A Deed of Trust is a legal document that officially recognizes a legally binding relationship between three parties – the Borrower, the Lender, and the Trustee.
The Lender loans the Borrower money to purchase a home or other property, and as a security against the loan, the Borrower gives legal title to the property to the Lender. The Trustee holds this title in trust for the Lender until the loan is repaid in full. Once the loan has been paid off, the Trustee returns title to the Borrower.
1. What Should be Included in a Deed of Trust?
Be sure to identify the following:
- Borrower: who is borrowing the money and pledging the property
- Lender: who is lending the money and receiving a lien on the property
- Trustee: who is holding title in trust for the Lender
- Principal Amount: the sum of money being borrowed and any interest
- Property: a legal description of the property being pledged
These additional provisions can also be included:
- Covenants: the Borrower promises that it owns the property and has the authority to mortgage the property
- Default and Acceleration: the entire amount of the loan will become due if the Borrower defaults
- Maintenance of Property: the Borrower must maintain the property in good repair and obtain an acceptable amount of insurance for the property
- Ownership Transfer: if the Borrower transfers ownership, the entire amount of the loan may become due
- Power of Sale: the Lender may instruct the Trustee to sell property through non-judicial foreclosure
- Rights of Lender: the Lender can make payments to maintain the value of the property, which can then be added to the total loan amount
- Security Interest: the Deed of Trust also secures any other liabilities of the Borrower to the Lender
- Senior Mortgages: senior mortgages cannot be modified without the Lender’s permission
The Trustee can be an escrow agency, title company, trust company, insurance company, real estate broker, attorney, public official, or another neutral third party. Be sure to check your state’s laws for any restrictions on who can be a Trustee.
As a reference, this agreement is sometimes called:
- Trust Deed
- Mortgage Trust Deed
2. Deed of Trust vs Mortgage
A Deed of Trust and a Mortgage Agreement both create a lien on a piece of property in connection with a Loan Agreement or Promissory Note. Some states use Deeds of Trust, some states use Mortgage Agreements, and some states allow both.
The major difference between the two agreements is the Lender’s remedy if the Borrower defaults on the loan. Under a Deed of Trust, if the Borrower defaults, the Lender can instruct the Trustee to sell the pledged property in a non-judicial foreclosure sale. In a Mortgage Agreement, if the Borrower defaults, the Lender can only sell the property in a judicial foreclosure sale.
What’s the difference between non-judicial foreclosure and judicial foreclosure?
A Deed of Trust almost always contains a “power of sale” clause that allows the Trustee to sell the pledged property in a non-judicial foreclosure sale. This means that the Trustee can bypass the court system and go straight to the foreclosure sale process. Unlike judicial foreclosure, non-judicial foreclosure is a quick process and the property can be sold in as little as two to three months.
In judicial foreclosure under a Mortgage Agreement, the Lender can only sell the property after receiving a judgment from the court authorizing the sale, forcing the Lender to go through the formal court process – filing the complaint, receiving an answer and possible counterclaims, arguing in a formal trial, and finally receiving a judgment. And the judgment may not even come out in the Lender’s favor. Depending on the court calendar, defense claims, and other unanticipated factors, the judicial foreclosure process could take anywhere from several months to several years.
Timeline For Foreclosure
Here is a simple chart explaining the differences between the two agreements:
|Deed of Trust||Mortgage Agreement|
|Who are the parties:||Borrower|
Trustee (escrow company, title company, neutral third party)
|Who holds legal title:||Trustee||Lender|
|Who holds equitable title/right to use the property:||Borrower||Borrower|
|What happens if the Borrower defaults:||Non-judicial foreclosure sale without a court order||Foreclosure sale through the court system
Along with a Deed of Trust and Mortgage Agreement, there are four other types of deeds for you to choose from. Review the differences between deeds, and select the right one for your real estate transaction.
3. When Do I Need a Deed of Trust Form?
A Deed of Trust is an important security instrument in real estate transactions. Especially after the housing crisis in 2008 and today’s uncertain economy, Lenders will want added security that they will recoup the money they are lending to Borrowers. This agreement allows a Lender to quickly sell and recover some of their money if a Borrower stops paying, and at little cost and largely hassle-free. Because of this convenience, many states are moving away from Mortgage Agreements and allowing Lenders to use Deeds of Trust.
Here is a table detailing some common borrowers and lenders who might need one:
|Possible lender||Possible borrower|
|Seller of a property or home||Buyer of a property or home|
|Private investor||Professional ‘flipper’|
|Private mortgage company||Company looking to purchase an office|
1. Uncle or aunt helping their favorite family member
2. Older wealthier family member divesting estate (i.e. grandparents)
1. Nephew or niece paying for first home or apartment
2. Younger less wealthy family members in need of financial assistance (i.e. grandchildren)
|Sympathetic friend with extra funds (i.e. able to lend but not give money)||Reliable friend needing cash (i.e. for a real estate investment opportunity)|
A Deed of Trust must be filed with the appropriate local recording office. Be sure to leave space at the top of your document for the County Recorder’s office to put their seal on the document.
Why not just get a loan from the bank?
A private mortgage is a popular alternative to traditional loans from a large institutional bank. These banks and other traditional Lenders often have strict lending conditions, lots of paperwork, and very little wiggle room. In a private mortgage, both Lenders and Borrowers have more flexibility.
Lenders in a private mortgage can be a family member, a private investor, or a lending company specializing in private loans. They can work with Borrowers and come up with creative solutions, including variable interest rates, higher down payments, and shorter payback periods, while earning interest on their excess capital with a secured investment.
Borrowers who may not otherwise qualify for a traditional loan may have no choice but to opt for a private mortgage. Self-employed individuals who can’t show a steady income, individuals with a bumpy credit history, “flippers” looking to renovate a property and quickly resell it, or a recent college graduate with large amounts of debt are a few possible private mortgage Borrowers. By getting a private mortgage instead of a traditional bank mortgage, these Borrowers can negotiate payback terms and interest rates, save money on mortgage fees, closing costs and document processing, and greatly cut down the amount of time it takes to get a loan.
However, both Lenders and Borrowers should be aware of the risks of privates mortgages. Lenders always run the risk of Borrowers defaulting on their loans, especially with Borrowers who don’t have a proven credit history. And although the loan is secured by the property, the foreclosure sale may not produce enough money to cover the cost of the loan.
Borrowers may have a difficult time with higher interest rates and shorter payback periods. Or family members may think they can miss a payment or two without any consequences. And the shorter time frame between a default and the foreclosure sale makes it more difficult for Borrowers to “catch up” on any missed payments.
4. What Happens if I Don’t Use a Deed of Trust Form?
Borrowers may stop making payments on their loans for a whole host of reasons – they lost their job, they went bankrupt, they had unexpected medical bills, they had a big weekend in Las Vegas, or they simply made a calculated decision, just to name a few. Without this agreement, a Lender is left in quite a pickle if the Borrower stops making payments. The Lender would have no recourse against the Borrower and would have to go to court and stand in line with other creditors to receive any money.
Here is a chart of some of the preventable suffering having this agreement might prevent:
|Large sums of borrowed money unpaid||Inability to receive financing|
|Non-priority debtor||Increased debt on property or house|
|Expensive lawyer fees to:|
-recover damage to property or house
-battle alleged ownership
-pursue debt collection
|Expensive lawyer fees to:
-defend use of property or house
-obtain the deed to property or a house
-fight debt collectors
|Loss of business relationship or family trust||Loss of business relationship or family trust|
|Personal safety and well being||Personal safety and well being|