1. Chapter 10
Legal Aspects of Real Estate Finance

2. Objectives
• After reading this chapter, you should be able
to
– Prepare a promissory note.
– Prepare a guaranty.
– Understand the basic provisions contained in a
promissory note.
– Understand the basic provisions contained in a
guaranty.

3. Objectives
• After reading this chapter, you should be able
to
– List the legal requirements for a mortgage, deed
of trust, or security deed.
– Understand the risks inherent in a second
mortgage.
– Identify the various legal remedies available to
both the borrower and the lender in the event of
a default on a mortgage loan.

4. Promissory Note
• Promise made by one party (payor or maker)
to pay money to another party (payee)
• Note may be negotiable or nonnegotiable
– Negotiable
• Note can be transferred from the original payee to a
third party (holder) who may become a holder in due
course

5. Promissory Note
• Holder in due course (HDC) defeats any
defenses to payment that the maker of note
may have
– Investors want HDC status
• E.g., Fannie Mae, Freddie Mac, and other investors in
the secondary market

6. Promissory Note
• Exceptions to HDC rule
– Incapacity of the maker
– Illegality of the purpose of the note
– Duress of the maker in signing the note
– Discharge of the maker in bankruptcy
– Forgery of the maker's signature
– Fraud in factum
– Material alteration of the note

7. Promissory Note
• Endorsement
– Simply, a direction
• Usually printed on the back of the note or attached to
the note
– Specifies that the money be paid to the order of
the new owner of the note
– Notes are transferred and sold by endorsement

8. Promissory Note
• Endorsement
– Certain contractual and warranty liabilities are
transferred to the new owner of the note
– Endorser who sells the note by endorsement
warrants the following:
• Endorser has good title to the note
• All signatures are genuine and authorized

9. Promissory Note
• Endorsement
– Endorser who sells the note by endorsement
warrants the following:
• The note has not been materially altered
• There are no defenses to payment of the note
• Endorser has no knowledge of any bankruptcy
proceedings against the maker

10. Promissory Note
• Endorsement
– Qualified endorsements
– “Without recourse and warranty”
• Negates contractual liability but still imposes warranty
liability on the endorser
• Few investors purchase notes that contain a “without
recourse and warranty” endorsement

11. Promissory Note
• Payment
– Maker's promise on a negotiable note is
unconditional
– Maker is not released by the sale of the security
securing the note
• Holder of the note is the only person entitled to
payment
• To avoid multiple payments, makers of notes demand
that the original note be returned marked “paid” or
“satisfied”

12. Promissory Note
• Prepayment
– Note cannot be prepaid before the date
established in the note for payment
– Right to prepayment must be provided for in the
note
– Prepayment clause is used on commercial loans
held by life insurance companies and other
commercial mortgage loan investors

13. Promissory Note
• Usury
– Maximum interest rate
• Execution
– Signed but witness or notary not needed
– Usually not recorded

14. Promissory Note
• Practice tips for the paralegal
– Original of the note is the best evidence of the
note at the time of collection
– Corrections on the notes should be avoided
– For notes that are more than one page in length,
the maker should initial each page of the note

15. Promissory Note
• Practice tips for the paralegal
– Case
• Acord v. Jones, 211 Ga. App. 682, 440 S.E.2d 679 (Ga.
1994)
– Absent an express contractual provision to the contrary, the
maker may prepay the principal plus accrued interest without
being required to tender unaccrued interest or pay any other
penalty

16. Checklist: Preparation of a Note
• Parties
– Maker
• Borrower
– Payee or holder
• Lender
• Amount of note

17. Checklist: Preparation of a Note
• Interest rate to be charged on note
– Fixed
– Adjustable
• Payments
– Time and place of payments
– Amount of payments

18. Checklist: Preparation of a Note
• Maker's right to prepay
– May prepay in whole or in part at any time
– May prepay in whole at any time after reasonable
notice
– No prepayment allowed
– No prepayment allowed for a certain period of
time

19. Checklist: Preparation of a Note
• Maker's right to prepay
– Prepayment allowed on payment of prepayment
fee
– No prepayment allowed for a certain period of
time, and after that period of time, prepayment
allowed only on payment of prepayment fee

20. Checklist: Preparation of a Note
• Maker's failure to pay as required
– Late charge for overdue payment
– Amount of late charge
– Default for failure to pay
• Grace period
• Notice of default and period of time to cure default
• Acceleration of loan on default
• Payment of holder's cost and expenses for collection of
note

21. Checklist: Preparation of a Note
• Identify security given for note
– Mortgage or deed of trust
– Assignment of leases and rents
– Security agreement
– Other documents
• Usury savings clause
• Choice of applicable law

22. Checklist: Preparation of a Note
• Waiver of homestead exemption or other
debtor's rights
• Joint and several liability
• Waiver of notice of default, presentment of
notice of dishonor

23. Checklist: Preparation of a Note
• Signatures
– Only maker signs note
• Corporate maker
• Partnership maker
– Names of all signers should be typed underneath
the signature line
– Notes are not witnessed or notarized

24. Guaranty
• Mortgage lender may require a person other
than the debtor to guarantee the payment of
the debtor's note
• Gives mortgage lender the right to sue the
guarantor for payment of the note and, if
necessary, the right to recover debt from the
personal assets of the guarantor (or
corporation)

25. Guaranty
• Must be written
• May either be payment or collection guaranty
– Payment
• Unconditionally guarantees to pay the note when due
without resort to any other party
– Collection
• Promises to pay the note only after the holder of the
note has sued the original maker of the note, has
reduced claim to judgment, and has attempted to
collect against the assets of the maker

26. Mortgages, Deeds of Trust, and
Security Deeds
• Three basic types of security instruments
1. Mortgage
2. Deed of trust
3. Deed to secure debt

