Create 18 - Finance: Notes and Security Instruments

uniform covenants

(promises) in all security instruments, whether they are mortgages or deeds of trust.

Name the parties to a deed of trust.

A deed of trust has three parties—borrower (trustor), lender (beneficiary), and neutral third party (trustee).

Name the parties to a mortgage.

A mortgage has two parties, the borrower (mortgagor) and the lender (mortgagee).

Define security instrument.

A security instrument is a legal document given by the borrower to hypothecate (pledge) the property to the lender as collateral for the loan.

Name two riders used with security instruments.

Adjustable rate rider, balloon rider, condominium rider, and biweekly payment rider

In a mortgage, who retains possession of the property?

Borrower (mortgagor)

In a deed of trust, who retains possession of the property?

Borrower (trustor)

Uniform Covenants: Preservation and Maintenance of the Property

Borrowers cannot destroy or damage the property and promise to maintain the property to prevent it from deteriorating or decreasing in value due to its condition. The lender (or its agent) has the right to inspect the property. Borrowers cannot use, dispose of, store, or release any hazardous substances on the property that adversely affects the value of the property

Differentiate between collateral and lien.

Collateral is something of value given as security for a debt. A loan secured by a lien on real property (whether a mortgage, deed of trust, or land contract) makes the real property the collateral for the loan. A lien is the legal claim of one person upon the property of another person to secure the payment of a debt or financial obligation.

Typical Clauses Found in a Fixed-Rate Note

Date & Property Description Clearly Identified Parties to the Contract Borrower's Promise to Pay Interest Payments Borrower's Right to Prepay Loan Charges Borrower's Failure to Pay as Required Giving of Notices Joint and Several Liability Waivers Reference to Security Signatures of the Borrowers

Standard Items in Security Instruments

Date of its execution Name(s) of borrower(s) Name of lender Reference to the promissory note including amount of loan Joint and several liability Description of property securing the loan

List 4 standard items found in Fannie Mae/Freddie Mac Uniform Security Instruments.

Date of its execution, name(s) of borrower(s), name of lender, reference to the promissory note including amount of loan, joint and several liability, description of property securing loan

Distinguish between equitable title and bare legal title.

Equitable title is the right to obtain absolute ownership to property when legal title is held in another's name. Bare legal title is title that lacks the usual rights and privileges of ownership.

Lenders are encouraged to use

Fannie Mae/Freddie Mac Uniform Security Instruments (mortgage, deed of trust, or security deed) when originating single-family residential loans. However, any residential loans sold to Freddie Mac must use the applicable single-family security instrument.

"superior"

First deeds of trust or mortgages, as the name suggests, are recorded first and are in the first lien position.

Why is hypothecation important?

Hypothecation is a legal arrangement that allows a borrower to remain in possession of a property secured by a loan. The borrower retains right of possession as long as payments are made according to the loan agreement.

Uniform Covenants: Occupancy

If the loan is for the borrower's personal residence, the borrower must occupy the property for at least one year unless the lender agrees otherwise in writing. The security instrument (mortgage or deed of trust) is restating your intention to occupy the property.

Compare a lien theory state with a title theory state.

In a lien theory state, title to real property is vested in the borrower. The borrower gives only a lien right to the lender during the term of the loan. In a title theory state, title to real property is vested in the lender. In a title theory state, the mortgage states that title reverts to the borrower once the loan is paid.

In a mortgage, who retains legal title to the property?

It depends on whether the state follows lien theory or title theory.

What is the common remedy for default of a mortgage?

Judicial foreclosure (court action)

List three types of security instruments used in real estate.

Mortgages, deeds of trust, security deeds, and land contracts

Are promissory notes and security instruments the same?

No, the promissory note is the evidence of the debt, the promise to repay the loan. A security instrument is a legal document given by the borrower to hypothecate (pledge) the property to the lender as collateral for the loan.

junior"

Second deeds of trust or mortgages, which are often recorded next, are usually in second

Name three promissory notes in general use.

The basic notes in general use include a straight note, an installment note, an installment note with periodic payments of fixed amounts, an adjustable-rate note, a demand note, a fully amortized note, and a partially amortized installment note.

