may require use of subordination clause
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Land Contracts
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Seller retains naked title
Purchaser has equitable title
Seller conveys title when purchaser
completes the performance obligations
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Default
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Failure to fulfill contract, agreement, or duty,
especially obligation such as a note. The
most common default is failure to make
installment payment
Beyond installment, failure to pay taxes or
insurance premium can also result in default
Even failure to repair the property may result
in default called technical default
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Alternatives to Foreclosure:
Workouts
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Restructure the loan
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Recasting – changing mortgage terms to avoid default
Extension agreement between borrower and lender
Alternatives – temporary extensions
Transfer of mortgage to a new owner
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“Subject to” the existing mortgage. The buyer is not responsible for
the original loan
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Voluntary conveyance – transfer of title to lender with an
agreement. The process is fast and less costly
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Purchase an option on property value
What are the characteristics of this option?
Deed in lieu of foreclosure
Friendly foreclosure – borrower fully cooperates
Prepackaged bankruptcy – agreement between creditors and
a borrower to speed up the process
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Foreclosure
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There are two forms of foreclosure:
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Judicial foreclosure:
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Judicial foreclosure or property sale
Lawsuit against the property owner to execute a
judgment to recover losses on the loan
Redemption – process of canceling a foreclosure
sale by fulfilling debt obligations
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Equity of redemption – prior to foreclosure
Statutory right of redemption – after foreclosure
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Not in every state
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Foreclosure – Continued
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Property sale
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Pricing: Public auction
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Deed of Trust: Trustor (creator of trust – borrower), Trustee
(holds the title), Beneficiary (the lender)
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Purchaser buys any title defects
Senior & junior lien claimants
Deficiency judgment
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Power of sale clause – court authority not necessary
Used in a limited number of states
Parties
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Upset price – sets a minimum price for a valid sale
Property price does not cover claim
Tax issues
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Tax sales
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State Foreclosure Laws
Source: http://www.foreclosures.com/pages/state_laws.asp?ChangeStatePref=true
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Foreclosure Dictionary
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Bankruptcy
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Chapter 7
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Chapter 11
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Liquidation
Available to business owners
Reorganization
Cramdown – reorganization plan that is not fully
supported by all creditors but approved by the
court
Chapter 13
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Available to individuals
Reorganization
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