From a713139c0ca0f4d07ddabf1e8ae7ab8ce5d3aefd Mon Sep 17 00:00:00 2001 From: Aleisha McEvilly Date: Thu, 19 Jun 2025 22:57:42 +0800 Subject: [PATCH] Add Lender Considerations In Deed-in-Lieu Transactions --- ...erations In Deed-in-Lieu Transactions.-.md | 28 +++++++++++++++++++ 1 file changed, 28 insertions(+) create mode 100644 Lender Considerations In Deed-in-Lieu Transactions.-.md diff --git a/Lender Considerations In Deed-in-Lieu Transactions.-.md b/Lender Considerations In Deed-in-Lieu Transactions.-.md new file mode 100644 index 0000000..e09b291 --- /dev/null +++ b/Lender Considerations In Deed-in-Lieu Transactions.-.md @@ -0,0 +1,28 @@ +[substack.com](https://constructionphysics.substack.com/p/the-prefab-pivot?s=w)
When a business mortgage loan provider sets out to implement a mortgage loan following a debtor default, a crucial goal is to determine the most expeditious way in which the lender can acquire control and ownership of the underlying security. Under the right set of situations, a deed in lieu of foreclosure can be a faster and more cost-effective alternative to the long and drawn-out foreclosure procedure. This [post talks](https://stayonrent.in) about steps and issues loan providers must consider when deciding to continue with a deed in lieu of foreclosure and how to avoid [unanticipated dangers](https://marakicity.com) and challenges throughout and following the deed-in-lieu procedure.
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Consideration
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A crucial element of any contract is making sure there is adequate factor to consider. In a basic deal, consideration can easily be established through the purchase cost, however in a deed-in-lieu circumstance, verifying appropriate factor to consider is not as simple.
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In a deed-in-lieu scenario, the amount of the underlying debt that is being forgiven by the loan provider typically is the basis for the factor to consider, and in order for such consideration to be considered "sufficient," the debt should at least equal or exceed the reasonable market price of the subject residential or commercial property. It is vital that lenders acquire an independent third-party appraisal to substantiate the worth of the residential or commercial property in relation to the quantity of debt being forgiven. In addition, its suggested the deed-in-lieu contract include the customer's reveal acknowledgement of the reasonable market value of the residential or commercial property in relation to the [quantity](https://realestategrupo.com) of the debt and a waiver of any prospective claims related to the adequacy of the factor to consider.
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Clogging and Recharacterization Issues
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Clogging is shorthand for a principal rooted in ancient English common law that a borrower who protects a loan with a mortgage on realty holds an unqualified right to redeem that residential or commercial property from the loan provider by repaying the debt up until the point when the right of redemption is legally snuffed out through an appropriate foreclosure. Preserving the debtor's fair right of redemption is the factor why, prior to default, mortgage loans can not be structured to contemplate the voluntary transfer of the residential or commercial property to the loan provider.
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Deed-in-lieu deals prevent a debtor's equitable right of redemption, however, steps can be required to structure them to limit or avoid the risk of a clogging difficulty. Most importantly, the contemplation of the transfer of the residential or commercial property in lieu of a foreclosure should occur post-default and can not be contemplated by the underlying loan files. Parties need to also watch out for a deed-in-lieu arrangement where, following the transfer, there is an extension of a debtor/creditor relationship, or which contemplate that the borrower maintains rights to the residential or commercial property, either as a residential or commercial property manager, a renter or through repurchase options, as any of these arrangements can produce a danger of the deal being recharacterized as an equitable mortgage.
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Steps can be taken to mitigate versus recharacterization dangers. Some examples: if a customer's residential or commercial property management functions are restricted to ministerial functions instead of substantive choice making, if a lease-back is brief term and the payments are plainly structured as market-rate use and occupancy payments, or if any provision for reacquisition of the residential or commercial property by the debtor is established to be completely independent of the condition for the deed in lieu.
