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Mortgages Lecture 1
Jan Cookson
Track/Slide 1
This is the first of three lectures on mortgages.
Track/Slide 2
Securities
Let us imagine that I borrow some money from a bank. What happens if I fail to repay the loan in
accordance with the terms we had agreed? By what means does the bank get its money back? The
answer to this question depends on whether the bank had given me an unsecured loan or a secured
loan. The function of a security is to provide some guarantee for repayment of a debt. If the loan
was unsecured, the bank would have had the right to sue me for non-payment. However the danger
for it would be that I had become insolvent by the time it got a court order for the repayment. In
that case it will probably lose all or some of its money since it would not be able to claim any of my
assets in priority to other creditors. To avoid this risk in the case of large loans the bank is likely to
require me to offer security for repayment of the loan. Here if the security is of adequate value, the
bank is protected because it has a claim to the security in priority to other creditors' claims. So as
I've said, the function of a security is to provide some guarantee for the repayment of a debt.
Securities can relate to people. For example, a bank might require the parent of a young student
taking out a loan to enter into a contract of indemnity. That contract is a form of security. If the
student doesn't pay, the parent can be sued. Or security can relate to property. An example in
relation to personal property is when a person pawns a belonging, for example where someone
deposits jewelry with a pawnbroker in return for a loan. Here the security is possession of the
jewelry. If the loan is not repaid, it can be retained by the pawnbroker. Our focus of course will be
security which relates to land and the most important form of security in relation to land is the
mortgage.
Track/Slide 3
Mortgages are very widespread. Even back in 1970 Lord Diplock in Pettitt v Pettitt referred to Britain
as "a property, particularly a real-property-mortgaged-to-a-building-society-owning, democracy".
And statistics from the Communities and Local Government website taken recently show that 14.6
million households in England own their own home and out of those 11.1 million have mortgages.
Track/Slide 4
The pre-1926 development of the Law
I don't usually discuss the history of a topic but I think it can help you better understand the present
day law if we briefly outline its earlier development.
Creation of a mortgage before the Law of Property Act 1925 came into being
Before the LPA 1925 if a freehold owner of land wished to mortgage it as security for a loan, then he
had to convey his whole estate to the lender. He would literally transfer the freehold. This was
subject to a covenant, a promise, by the lender to re-convey the property back to him if he the
borrower repaid the loan on a fixed date. Similarly in the case of leasehold. What happened if the
borrower failed to repay on that fixed date? Well at law common law took a very hard line.
Notwithstanding that the procedure didn't reflect the true nature of the transaction, if the borrower
didn't repay on the fixed date, he lost any right to have the land returned to him even if he was just
a single day late. The lender became the outright owner even if the land was worth much more than
the loan. And the borrower still remained liable for the debt.
So what was the position in equity? During the 17th Century equity intervened because of the
unfairness of the arrangement at law. It compelled the lender, even though the date for repayment
had passed, to accept late payment of it and to re-convey the property to the borrower. So in the
17th Century the borrower gains this new right, an equitable right to ignore the fixed date for
payment and still recover his property on later repayment. However, there had to be some limit on
this equitable right. Therefore equity developed a degree of foreclosure. This was a court order
which declared that the borrower's equitable right to pay off the loan and recover the land was
extinguished.
Track/Slide 5
Terminology
A mortgage is an interest in property granted by a mortgagor to a mortgagee with a provision for
redemption. Its function as we now know is to provide security for repayment of a loan. The
mortgagor is the person who grants the mortgage, that is the borrower. The mortgagee, the person
who receives the mortgage, that is the lender. I said that a mortgage was an interest in property
granted by a mortgagor to a mortgagee with a provision for redemption. So what is redemption?
Well it is the process of freeing the property from the mortgage by repayment of the debt. So the
process of freeing the property from the mortgage by repaying the loan.
Track/Slide 6
Popular abuse of terminology
An oddity about mortgages is that the terms used by non-lawyers give a wholly inaccurate
description of the nature of a mortgage. In lay, i.e. non-legal terms, aspiring property owners get a
mortgage from a bank or building society which is in the business of offering mortgages and the
lender may then allow the borrower to keep the mortgage if they move house. What's wrong with
that terminology? Well we'll come to answer that question by looking next at the creation of a
mortgage.
Track/Slide 7
The creation of a legal mortgage.
