A Mortgage Deed also called a Mortgage Agreement, is a written document that officially recognizes a legally binding relationship between two parties – the Borrower and the Lender. The Borrower grants the Lender conditional ownership in certain property or assets as a security interest against a loan until the loan is repaid in full. It is separate from the loan agreement or promissory note which creates the actual loan and sets out the terms and conditions of the loan.
The Lender may also be called the Mortgagee or Trustee. The Borrower may also be called the Mortgagor or Trustor.
A simple Mortgage Agreement will identify the following basic elements:
- Borrower: who is borrowing the money and pledging the property
- Lender: who is lending the money and receiving a lien on the property
- Principal Amount: the sum of money being borrowed
- Property: a legal description of the property being pledged
As a reference, a mortgage deed is also known by other names:
- Mortgage Contract
- Deed of Mortgage
- Chattel Mortgage (for personal property)
What’s the difference between a Mortgage Deed and a Deed of Trust?
A Mortgage Deed and a Deed of Trust both create a lien on a property to secure repayment of a loan. However this agreement is only between two parties – the Borrower and the Lender – whereas a Deed of Trust is between three parties – the Borrower, the Lender, and the Trustee. A deed of trust is used in certain states instead of a Mortgage Agreement. Be sure to check your state’s laws and our explanation of the differences before deciding which one to use.
The Trustee holds title of the property in trust for the Lender. A Deed of Trust also allows the Trustee to initiate a foreclosure sale on the property without a court order if the Borrower is in default on the loan – also called the “power of sale”. In contrast, the Lender under a Mortgage Deed would have to initiate foreclosure proceedings through the courts.
Here is a simple chart explaining the differences:
|Mortgage Agreement||Deed of Trust|
|Who are the parties:||Borrower|
Trustee (escrow company, title company, neutral third party)
|Who holds the title:||Lender||Trustee|
|Who holds equitable title/right to use the property:||Borrower||Borrower|
|What happens if the Borrower defaults:||Foreclosure sale through the court system||Non-judicial foreclosure sale without a court order|
What’s the difference between judicial foreclosure and non-judicial foreclosure?
One of the major differences between this Agreement and a Deed of Trust is the Lender’s remedy if the Borrower defaults. Under a Mortgage Agreement, the Lender can only hold a foreclosure sale after filing a complaint and receiving a judgment from the court. Depending on the court’s calendar, the number and strength of the Borrower’s defenses, and other procedural requirements, the foreclosure process could take anywhere from several months to a few years.
Here’s an example of the judicial foreclosure process:
- Bob misses a payment on his loan – Leo sends him a notice of delinquency stating that the loan payment is past due.
- Bob doesn’t make any payment and misses the next two payments as well – Leo sends him a notice of default, telling Bob he has thirty days to pay the three missed payments and make the loan current.
- Bob still doesn’t pay anything after the thirty days – Leo calls his lawyer to prepare a complaint with the court asking for a judgment to authorize a foreclosure sale.
- Leo’s lawyer prepares the complaint and files it with the court.
- Bob receives notice of the complaint and has twenty to thirty days to file an answer to the complaint.
- Bob files his answer to the complaint, raising various defense claims. Note: If Bob does not answer the complaint, Leo wins in a default judgment.
- Bob and Leo argue it out in court.
- Leo wins and is given a judgment authorizing a foreclosure sale.
- Leo publishes or sends to Bob a notice of sale, stating the time and date the property will be sold.
- The foreclosure sale finally takes place.
- Leo gets his money.
In contrast, a Deed of Trust usually includes a “power of sale” clause, which allows the Trustee to sell the property through non-judicial foreclosure. In the example above, after Bob has missed three payments and thirty days from the notice of default has passed, Leo can instruct the Trustee to begin foreclosure proceedings. The Trustee can then immediately publish or send to Bob a notice of sale, and the foreclosure sale will occur at the stated time and place.
