Real
Estate Finance Notes
The secondary mortgage
market
The
secondary mortgage market started mostly after World War II. There was a big demand for residential mortgages. There was a big public policy in favor of ownership
of single-family homes. Local banks loan
money to individual mortgagees. But at
some point, they run out of money: it’s all loaned out. The federal government created Freddie Mac
and Fannie Mae, which are federally chartered corporations. These act as private companies, but they
operate in the public interest. The FHA
serves as a clearinghouse. When money
goes to the borrower, you get a promissory note and mortgage from the borrower
to the bank. Then the banks turn around
and sell the promissory note and mortgage to the FHA, which pays them for it. Now, the bank has more money with which to
make mortgage loans. The FHA turns
around and sells the notes and mortgages to investors, which could be banks,
insurance companies, or wealthy individuals.
Mortgage notes are very safe investments. In the event of a foreclosure, the process
sort of unravels.
Transfers by the mortgagee
This
is a more important issue currently than transfers by the mortgagor because due
on sale clauses are now enforceable.
Will the transfer of the promissory note alone constitute a transfer of
the mortgage? Yeah, that’s the only
thing that makes sense. Will a transfer
of the mortgage alone also transfer the note?
No, even though it leads to the same absurd situation. But when the later happens, it was probably
an accident. Notes and mortgages are
transferred in different ways. With
notes, it depends on what kind of note it is.
If the note transfers the mortgage, why bother having a separate
assignment of the mortgage? You do it
just to have something that can be recorded.
Recordation isn’t as important as you might think, but it is important. The assignee wants the protection of
recordation, and in order to have that, there must be some written instrument
to record.
Why
would you want to transfer a note with the mortgage that secures it? One reason is that you might just want to
sell it. You might rather have cash than
the note. There are plenty of people out
there who would rather have the promissory note as an investment than
cash. So there’s a market there. Or maybe you want to use the promissory note
and mortgage as security for some other debt. The promissory note is an asset you have, and
you can use it as collateral just like any other asset.
Here
are the two big issues: (1) Is the collateral assignment perfected under UCC Article 9?
Article 9 has nothing to do with the mortgage itself, but it does apply
to creating a security interest in the promissory note. (2) Is the assignee a holder in due course? That would mean that you’re exempt from
certain defenses that the original obligor may have; it’s a fairly desirable
status. We need to distinguish fraud,
though. There is garden-variety fraud,
where you basically intentionally lie to get the promissory note. That’s a personal defense. The real defense with respect to fraud is
when you sign the promissory note thinking that it’s something else. That’s called “fraud in the execution”. The requirements for a holder in due course are
that the instrument must be negotiable, you must be the holder of the
instrument, you must possess the instrument, and you must exhibit certain
behavior. UCC § 3-104(1) deals with
negotiability. There is also other
stuff.