With the expanding global marketplace, more U.S. real estate lawyers will find themselves working on transactions involving real property in England and Wales. Likewise, solicitors in England and Wales may find themselves addressing U.S. real property issues. It is often said that the United States and the United Kingdom are two countries divided by a common language. They also are divided by mortgage laws that have common origins but have developed differently. This article contains an overview of the law of mortgages in England and Wales. It is intended as a starting point for a U.S. practitioner. A companion piece in this issue provides an overview of the U.S. law of mortgages, as an introduction for solicitors in England and Wales.
The law of mortgages in England and Wales is underpinned by the provisions of the Law of Property Act 1925 (LPA). The basic principles set out in the LPA apply to both residential and commercial property, although there are additional statutes affecting residential property to protect occupiers.
Section 85(1) of the LPA provides for two methods of mortgaging the freehold interest in land:
1. A demise for a term of years absolute, subject to the provision for cesser on redemption; and
2. A charge by deed expressed to be by way of legal mortgage.
In the case of leasehold properties, the principle is the same, although the first option is by a sub-demise of the term.
In practice, parties almost never use the first option, and mortgages are effected as a charge by deed. There are three practical advantages of using a charge by deed rather than a mortgage by way of demise:
1. It is possible to charge both freehold and leasehold properties by one deed.
2. Where a leasehold is being charged, there is not the risk of a breach of the lease terms on subletting. It will be necessary to check whether a lease requires the landlord's consent to charge, but this will be a simpler process than obtaining consent to sublet.
3. A charge by deed can be a much shorter and simpler document.
This article will therefore concentrate on charges by deed, which are normally referred to as mortgages.
Creation and Priorities
As set out in Section 81(1) of the LPA, a charge by deed must be a deed and therefore follow the formalities of execution as a deed. It also must state that it is by way of legal mortgage. If the land being charged is already registered at the Land Registry, however, those magic words are not required.
The charge document must sufficiently identify the land. When the land is already registered at HM Land Registry, this identification is usually by reference to the Land Registry title number. For unregistered land, the creation of a charge (whether or not there is a simultaneous transfer of the land) is an event that triggers first registration at the Land Registry. In that case, the property will usually be described by reference to the transfer of the land, if that is taking place simultaneously, or by reference to the last transfer encompassing the whole of the property being charged, or by reference to a plan if that is more appropriate.
No legal estate arises until the charge has been registered at the Land Registry. It will be recorded by a note on the Charges Register to the title number. The land certificate must therefore be submitted to the Land Registry, which will issue a charge certificate in its place. Charges given by companies must also first be registered at Companies House.
Charges have priorities in the order in which they are entered on the Register, although this can be varied by a deed of priority between two or more chargees. If the charge provides for further advances to be made, then a note must be entered on the Register of the obligation to make further advances. Otherwise, an intervening charge will gain priority over those further advances.
In the case of a residential mortgage, the legal charge is normally a single page, and all of the detailed terms and conditions tend to be contained in a booklet that the lender issues to the borrower. For commercial transactions, the legal charge will contain the detailed provisions, including the rights and powers of the mortgagee. There will usually be a separate facilities letter, or facilities agreement, that sets out the commercial terms of the individual loan, such as interest rates, repayment terms and the events of default.
When it comes to the rights of a mortgagee to enforce its security, there are, broadly, five remedies available.
Suit. The mortgagee can sue for the money due. This is the normal action for recovery of a debt.
Foreclosure. The mortgagee can foreclose or, in other words, vest the mortgagor's title in the mortgagee. This is an equitable right but is now very rarely used. The right does not arise until the mortgagor's right to redeem has ceased to exist. Most legal charges provide for repayment to be made "on demand," although there will usually be a provision that the mortgagee will not make demand unless and until there has been a breach of the terms of the legal charge, such as nonpayment or insolvency. The right therefore arises when a demand has properly been made and a reasonable period for remedy has elapsed. Enforcement is through the courts. Initially an application is made for a foreclosure order "nisi." If repayment has not been made within the specified time limit in that order or the court has not in the meantime made an order for sale, the mortgagee can apply for an absolute order that vests the title to the property in the mortgagee.
Sale. The mortgagee can sell the property. This is a statutory right that arises under Sections 101 to 107 of the LPA. Under Section 101 of the LPA, the power of sale does not arise until repayment of either the whole debt or an installment that is due. Again, the comments about "on demand" provisions above apply.
Section 103 of the LPA creates a further hurdle to sale. Once the power of sale has arisen, it cannot be enforced until it has become exercisable. Under Section 106 it becomes exercisable when (1) a notice demanding payment has been made and three months have expired without repayment, (2) an amount of interest is two months or more in arrears or (3) there is some other breach of the terms of the legal charge.