In general, the non-judicial foreclosure process can be completed within two to three months, not giving Borrowers very much time to catch up if they fall behind on payments. However, each state has its own rules, notice periods, and procedures on both judicial and non-judicial foreclosure, so timelines may vary. These rules must be strictly followed to avoid any challenges on the foreclosure sale. Certain states also have a redemption period, giving the Borrower a certain amount of time to buy back the property.
In addition to a mortgage deed and a deed of trust, there are other commonly used types of deeds. Each one offers different levels of protection during a real estate transaction. Make sure you have selected the right type of deed for the sale or transfer of your property or piece of land.
When a Mortgage Agreement is Needed
The purchase of a property or a home is often a big investment that involves a substantial amount of money. Lenders will want added security before loaning large sums of money to ensure that they will recoup their investment. A Mortgage Deed allows them to take possession and sell the property if the Borrower stops making loan payments. It also gives buyers the ability to borrow large sums of money and provides incentive to make payments on the loan or risk losing their property.
Why not just get a loan from the bank?
In today’s economy with the stringent lending conditions imposed by most banks and traditional Lenders, many Borrowers have difficulty securing financing to purchase a home. A private or alternative mortgage is another option for these Borrowers.
With a conventional bank, the Lender is a “big bank” with a long list of requirements for its Borrowers. In a private or alternative mortgage, the Lender can be a trusting family member or friend making more interest on their excess capital than a traditional savings account while also helping out a loved one.
They can come up with creative solutions for the Borrower, including lower interest rates and unique payment options. The Lender can also be a private investor or lending company specializing in loans to non-traditional Borrowers. These Lenders often charge more interest and have shorter payback periods than a traditional one, but can be a good option for “flippers” or Borrowers looking to renovate a property and then quickly resell it.
Borrowers in a conventional bank mortgage have a large sums of money for a down payment and excellent credit. In a private or alternative one, the Borrower can be someone who is self-employed and can’t show a steady income stream, has had a few bumps in the road and less-than-stellar credit, or has other debt and can’t qualify for a traditional loan. By working with a private Lender, the Borrower can negotiate higher or lower interest rates, save money on closing costs, fees, and document processing, and receive a loan in a much shorter time frame.
Private mortgages, however, are risky. Family members may think they’ll be easily forgiven for missing a payment or two. And higher interest rates and quicker payback terms combined with Borrowers who don’t have a proven track record can lead to many defaults. The 2015 film The Big Short details the financial crisis of 2008 and the collapse of the housing market, due in a large part to the overabundance of these “subprime” loans.
What are some of the tax benefits of a private mortgage?
The Internal Revenue Service (IRS) sets limits on how much money family members can gift each other without paying gift taxes. For example in 2016, your father could gift you and your siblings up to $14,000 each without having to pay any gift tax. Or together, your mom and dad could give each of you up to $28,000 without any gift tax consequences. And these annual exemptions would not count against your mom or dad’s $5.45 million annual gift exemption.
If your father has already maxed out his annual $14,000 exemption, he could still help you out in a time of need by essentially acting as a de facto “family bank” and using a private mortgage. However, a private loan between family members is subject to the minimum IRS Applicable Federal Rates (“AFR”), which are published monthly. Your father should charge you, at a minimum, the monthly rate published by the IRS. Fortunately, these AFR are generally much lower than commercial rates, and all of the interest and principal payments stay within the family.
As an example, here are the annual AFR Rates or minimum allowable interest rates required for a family loan for three months in 2016:
< 3 YEARS
> 9 YEARS
The Mortgage Contract does not create the actual loan, if simply grants a lien on the property. You will need a separate agreement detailing the loan.
Why You Should Use a Mortgage Deed
Having a written agreement detailing the loan between you and your father can prevent misunderstandings between the two of you and possibly prevent a family fight if something does go wrong. It can also prevent misunderstandings with the IRS. As you can imagine, the IRS tries to crack down on gifts between family members disguised as a loan. In order to avoid having an intra-family loan be deemed a gift (and be subject to gift taxes), it is important to have a valid and enforceable loan document.