Track/Slide 8
Under the Law of Property Act 1925 there are 2 ways of creating a legal mortgage. The first is a long
lease with provision for cesser on redemption. By this first method a mortgage is created by a
borrower granting a lease of his land to the lender. The statutory provisions are section 85(1) of the
25 Act which makes provision for the borrower to grant a lease where his land is freehold and
section 86(1) for the borrower to grant a sub-lease where his land is itself leasehold. The Act
provides that the lease will include a clause that it will end when the loan is repaid. That is a
provision for cesser on redemption. The Act does not specify what the period of the lease must be
but it is usually very long. If a freehold is being mortgaged, the lease period is commonly 3,000 years.
So just comparing this to the position before 1926, by this method the lender does still get an estate
in the borrower's land which, as we will see, gives him certain rights but the borrower now retains
his legal estate albeit subject to a long lease. In fact it is now very rare to create a mortgage this way.
The second method that we are about to look at is far more common.
Track/Slide 9
The second method is by granting what is known as a charge by deed of way of legal mortgage,
much more commonly known as a legal charge under section 87 of the 1925 Act. In a mortgage
created by this means, the borrower executes a deed in which he states that he is charging his land
with payment of the debt by way of legal mortgage. I've given you an example extracted from an
actual mortgage deed of this. It then has the effect of giving the lender a mortgage over the
borrower's land. However, unlike the first method of creating a mortgage, this charge gives the
lender no estate in land. It is in fact a unique type of interest. Nonetheless, by virtue of section 87 of
the 25 Act, its effect is exactly the same as if the lender had been given an estate. And this is because
section 87 says a charge gives the lender "the same protection, powers and remedies" as if the
mortgage had been created under s.85(1) or 86(1) the 25 act. As I said, this is far and away the most
common way of creating a mortgage and do please note it is the only way of creating a legal
mortgage in the case of registered land. This is the impact of section 23 (1)(a) of the 2002 Land
Registration Act.
Track/Slide 10
As ever, formalities need to be complied with for a legal right to actually achieve legal status. Thus a
deed is needed for the creation of the mortgage. Additionally if the borrower's land is registered
then the mortgage must also be registered and if the land is unregistered and the mortgage is the
first mortgage then it must be registered and inevitably the borrower's estate will have to be
registered at the same time.
Track/Slide 11
Slide 12 [11] simply gives you an example of how a charge by way of legal mortgage will show up on
the charges register of a registered title.
Track/Slide 12
How then is an equitable mortgage created?
Track/Slide 13
Well there are three main ways in which this can happen. The first is exactly the same as a method
of creating an equitable lease. So where there is a contract for the grant of a mortgage which
complies with section 2 of the 1989 Act and is specifically enforceable. This might be because there
is an actual contract to grant the mortgage although that's slightly unusual these days or more likely
where there's a written mortgage that either it wasn't made by deed or the deed was defective. A
second method which can again apply to some equitable leases is where the mortgage was correctly
made by deed but then it was not registered as needed at the Land Registry. And the third situation
when equitable mortgage will arise is where somebody only has an equitable interest to begin with,
as for example a beneficiary under a trust. They may borrow money on the strength of their
equitable interest. If the lender acquires a mortgage in return, they will necessarily only obtain an
equitable mortgage.
Track/Slide 14
A mortgagor's rights and protections
Track/Slide 15
So once a borrower has granted a mortgage over their property what rights and protections do they
have? Well firstly they have that right to redeem. As I have said, the right to redeem is the right to
pay off the debt and to take the property back free from the mortgage and the lender's rights.
Although the 1925 Act altered how a mortgage could be made, it did not alter the borrower's right
to redeem. That right both at law and equity remained unchanged. So just to recap, as regards the
legal right to redeem first. When a mortgage is made, the parties agree a date on which the loan will
be paid off and the property freed from the mortgage. That is a contractually agreed date and at law
time is treated as being of the essence of the contract, the consequence of this being that failure to
redeem on that agreed date meant the borrower lost the right ever to do so. Notwithstanding that
position at law, equity, as we saw earlier, decided the right to redeem should remain available even
after the agreed date had passed.
So given it can be ignored, is the legal date totally irrelevant? Well it is almost entirely academic.
Quoting from the land lawyer Elizabeth Cook, as she says, a home owner taking out a 25 year loan
would be startled to be told that strictly speaking he must pay all the money back in 6 months time
and that his having 25 years in which to pay is merely a concession. This is a fiction because if all is
going well, neither party wants the loan paid off in 6 months time. However, although the date is
almost entirely academic, it does have one important function and that is that some of the lender's
remedies only become available once that date has passed. So for example, a lender's only able to
make an application to the Court for a degree of foreclosure after the borrower has failed to repay
the loan on the legally agreed date. And it is for this reason that it is usual for mortgages to set an
incredibly early date for repayment, usually within 3 – 6 months of the mortgage being granted.
