The vast majority of home purchases in this country are completed with borrowed money. Even if you have enough cash, the tax laws and investment markets usually create a situation that makes it beneficial to you to use someone else’s money to buy your home.
Since real estate is so expensive, virtually every loan that is made must have some collateral involved to protect the lender in case the borrower doesn’t make the payments. That, of course, is usually the real estate itself.
Real estate financing involves two similar, but distinctly different documents: the note; and either a mortgage or a deed of trust, both of which are commonly called a “mortgage.” We usually use deeds of trust in Colorado.
The note is a contract between the lender and the borrower that shows the terms and conditions under which the money is lent and borrowed. It is a formal IOU, and usually identifies what the collateral will be, but it doesn’t actually make any formal claim on the collateral.
The formal claim on the collateral — called a lien or an encumbrance — is made with either a mortgage or a deed of trust. These two are very similar, and serve basically the same purpose, but differ in how the details are carried out. The main purpose of both of them is to spell out the exact conditions under which a borrower is said to be in default, and what the lender can do about it.
There are two parties to a mortgage: the lender and the borrower. If the borrower is not fulfilling the promises made in the note or other conditions of the mortgage, the lender can pursue its rights of foreclosure. Depending on the situation, the lender might have to go to court to foreclose. With a mortgage, the borrower owns the home completely. The lender does not own any part of it, but can — by following the proper procedure — take the property away from the borrower if all the terms of the mortgage are not met.
In Colorado, we generally use deeds of trust. With these, there is a third party involved: the trustee. When the buyer borrows money to buy the house, a note is signed as with a mortgage, but a deed of trust is also signed that transfers some rights and responsibilities to a trustee. With this arrangement, if the borrower goes into default, the lender can notify the trustee, and the foreclosure procedure can be started without having to go to court. Colorado, actually, is unique in that we use a system of public trustees.
Next week, I’ll talk some more about what happens when things go wrong for the buyer. In the meantime, please keep in mind that I am not a lawyer, and no part of this should be considered to be legal advice. If you need such advice, please contact an attorney.
What’s next? Take your pick.
Yeah. You should probably do at least one of those things right now.