Without a secured loan, a Lender is left with few options if the Borrower goes bankrupt, is sued unexpectedly, dies or simply decides to stop making payments. The Lender will have to go through a lengthy court process and stand in line with other creditors.
Here is a chart of some of the preventable suffering this document could prevent:
|Large sums of borrowed money unpaid||Inability to receive financing|
|Non-priority debtor||Increased debt on property or house|
|Expensive lawyer fees to:||Expensive lawyer fees to:
|Loss of business relationship or family trust||Loss of business relationship or family trust|
|Personal safety & well being||Personal safety and well being|
The Most Common Mortgage Relationships
While these agreements usually occur between banks and individuals, this agreement can also be used to document a private mortgage between two individuals or two organizations or entities conducting a business relationship.
Here is a table detailing 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|
|Family member||Family member
|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)|
What Should be Included in a Simple Mortgage Deed?
A simple Mortgage Contract should generally address the following:
Who is on the hook? (the “Borrower” and “Lender”)
The Mortgage Deed should name who is receiving the money (the “Borrower”) and who is receiving the lien on the property and will be repaid (the “Lender”). Both the Borrower and the Lender should sign the agreement in front of two witnesses, and the signatures should be verified and authenticated by a notary.
What is being exchanged?
A Mortgage Contract should explicitly grant title in the property to the Lender in exchange for the Principal plus Interest. This grant gives the Lender legal title or ownership of the property, while the Borrower has the right to use the property. Once the loan is paid off in full, the Mortgage Agreement will be terminated and the Borrower will receive legal title to the property. If the Borrower fails to make the scheduled loan payments, the Lender retains legal title and can initiate a foreclosure sale.
When will the Agreement end?
The Agreement should state that the agreement will be terminated when the loan has been paid back in full.
Where is the property?
The address and a legal description of the property must be clearly stated in the Agreement. The Borrower and the Lender need to be on the same page – if the Lender thinks the loan is secured by a mansion, but the Borrower is really purchasing a shack, there could be trouble down the road.
The legal description can usually be found on the property’s deed. Here is an example of a legal description is a Lot and Block form:
Lots 6, 7, and the South ½ of Lot 3, West 60 feet of South ½ of Lot 4, West 60 feet of Lot 5 and Lot 8, Block 20, OLD SURVEY, Leesville, Vernon Parish, Louisiana.
How much needs to be paid back? (“Principal” and “Interest”)
A Mortgage Deed should clearly state the amount of money being borrowed (the “Principal” amount) and the interest rate being charged in addition to the Principal (the “Interest” amount) that was agreed upon in the loan agreement or promissory note. The Loan Agreement Promissory Note should detail how and when the payments will be made.
What other details should be included?
A Mortgage Deed may include these additional provisions:
- Assigned Rents: if the Borrower is leasing out the property, rents are assigned to the Lender
- Covenants: the Borrower promises that it owns the property and has the authority to the property
- Default and Acceleration: if the Borrower defaults, the entire amount of the loan will become due
- Maintenance of Property: the Borrower must maintain the property, including insurance on the property
- Ownership Transfer: the entire amount of the loan may become due if the Borrower transfers ownership
- Payment: the Borrower promises to pay the Principal and Interest, and other necessary amounts, on the loan
- Rights of Lender: payments by the Lender to maintain the value of the property can be added to the loan amount
- Security Interest: the agreement also secures any other liabilities of the Borrower to the Lender
- Senior Mortgages: the Borrower cannot modify any senior mortgages with the Lender’s permission
- Tax Fund: the Borrower may have to make payments to a fund to pay for property taxes, insurance and other assessments
This agreement must be filed with the appropriate local recording office.