Uniform Covenants: Insurance

The borrower must provide adequate homeowner and hazard insurance (i.e., fire, flood, and earthquake) coverage for improvements on the property. The borrower promises to pay mortgage insurance premiums if the lender requires mortgage insurance as a condition of making the loan.

Explain the purpose of a deed of reconveyance.

The deed of reconveyance conveys title to the property from the trustee to the borrower (trustor).

nominal or named rate

The interest rate stated in the note

Differentiate between the nominal rate stated in the note and the effective rate.

The interest rate stated in the note is called the nominal or named rate. The effective interest rate is the rate the borrower is actually paying and is commonly called the annual percentage rate (APR).

When can a late charged typically be assessed for a first mortgage lien?

The late fee is usually assessed 15 calendar days after the date the payment is due.

Uniform Covenants: Loan Servicing

The lender can sell the note (together with the security instrument) one or more times without giving prior notice to the borrower. The lender may retain or sell the servicing rights to the note. If the lender sells the servicing rights, the borrower must be given written notice of the change.

Uniform Covenants: Lender's Protections and Borrower's Rights

The lender has a right to protect its interest in the property.

A promissory note is considered personal property and is a negotiable instrument. What is the most common type of negotiable instrument?

The most common type of negotiable instrument is an ordinary bank check.

Non-Uniform Covenants

The non-uniform covenants vary based on the type of instrument—mortgage, deed of trust, and security deed. The non-uniform covenants pertain primarily to the remedies for default.

Who are the parties to a promissory note?

The parties involved are the maker (borrower) and the holder. The maker is the borrower who executes a note and becomes primarily liable for payment to the lender. The lender is the party to whom a note is made payable. A subsequent owner of the note is a holder in due course and is called the noteholder.

Name the parties to a contract for deed.

The two parties are the seller (vendor) who acts as a lender and the buyer (vendee).

In the Fannie Mae/Freddie Mac Uniform Security Instruments, what is the difference between uniform covenants (promises) and non-uniform covenants?

The uniform covenants are identical in all of the Fannie Mae/Freddie Mac Uniform Security Instruments. The non-uniform covenants vary based on the type of instrument—mortgage, deed of trust, and security deed.

Installment note with periodic payments of fixed amounts

This fully amortized note consists of level, periodic payments of both interest and principal that pay off the debt completely at maturity.

Straight note

This note calls for interest-only payments during the term of the note. The principal payment is due in one lump sum upon maturity. This type of note is not commonly used by institutional lenders but may be used between a buyer and seller or other private lenders.

Demand note.

This note does not become due until the noteholder makes a demand for its payment

Adjustable-rate note

This note has an interest rate that adjusts with a movable economic index.

Partially amortized installment note.

This note includes a repayment schedule that is not sufficient to pay off the loan over its term. This type of note calls for regular, periodic payments of principal and interest for a specified period of time. At maturity, the remaining unpaid principal balance is due as a balloon payment.

Fully amortized note

This note is fully repaid at maturity by periodic reduction of the principal.

Installment note.

This note requires periodic payments on the principal with payments of interest made separately.

What is the common remedy for default of a deed of trust?

Trustee's sale (non-judicial foreclosure)

Required Elements to Create a Negotiable Promissory Note

Unconditional promise or order to pay a certain amount of money Payable on demand or at a definite time Payable to order or bearer Signed by the maker (borrower)

Differentiate between senior liens (deeds of trust or mortgages) and junior liens.

When a lender makes a home loan, it wants a security interest in the property that takes priority over all other liens. To secure its seniority, it obtains a senior lien (deed of trust or mortgage) on the property. In the event of default on the loan, the senior lien status ensures the lender's priority during a foreclosure action, effectively eliminating all other junior liens that may exist.