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While not determinative, it is suggested that deed-in-lieu agreements consist of the parties' clear and unequivocal acknowledgement that the transfer of the residential or commercial property is an outright conveyance and not a transfer of for security purposes just.
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Merger of Title
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When a loan provider makes a loan protected by a mortgage on property, it holds an interest in the property by virtue of being the mortgagee under a mortgage (or a beneficiary under a deed of trust). If the loan provider then acquires the realty from a defaulting mortgagor, it now also holds an interest in the residential or commercial property by virtue of being the charge owner and acquiring the mortgagor's equity of redemption.
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The general guideline on this issue provides that, where a [mortgagee obtains](https://www.roomsandhouses.nl) the charge or equity of redemption in the [mortgaged residential](https://www.horizonsrealtycr.com) or commercial property, and there is no intermediate estate, merger of the mortgage interest into the cost happens in the lack of evidence of a contrary intention. Accordingly, when structuring and recording a deed in lieu of foreclosure, it is very important the agreement plainly shows the celebrations' intent to keep the mortgage lien estate as distinct from the charge so the loan provider keeps the capability to foreclose the underlying mortgage if there are intervening liens. If the estates merge, then the loan provider's mortgage lien is extinguished and the lender loses the ability to deal with stepping in liens by foreclosure, which could leave the lender in a possibly even worse position than if the lending institution [pursued](https://www.bgrealtylv.com) a foreclosure from the outset.
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In order to clearly reflect the parties' intent on this point, the deed-in-lieu arrangement (and the deed itself) need to consist of reveal anti-merger language. Moreover, due to the fact that there can be no mortgage without a financial obligation, it is popular in a deed-in-lieu circumstance for the lender to deliver a covenant not to sue, instead of a straight-forward release of the financial obligation. The covenant not to take legal action against furnishes factor to consider for the deed in lieu, protects the customer versus direct exposure from the debt and likewise retains the lien of the mortgage, thereby allowing the loan provider to keep the ability to foreclose, needs to it become desirable to remove junior encumbrances after the deed in lieu is complete.
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Transfer Tax
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Depending upon the jurisdiction, handling transfer tax and the payment thereof in deed-in-lieu transactions can be a significant sticking point. While the majority of states make the payment of transfer tax a seller obligation, as a practical matter, the lending institution winds up absorbing the expense because the borrower remains in a default situation and normally lacks funds.
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How transfer tax is [calculated](https://pms-servicedapartments.com) on a deed-in-lieu transaction is reliant on the jurisdiction and can be a driving force in figuring out if a deed in lieu is a feasible alternative. In California, for example, a conveyance or transfer from the mortgagor to the mortgagee as an outcome of a foreclosure or a deed in lieu will be exempt as much as the amount of the financial obligation. Some other states, consisting of Washington and Illinois, have simple exemptions for deed-in-lieu transactions. In Connecticut, however, while there is an exemption for deed-in-lieu transactions it is limited just to a transfer of the borrower's individual residence.
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For an industrial transaction, the tax will be determined based upon the full purchase cost, which is expressly defined as consisting of the quantity of liability which is presumed or to which the real estate is subject. Similarly, but a lot more possibly extreme, New York bases the quantity of the transfer tax on "factor to consider," which is specified as the unpaid balance of the debt, plus the overall amount of any other surviving liens and any amounts paid by the beneficiary (although if the loan is fully recourse, the factor to consider is capped at the fair market value of the residential or commercial property plus other amounts paid). Bearing in mind the lending institution will, in most jurisdictions, have to pay this tax again when ultimately offering the residential or commercial property, the particular jurisdiction's rules on transfer tax can be a determinative consider deciding whether a deed-in-lieu deal is a possible option.
