Notes and Mortgages
January 6, 2020
Promissory Note and Trust Deed
Let's discuss how a promissory note and a mortgage, or trust deed, all relate together in financing. How does one go about obtaining a real estate loan to buy a house? The borrower has to sign what is called a promissory note. The promissory note is what creates the debt. Once the note is in place, which is a promise to pay, the lender wants a borrower to sign a second document called a mortgage or a trust deed. It depends upon what state you are in, whether your state uses a mortgage or trust deed. Both terms mean the same thing, however, security for the debt or another term for that is the word collateral. With a mortgage state, the two terms involved will be the mortgagor which is the borrower, and the mortgagee which is the lender. Since the term mortgagor ends in “or” that means that is the giver of the mortgage document, so the borrower is called the mortgagor. Likewise, the word mortgagee ends in the letters “ee” which once again is the receiver. So, since the lender receives the mortgage document, the lender is referred to as the mortgagee. In a mortgage state, we have judicial foreclosure, which means that if the payments are not made, the lender has to go to court to foreclose.
Analysis of a Note
The promissory note that a borrower signs to create the debt is always negotiable and by negotiable we mean that the note can be bought and sold. Many times when a loan is made and the borrower signs a note, the lender will sell or transfer that note to another lending institution. Your real estate payments that you make on your loan are always paid in arrears. Arrears, meaning at the end. Interest is also paid in arrears. What that means is that if a borrower makes a March 1st mortgage payment, that March 1st mortgage payment actually is paying the previous month’s interest, the month of February, because interest and payments are always paid in arrears. Finally, debt service is a fancy term that means your monthly mortgage payments are being applied to both principal and interest. That's what it takes to service the debt.
Mortgage State vs. Trust Deed State
Let's contrast a mortgage state with a trust deed state. With the deed of trust, or trust deed, which once again is the security for the debt, we simply have different terms for the parties involved. The lender is called a beneficiary, the borrower is called a trustor, the giver of the trust deed document, and the neutral third party is called the trustee, who is the receiver of the trust deed document. That trustee typically is like an attorney for the lending institution. The purpose of the trustee is to foreclose if necessary. In a trust deed state, we have nonjudicial foreclosure, which means that the lender, or in essence the trustee, does not have to go to court to foreclose.
If a person is foreclosed upon, most states have redemption laws. Redemption means to redeem or to buy back. Let's contrast two types of redemption: equitable versus statutory redemption. Equitable redemption is the right of a borrower to redeem the property before the foreclosure sale. Whereas statutory redemption is the right of a defaulting borrower to redeem the property after the foreclosure sale. In any event, when the borrower redeems the property, the borrower has to redeem for whatever the property is sold for at the foreclosure sale plus any other costs involved.
The Foreclosure Sale
If the property that is being foreclosed upon does not bring in enough money at the actual foreclosure sale, the borrower still might owe some money to a lender. Let's say that the loan amount on a first mortgage was $200,000 yet at the foreclosure sale, it only sold for $190,000 therefore, the lender would still be $10,000 short. The lender many times can still go after the borrower with a deficiency judgment for that $10,000 difference. Finally, please remember that real estate taxes always get paid off first at a foreclosure sale. After that, it's any lien in order of priority based on the recording date. And finally, if there's any money left over at the very end, the defaulting borrower would get whatever was left over.
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