Neither party intends the mortgage should be repaid then but if things go wrong under the
mortgage agreement then the lender doesn't have to wait to exercise its remedies.
The other right that I want to mention or protection is the curiously named "No clogs on the Equity
of Redemption". That isn't referring to a pair of shoes. It is referring to the fact that there should be
no impediment on the ability of the borrower to pay off the loan and redeem the mortgage. Equity
will not tolerate any arrangement which tries to prevent or postpone that happening. This is the
meaning of this slightly curious phrase.
Track/Slide 16
We don't have time to look in detail at the provisions of the mortgage but I just wanted to mention a
couple of the standard terms and conditions. So these include fairly evidently provisions for
repayment of the loan, when it is to be repaid, what the interest rate is to be etc. It also, which often
comes as a surprise to new borrowers, contains covenants, promises by the borrower relating to the
property itself, for example to keep it properly maintained, to keep it fully insured, not to let the
property out without the permission of the borrower. And it will contain detailed provisions relating
to the rights and remedies of the lender.
Track/Slide 17
I want to go on now and look at one of the most important rights that a lender/mortgagee has – a
mortgagee's right to possession of the mortgaged property.
Track/Slide 18
This right is one of the most important ones that the lender has that is relevant to the remedies it
can use when the borrower defaults. And notice it is a right to possession. It is not a remedy. Why?
Well because this is because a lender has or is treated as having a legal estate in the land. And
remember it is a lease or a legal charge which is treated as being a lease and like any lease this will
carry with it a right to possess the land. And it is an immediate right to possess the land. It arises as
soon as the mortgage is made and is in no sense dependent on the borrower defaulting on the
payment. In one case it was said "I suspect that many mortgagors would be astonished to discover
that a bank which had lent them money to buy a property for them to live in could take possession
of it the next day". And there is a very famous statement about this in the case of Four Maids Ltd v
Dudley Marshall Properties as per the slide. "The mortgagee may go into possession before the ink is
dry on the mortgage." Notice however the quote also says "…unless there is something in the
contract, express or by implication, whereby he has contracted himself out of that right".
In residential properties it is in fact usual for the lender to give the borrower the right to remain in
possession until there is default on the mortgage repayments. As one commentator says, "This at
least prevents bank managers from wandering in during Eastenders". So what is it that inhibits the
lender from taking possession? Well there are two main reasons. In the case of residential
properties, large institutional lenders have no interest in physically occupying the property. They
want the borrower to occupy and keep paying the mortgage. In the case of commercial properties
there may be a better reason for taking possession if the borrower is behind on his loan repayments
because then income from the property could be used to pay the loan interest instead. However,
following the intervention of equity, a mortgagee in possession must account strictly to the
borrower so any additional income from the property over what the lender needed would have to
be paid over to the borrower and equally any shortfall in the income the lender could have got but
failed to from the property would have to be made up.
So to give you an example of all this at work, in the case of White v City of London Brewery Co., an
1889 case, the lender was a beer brewer and the mortgaged property was a free house pub. When
the borrower defaulted, the lender took possession and rented it out but as a tied pub which meant
selling the lender's beer. In fact it would have been more profitable to let it out as a free house being
able to sell whatever beer it liked. As a consequence, the lender was then held liable to account to
the borrower for the difference in the rent that could have been obtained. I said that the lender
normally would only take possession once the borrower had defaulted on the mortgage. Why would
they do so even then? This is because the lender would generally want to sell the property to get
back what they are owed. Most buyers won't want to buy it with the borrower still living there. So by
obtaining possession, the borrower would have to leave and the lender can then sell with vacant
possession.
Track/Slide 19
So is a Court Order needed for the mortgagee lender to repossess? In the case of residential
premises, a lender will almost always go through the Court and this is because of section 1(2) of the
1977 Protection from Eviction Act which makes it a criminal offence for a mortgagee of residential
property to unlawfully deprive a residential occupier of his occupation unless the mortgagee proved
that he with reasonable cause believed that the occupier had ceased to live there. However, I do say
it will almost always get a Court order because it is possible for the mortgagee to repossess without
one where the property is vacant. This occurred in the 1999 Barclays Bank case that we will in fact
be returning to. When a property is repossessed without a Court Order just note that is referred to
peaceable re-entry.