Freely transferable

a bank or other creditor may sell the negotiable instrument (promissory note) for cash

assumption clause,

a buyer may assume responsibility for the full payment of a loan after obtaining the lender's consent.

power of sale clause

a clause in a mortgage or deed of trust that gives the holder the right to sell the property in the event of default by the borrower.

security instrument

a document—mortgage, deed of trust, security deed, or land contract—that is the evidence of the pledge of real estate as collateral for the loan. a legal document given by the borrower to hypothecate (pledge) the property to the lender as collateral for the loan

subsequent owner / noteholder

a holder

Late charges

a percentage of the payment of principal and interest due or a flat dollar amount. For a first mortgage lien, the late fee is assessed a specified number of calendar days—usually 15 —after the date the payment is due.

deficiency judgment

a personal judgment against a borrower for the balance of a debt owed when the security for the loan is insufficient to repay the debt.

contract for deed

a sales contract and a financing instrument with many names. It may be called an installment sales contract, a contract of sale, an agreement of sale, a conditional sales contract, or a land sales contract.

deed of trust

a security instrument that secures a loan on real property. After being signed by the trustor, the deed of trust (not the note) is recorded in the county where the property is located. The recorded deed of trust and the note are sent to the lender to hold until reconveyance or until the debt is paid in full. The deed of trust does not have to be recorded to be valid. It legally secures the loan whether it is recorded or not. In the case of foreclosure, the recording date establishes the order of lien priority for the deed of trust against other liens placed on the property.

mortgage

a security instrument that secures the payment of a promissory note. A mortgage is a two-party security instrument and is, in fact, a contract for a loan This loan contract (mortgage) is commonly recorded to secure real property. The lender (or subsequent noteholder) holds the mortgage for the term of a loan or until the borrower pays it off.

promissory note (note)

a written legal contract that obligates the borrower to repay a loan. Even a note that is handwritten on a restaurant napkin and signed by both parties may be a binding promissory note. However, most lenders use a Fannie Mae/Freddie Mac Uniform Note. states the personal obligation of the borrower and is a complete contract, in itself, between the borrower and lender

negotiable instrument

a written unconditional promise or order to pay a certain sum of money on demand or at a definite future date, payable either to order or to bearer and signed by the maker. However, in order to be considered a negotiable instrument, the document must be consistent with the statutory definition.

prepayment clause (also called an "or more" clause)

allows a borrower to pay off a loan early or make higher payments without paying a prepayment penalty.

prepayment penalty

allows a lender to collect a certain percentage of a loan as a penalty for early payoff. Prepayment penalties are not allowed on higher-priced, FHA, and VA loans.

acceleration clause

allows a noteholder to call the entire note due upon the occurrence of a specific event such as default in payment, taxes, insurance, or sale of the property.

alienation or due-on-sale clause

allows the noteholder to accelerate the loan under certain situations A noteholder may call the entire note due if there is a transfer in property ownership from the original borrower to someone else. This clause protects the noteholder from an unqualified, unapproved buyer taking over a loan

rider

an addition or amendment separate from but attached to the original document. Typical riders to security instruments include the Adjustable Rate Rider, Balloon Rider, Condominium Rider, and Biweekly Payment Rider.

check

an order to the bank to pay money to the person named. A note is the same thing.

defeasance clause

cancels the mortgage upon repayment of the debt in full. The title to the property transfers back to the mortgagor and the lender's interest in the property terminates

deed of reconveyance

conveys title to the property from the trustee to the borrower (trustor). The deed of reconveyance should be recorded to give public notice that the lien has been paid in full, which removes the lien from the property.

Joint and several liability

each debtor (borrower) is responsible for the entire amount of the loan.

acceleration or due on sale clause

gives the lender the right to demand full payment of the loan if the borrower transfers the property without the lender's permission. However, the borrower has the right to reinstate the loan after acceleration if he or she meets certain conditions.

Participants in Contract for Deed

in this transaction, the seller (vendor) finances the purchase by carrying back a loan from the buyer (vendee).

Hazardous substances

include gasoline, kerosene, other flammable or toxic petroleum products, toxic pesticides and herbicides, volatile solvents, materials containing asbestos or formaldehyde, and radioactive materials. This does not apply to small quantities of cleaning supplies, paint, and materials used to maintain a residential property.

simple interest

interest paid only on the principal owed.

Hypothecation

is a legal arrangement that allows a borrower to remain in possession of a property secured by a loan.