27. Mortgages, Deeds of Trust, and
Security Deeds
• Mortgage
– Pledge of land as security for a debt

28. Mortgages, Deeds of Trust, and
Security Deeds
• Deed of trust
– Debtor conveys title of land to the trustee who
holds the title in trust for benefit of the lender
– When the debt is repaid, the title is transferred to
the debtor
– If the debt is not paid, the trustee has the power
to sell the property and pay the debt

29. Mortgages, Deeds of Trust, and
Security Deeds
• Deed to secure debt
– Owner of the real property conveys legal title
directly to the lender as security for the
repayment of the debt
– Lender is given the power to sell the real property
if the debt is not paid

30. Mortgages, Deeds of Trust, and
Security Deeds
• Requirements of a mortgage
– Names of parties
– Words of conveyance or grant
– Valid description of the property conveyed
– Proper execution and attestation
– Effective delivery to the lender

31. Mortgages, Deeds of Trust, and
Security Deeds
• Parties to mortgage
– Mortgagor
• Owner of property
– Debtor
– Mortgagee
• Lender
– Creditor

32. Mortgages, Deeds of Trust, and
Security Deeds
• Secured debt
– Open-end (dragnet) mortgage
• Can be a problem for the borrower
• Secured property
• Assignment of a mortgage
– Conveys real property and secured debt

33. Mortgages, Deeds of Trust, and
Security Deeds
• Transfer of property encumbered by a
mortgage
– Due on sale clause
• Prohibits the sale of real property without the
mortgagee's consent
• Violation of this provision is a default under the
mortgage
• Could result in a foreclosure of the real property

34. Mortgages, Deeds of Trust, and
Security Deeds
“Subject to”
• Purchaser does not have
personal liability for
payment of the debt
• Lender can foreclose and
sell the real property and
sue the original mortgagor
for payment of the debt
“Assumption”
• Purchaser is personally
liable
• Lender can foreclose and
sue the owner and original
mortgagor

35. Mortgages, Deeds of Trust, and
Security Deeds
• Cancellation or satisfaction of mortgage
– Mortgage is automatically released by full
payment of the debt, but mortgagee (lender)
must file a cancellation or satisfaction of mortgage
in deed records where the mortgage has been
recorded

36. Mortgages, Deeds of Trust, and
Security Deeds
• Second mortgage loans
– Risky for lenders
– Must use estoppel certificate

37. Foreclosure and Other
Mortgage Remedies
• Foreclosure
– Foreclosure by sale
• Current method
– Property is sold to the highest bidder at a public
sale
– Mortgagee has the first claim to the proceeds
received from the sale
– Excess proceeds are given to debtor-mortgagor

38. Foreclosure and Other
Mortgage Remedies
• Foreclosure
– Grounds for foreclosure
– Types of foreclosure
• Power of sale
– Nonjudicial but public sale of the real property
• Judicial
– Lawsuit

39. Foreclosure and Other
Mortgage Remedies
• Foreclosure
– Effect of a valid foreclosure sale
• Extinguishes all the debtor's ownership rights in the
property
– But the debtor may have right of redemption
– Distribution of money in a foreclosure sale
• Interpleader proceeding

40. Foreclosure and Other
Mortgage Remedies
• Foreclosure
– Antideficiency laws
• Post-foreclosure judicial confirmation proceeding
– Remedies other than foreclosure
• Taking possession of the mortgaged real property
• Having a receiver appointed to take possession of the
property

41. Foreclosure and Other
Mortgage Remedies
• Foreclosure
– Mortgagee (lender) in possession
• Agent of the mortgagor
• All income collected from the real property must be
used to pay the debt
– With deductions for reasonable expenses of management and
maintenance

42. Foreclosure and Other
Mortgage Remedies
• Foreclosure
– Appointment of a receiver
• Third party appointed by the court to take possession
of the real property in the event of a mortgage default
– Maintains property
– Collects rent
• Makes sure all proceeds are applied to the debt

43. Foreclosure and Other
Mortgage Remedies
• Waiver of default
– If the mortgagee, on notice that there has been a
default under the mortgage, does not act
promptly to exercise its remedies, the mortgage
holder may waive the default and not be entitled
to exercise its remedies
– Acceptance of late payments estops the mortgage
lender from declaring a default

44. Foreclosure and Other
Mortgage Remedies
• Federal and state limits on foreclosure
– New laws generally impose upon lenders a waiting
period of somewhere between 60 and 120 days
before foreclosure can take place
– Federal Homeowner Affordability and Stability
Plan allows access to low-cost financing for certain
homeowners

45. Debtor's Remedies and
Defenses to Foreclosure
• Injunction
– Grounds
• Invalidity of debt
• Absence of default
• Payment of debt
• Improperly conducted sale

46. Debtor's Remedies and
Defenses to Foreclosure
• Suit for conversion or wrongful foreclosure
• Bankruptcy
– Debtor's main defense to foreclosure
– Automatic stay

47. Ethics: Confidentiality of
Client Information
• Attorney and paralegal must keep all client
information and correspondence confidential
– Without trust the client would be unwilling to
disclose to his or her attorney all the facts
necessary for legal representation
• Only the client can give permission for the
release or disclosure of confidential
information

48. Summary
• Basic loan documents used to secure a real
estate loan
– Note
– Security instrument
• Generally referred to as a mortgage

49. Summary
• Note
– Promise to pay
– Sets forth
• Amount of debt
• Interest rate
• Payment terms
– On some notes payment may be secured by
guaranty

50. Summary
• Security instrument
– Conveys interest in the real property to secure the
payment of the note
– Forms of security instrument
• Mortgage
• Deed of trust
• Deed to secure debt