As regards commercial property, section 1(2) of the Protection from Eviction Act does not apply.
However, there is also section 6 of the 1977 Criminal Law Act. This applies in fact not only to
commercial but again to residential property too and that provides that it is a criminal offence to use
or threaten violence for the purpose of securing entry into premises where there is someone
present on those premises at the time who was opposed to the entry. So although it is more possible
for a lender to peaceably re-enter commercial property without a Court Order even if it is being
occupied, there is this danger of a criminal offence being committed if there is the use or threat of
violence in order to obtain entry. A Court Order is always preferable and the very great majority of
lenders do go to Court before obtaining possession.
Track/Slide 20
If a mortgagee is seeking possession of the property, is it possible for the borrower/mortgagor to
prevent or postpone that happening? We need to consider two provisions. The first is a statutory
one contained in section 36 of the Administration of Justice Act 1970. That will be our real focus.
And then we will look briefly at the Court's common law, its inherent jurisdiction, to postpone
possession.
Track/Slide 21
The provisions of section 36 of the Administration of Justice Act 1970
Track/Slide 22
A very important opportunity is offered to the borrower by section 36 of the 1970 Administration of
Justice Act. This gives the Court a discretion to delay possession by the lender. Its objective is to
allow the borrower a breathing space to get his financial affairs in order but notice there are certain
pre-conditions to it applying. First and critically it only applies to residential premises, i.e. not
commercial ones, and secondly it is only available where the lender has applied to Court for the
possession. Therefore in the Barclays Bank case where, as we saw, the lender peaceably repossessed
without a Court Order, section 36 was not available to the borrower. Finally note that if it does
apply, it will apply to most kinds of mortgages. The only form it doesn't apply to is where a charge, a
mortgage, has been granted as security for an overdraft.
Track/Slide 23
Let us have a look at the wording of section 36. Subsection 1 provides that where the mortgagee
under a mortgage of land which consists of or includes a dwelling-house brings an action in which he
claims possession of the mortgaged property … the court may exercise any of the powers conferred
on it by subsection (2) below if it appears to the court that in the event of exercising its power the
mortgagor is likely to be able within a reasonable period to pay any sums due under the
mortgage…". And then under subsection 2 the Court has power to adjourn possession proceedings
or stay or suspend execution of a possession order or postpone the date of delivery of possession.
Track/Slide 24
Thus in order to delay possession by the mortgagee, the borrower has to meet these criteria. They
must be likely to pay any sums due under the mortgage within a reasonable period.
Track/Slide 25
Now ascertaining the meaning of those criteria depends on ascertaining why the borrower is seeking
to postpone possession. There could be one of two reasons, either to pay off the arrears or
alternatively to sell the property themselves. So in the first case the intention of the borrower is to
sort out the instalments that they owe and then to stay in the property and continue paying the
mortgage as usual. In the second case the borrower realises that their income will not be sufficient
to clear any arrears but that the capital that they would get from selling the property would clear the
whole mortgage debt. So basically the borrower's recognizing they are not going to be able to stay in
the property because they lack sufficient income or savings that they want to sell the property
themselves rather than having it sold by the lender. We're now going to look at the criteria
applicable to each of those situations.
Track/Slide 26
So what is the meaning of to pay any sums due when the intention of the borrower in postponing
possession is to allow them to clear the arrears and stay in the property? Well in fact its meaning
caused problems after the Act first came out. It had indeed been intended to refer only to the
borrower clearing any pre-existing arrears. For example, someone might have missed two monthly
payments and those missing payments were meant to be what had to be paid to enable the Court to
suspend possession. However, you need to know that in nearly all mortgages there will be a
condition which says that the entire debt shall become due if a person misses paying one instalment,
so if you miss one payment of interest, then this will trigger liability to repay the whole loan. So in
the case of Halifax Building Society v Clarke in 1973 the borrower was in arrears on his instalments
and had tried under section 36 to postpone an application the lender had made for a possession
order. However, his mortgage did include the provision that I have just talked about and accordingly
the Court held that any sums due meant that he had to repay the whole capital debt and not just the
arrears. On this basis there was no chance that the mortgagor could pay within a reasonable period
so no postponement order was made.
This led to an amendment being introduced by section 8 of the Administration of Justice 1973, the
effect of which is any sums due now means the sums which the mortgagor would have been
expected to pay if there had been no provision for earlier payment of capital in the event of a
breach. So sums due in summary does now mean simply the outstanding arrears of the instalment
payments plus the Courts have made clear the borrower must also be able to keep up with the
current instalment payments.