Occupancy fraud

is a misrepresentation of owner occupancy and is a federal crime punishable by fines and possible imprisonment.

modified lien theory state

one in which the mortgage is a lien unless the borrower defaults. In this case, the title is automatically transferred to the lender. In any case, the borrower enjoys possession of the property during the full term of the mortgage, no matter who holds the title.

Satisfaction of a mortgage

payment in full, requires that the lender deliver the original note and mortgage to the party making the request. This release should be recorded to give public notice that the mortgage encumbrance has been paid in full.

Real estate finance instruments

promissory notes and security instruments are legal documents that provide evidence of a debt and secure that debt with a collateral property. The lender holds the promissory note and the security instrument until the loan is repaid.

monetary encumbrance)

security instrument legally is a lien that secures the loan whether it is recorded or not.

Which leans get paid first?

senior and then junior

endorsement

signature

Collateral

something of value given as security for a debt A loan secured by a lien on real property (whether a mortgage, deed of trust, or land contract) makes the real property the collateral for the loan.

non-uniform covenants

specific to the state in which the security instrument is used. The uniform covenants discussed in the following sections are identical in all of the Fannie Mae/Freddie Mac Uniform Security Instruments.

Usury

the act of charging a rate of interest in excess of that permitted by law.

Parties in a deed of trust

the borrower (trustor), the lender (beneficiary), and a neutral third party (trustee). In most states, a title or trust company, escrow holder, or the trust department of a bank perform the duties of a trustee.

maker

the borrower who executes a note and becomes primarily liable for payment to the lender

Land contract differs from a deed of trust or a mortgage

the buyer (vendee) does not obtain title to the property during the time that the contract is being paid off. The vendee is allowed to take possession of the property immediately and begins to make payments to the seller (vendor).

lien

the legal claim of one person upon the property of another person to secure the payment of a debt or financial obligation.

Two parties to a mortgage

the mortgagor (borrower) and mortgagee (lender).

lender

the party to whom a note is made payable

trustee's sale (non-judicial foreclosure).

the power of sale clause gives the trustee the right to foreclose, sell, and convey ownership to a purchaser of the property if the borrower defaults on the loan. Under a deed of trust with a power of sale, there is no statutory redemption period after the trustee's sale. The sale is final.

effective interest rate, or annual percentage rate (APR)

the rate the borrower is actually paying. Lenders are compensated for their risk in the form of interest rates. If the lender thinks the borrower is a high risk, the lender will charge a higher interest rate for the privilege of borrowing the money. The lower the risk, the lower the interest rate will be.

Equitable title

the right to obtain absolute ownership of property when legal title is held in another's name. As the equitable owner, the borrower has all the usual rights that go with ownership, such as the right to possess, will, encumber, and transfer. the interest held by the vendee under a contract for deed that gives the buyer the equitable right to obtain absolute ownership to the property when the vendor holds legal title.

statutory redemption

the statutory right of a mortgagor to recover the property AFTER a foreclosure sale.

periodic payments

timely payments of the principal and interest on the note when due. If the note requires other items to be paid (taxes, assessments, leasehold payments, ground rents, insurance premiums, and mortgage insurance premiums, if any), the borrower promises to pay those when due as well. Additionally, the borrower promises to pay all taxes, assessments, charges, and fines that can attain priority over the security instrument.

Bare legal title

title that lacks the usual rights and privileges of ownership. The bare legal title held by the trustee allows the trustee to do only two things: (1) reconvey the property to the borrower upon final payment of the debt, or (2) foreclose if the borrower defaults on the loan.

lien theory state

title to real property is vested in the borrower. The borrower gives only a lien right to the lender during the term of the loan.

title theory state

title to real property is vested in the lender. In a title theory state, the mortgage states that title reverts to the borrower once the loan is paid. Whether the state is a lien theory or title theory state, possession of the property remains with the borrower.

reinstate

to bring current or to restore. Borrowers in default can avoid foreclosure by bringing the loan current.

two types of foreclosure

trustee's sale or judicial foreclosure

no deficiency judgment is available

when a loan is secured by a deed of trust and the lender forecloses under a power of sale (trustee's sale),

carry back

when the seller extends credit to a buyer by taking a promissory note executed by the buyer for the property purchased. The vendee pays the (vendor) in installments over several years.