Section 103 is normally varied so that the power of sale becomes exercisable immediately when demand is made. It is unnecessary to pursue this remedy through the courts, but a mortgagee does have a duty to take reasonable care to obtain a proper price for the property. In addition, mortgagees normally expand the statutory powers of a mortgagee to mirror the powers of receiver (as discussed below).
Possession. The mortgagee can take possession of the property. This is a statutory right arising under Section 87(1) of the LPA, although it originally derives from the common law. The right arises as soon as the legal charge has been entered into, even though there has been no default. Again, this would normally be defined by the written terms of the legal charge.
The duties of a mortgagee in possession are quite onerous, and a mortgagee will normally avoid taking possession unless and until it must-normally only when other remedies are insufficient. For example, a mortgagee must account for all income it ought to have received from the property and is also responsible for effecting reasonable repairs. In the case of dwelling houses, the court has wide discretion to postpone or stay proceedings, depending on the likelihood of payment and the possibility of an impending sale. There are also statutory rights to protect spouses in occupation.
A mortgagee has the right to appoint a receiver. The statutory power arises and becomes exercisable in the same way as the power of sale under Sections 101 and 109 of the LPA. A receiver is the agent of the mortgagor and has statutory powers to collect the income of the property. The receiver's powers are normally extended in writing in the legal charge, so that the receiver effectively has the same powers as the owner. Receivers are appointed in writing by the mortgagee. As agent of the mortgagee, a receiver can enter into documents on the mortgagee's behalf--for example, to transfer the property on sale. The receiver is appointed over all the charged assets and will dispose of them to pay off the mortgage. Any balance remaining must be returned to the mortgagor. The receiver is also under a duty to take care to obtain a reasonable price for the property.
Exercising the right to sell and appointing a receiver are the most popular remedies. Nevertheless, it is worth noting that these powers are cumulative, and the exercise of one remedy will not necessarily preclude the pursuit of another remedy. For example, if a lender has exercised its power of sale but a balance of monies remains owing, the lender can sue for repayment of that amount. If a lender has foreclosed, however, it can sue for the debt only if the foreclosure is reopened, because the lender is seeking to treat the legal charge as still in force.
Right to Redeem
A mortgagor's right to redeem the charge may not be fettered. A mortgagee cannot prevent a mortgagor from redeeming a loan early, although the commercial terms may well provide for a monetary payment to compensate the mortgagee for early repayment. It is possible for a mortgagor to transfer a property subject to the legal charge. For such a transfer to be effective, however, the mortgagee must join in as a party. Otherwise, an event of default would be created that would enable the mortgagee to demand repayment.
A floating charge is akin to a blanket UCC security interest. The concept of floating charges applies to companies only. If the mortgagee has a charge over the whole or substantially the whole of the assets of the borrowing company, it can block the appointment of an administrator over that borrowing company (an administrator is essentially an individual appointed to restructure the company, as opposed to a liquidator, who winds it up).
To be able to take such a charge, the property would normally have to be held in a special purpose vehicle (SPV) (often backed by guarantees from the parent), so that the assets of that SPV can be ring-fenced. To achieve this position, in addition to taking a legal charge over the title to the property itself, a mortgagee would also take a floating charge over the remaining assets of the SPV (such as chattels and stock).
Until an event of default has occurred, a mortgagor can deal with the floating charge assets in its normal course of business, and the charge crystallizes only when demand is made. It then becomes a fixed charge over the assets, and the mortgagee's remedies apply.
There is no system of title insurance in the United Kingdom. Normally the borrower's solicitors give a certificate confirming that there is good and marketable title to the property to be charged. The level of detail contained in that certificate will vary. In the case of residential mortgages, these certificates tend to be one page forms on which only exceptional matters are noted (and that would probably result in the loan's being rejected). In the case of commercial loans, certificates tend to be much more sophisticated and will give full details of the title to the property, rights benefiting it and to which it is subject and, when it is an investment property, details of the lettings granted. If the certificate subsequently proves to be incorrect, then the lender's remedies are against the law firm that prepared the certificate. Sometimes lenders will insist that their own lawyers investigate the title rather than relying on the borrower's lawyer's certificate. This practice is more expensive for the borrower, and the borrower will be required to cover the lender's lawyer's fees.
On commercial loans, lenders will normally require that an environmental investigation be carried out and not reveal any adverse matters. The statutory regime is set out in the Environmental Protection Act 1990 and the Environment Act 1995. These acts provide for the cleanup of contaminated land by the "party responsible," which will primarily be "causers" or "knowing permitters." If these cannot be found, then the responsibility falls on the owner/occupier. This is another reason that lenders wish to avoid becoming mortgagees in possession.
A U.K. mortgage loan transaction, especially a complex commercial one, requires counsel experienced in the laws of England and Wales. Nevertheless, this article should provide a starting point so that the U.S. real estate lawyer can at least speak a common language with the solicitor from England or Wales.
Jackie Newstead is a partner with Lovells in London, England.