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Bankruptcy Issues
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A significant issue for lenders when determining if a deed in lieu is a feasible alternative is the concern that if the borrower ends up being a debtor in an insolvency case after the deed in lieu is total, the bankruptcy court can cause the transfer to be unwound or set aside. Because a deed-in-lieu deal is a transfer made on, or account of, an antecedent financial obligation, it falls squarely within subsection (b)( 2) of Section 547 of the Bankruptcy Code handling preferential transfers. Accordingly, if the transfer was made when the borrower was insolvent (or the transfer rendered the borrower insolvent) and within the 90-day duration stated in the Bankruptcy Code, the borrower becomes a debtor in an insolvency case, then the deed in lieu is at risk of being set aside.
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Similarly, under Section 548 of the Bankruptcy Code, a transfer can be reserved if it is made within one year prior to a personal bankruptcy filing and the transfer was produced "less than a fairly equivalent worth" and if the transferor was insolvent at the time of the transfer, ended up being insolvent because of the transfer, was participated in a company that maintained an unreasonably low level of capital or meant to incur financial obligations beyond its ability to pay. In order to mitigate against these risks, a lender needs to thoroughly evaluate and examine the debtor's financial condition and liabilities and, ideally, require audited financial declarations to validate the solvency status of the debtor. Moreover, the deed-in-lieu contract must consist of representations regarding solvency and a covenant from the debtor not to declare personal bankruptcy during the choice duration.
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This is yet another reason it is vital for a lender to procure an appraisal to confirm the worth of the residential or commercial property in relation to the financial obligation. An existing appraisal will help the lender refute any claims that the transfer was produced less than reasonably equivalent value.
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Title Insurance
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As part of the initial acquisition of a real residential or commercial property, the majority of owners and their loan providers will get policies of title insurance coverage to secure their particular interests. A lender considering taking title to a residential or commercial property by virtue of a deed in lieu may ask whether it can count on its [lender's policy](https://www.agentjill.com) when it becomes the fee owner. Coverage under a lending institution's policy of title insurance can continue after the [acquisition](https://drakebayrealestate.com) of title if title is taken by the very same entity that is the named insured under the loan provider's policy.
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Since lots of loan providers choose to have actually title vested in a separate affiliate entity, in order to ensure ongoing protection under the loan provider's policy, the called [lending institution](https://woynirealtor.com) should assign the mortgage to the desired affiliate [victor prior](https://www.masercondosales.com) to, or at the same time with, the transfer of the charge. In the option, the lender can take title and after that communicate the residential or commercial property by deed for no factor to consider to either its parent business or a completely owned subsidiary (although in some jurisdictions this could set off transfer tax liability).
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Notwithstanding the in coverage, a lender's policy does not convert to an owner's policy. Once the loan provider becomes an owner, the nature and scope of the claims that would be made under a policy are such that the lender's policy would not offer the same or a sufficient level of security. Moreover, a lending institution's policy does not avail any security for matters which arise after the date of the mortgage loan, leaving the lender exposed to any issues or claims stemming from occasions which take place after the initial closing.
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Due to the truth deed-in-lieu deals are more susceptible to challenge and threats as detailed above, any title insurance provider releasing an owner's policy is likely to undertake a more strenuous evaluation of the transaction throughout the underwriting process than they would in a normal third-party purchase and sale deal. The title insurer will inspect the parties and the deed-in-lieu documents in order to recognize and mitigate dangers provided by problems such as merger, blocking, recharacterization and insolvency, thus potentially increasing the time and expenses associated with closing the deal, but eventually offering the loan provider with a greater level of security than the loan provider would have absent the title business's participation.
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Ultimately, whether a deed-in-lieu deal is a practical choice for a loan provider is driven by the specific truths and situations of not only the loan and the residential or commercial property, however the parties included as well. Under the right set of situations, and so long as the proper due diligence and paperwork is acquired, a deed in lieu can offer the lender with a more efficient and cheaper means to understand on its collateral when a loan goes into default.
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Harris Beach Murtha's Commercial Property Practice Group is experienced with deed in lieu of foreclosures. If you need support with such matters, please connect to lawyer Meghan A. Hayden at (203) 772-7775 and mhayden@harrisbeachmurtha.com, or the Harris Beach attorney with whom you most frequently work.
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