Track/Slide 27
Still considering the meaning of the criteria from the perspective of a borrower who is simply trying
to clear the arrears, what does within a reasonable period cover? Well for many years a reasonable
period was regarded by Courts as about 2 – 4 years. However in 1996 this guideline was reassessed
in the very important case of Cheltenham and Gloucester Building Society v Norgan. That case
defined a reasonable period as capable of being the whole of the remaining length of the mortgage
term. So imagine the situation where a mortgage was to be paid over 25 years and after 5 years the
lender brought an application for possession because of say £10,000 arrears. The effect of Norgan is
the borrower may be given the remaining 20 years to pay back the £10,000 and, as we've already
see, the borrower must also be able to keep up future payments of the debt as they fall due over
that period.
The Court listed a number of considerations to be taken into account in deciding how long to
actually allow because remember that I've said that Norgan defined a reasonable period as capable
of being the whole remaining length of the mortgage term, not that it would be. Those
considerations included
1) The ability of the borrower to make payments now and in the future
2) The likely duration of any temporary financial difficulty
3) The reason for the arrears
4) The period remaining of the original mortgage
5) The adequacy of the security to support the loan and arrears
One relevant factor under 5) is likely to be the size of the equity. If the equity is small then to make
the lender wait for a considerable period may be unjust because in a falling market the property may
end up being worth less than the outstanding loan in arrears.
Norgan is very important. In the example I gave you of a 25 year loan where £10,000 of arrears had
accumulated when the case comes to Court after 5 years, paying that £10,000 over the original
period allowed of 2 - 4 years is likely to be hopeless but paying it over the 20 year period is very
much more feasible.
Track/Slide 28
And finally where the borrower is seeking to clear the arrears and remain in the property, what is
the meaning of likely? Well as the slide says, this has been held by the Courts to mean that there
must be a realistic chance, a realistic prospect of clearing the arrears and at the same time
maintaining the current payments. This is a question of fact for the Court but the Norgan case made
clear that the borrower must present firm evidence of a realistic financial plan which would enable
the arrears to be paid so some form of detailed budget. And I'd like us to look briefly at a couple of
cases. You will note that they date from the early 1990s which was the last time in which the country
went into recession. Firstly the case of First National Bank v Syed.
Track/Slide 29
Mr Syed was for many years employed as an accountant but more than 5 years before the case went
to Court he had been made redundant. His evidence to the Court said he had been seeking to
establish a business from his home. This slide is an extract which gives a feel of how the Court
viewed his position per Lord Justice Dillon. "I need say no more …than that the prospects [of
Mr.Syed obtaining work] are entirely speculative, and there is no basis for estimating reliably when
and whether any, and if so what, income will be received…. I have to say, with every regret for the
defendants' misfortunes, that if the test to be applied [is that in s.36 AJA 1970], I am wholly unable
to see any prospect of the defendants paying off the arrears within any reasonable period, while also
paying current instalments." Thus the Court refused to postpone possession and note that it also
said in that case that it could not act because of sympathy for the unemployed in a recession or even
though repossession constituted a serious social problem.
Track/Slide 30
The next case that I want us to consider is that of Town And Country Building Society v Julien in 1991.
In this case Mr Julien was a self-employed design consultant. He had bought a property in July 1989
and had borrowed £630,000 in order to do so. However he made only 2 monthly repayments and
then stopped. The lender issued proceedings in April 1990 for possession. Between July 1990 and
August 1991 Mr Julien filed 4 affidavits, each referring to his hopeful prospects for work. The extract
on this slide is typical. "Since about January 1990, problems in the commercial property market have
much reduced my income. However, I believe it is likely that within the next six months. I will obtain
substantial new contracts which will restore my gross income to its former levels and enable me to
maintain my mortgage payments and the discharge my arrears.”
Track/Slide 31
Mr Julien's application under section 36 to defer possession failed. The case went to the Court of
Appeal. This is an extract from the judgement in the County Court which Mr Julien was appealing.
Unfortunately for him, the Court of Appeal endorsed it. "What are the prospects of Mr. Julien
actually earning sufficient sums of money by his own efforts or through any other commercial way
to pay off this very substantial debt? What he said in evidence was he was quite sure the recession
was ending, that he had, and I am paraphrasing it slightly, a number of professional irons in the fire
which he may be able to take out and very profitably. It all seems to me, however you look at it,
highly speculative and at the moment quite frankly he is asking the Building Society to act, or his
insurers to act, as his bankers for the next year while he re-establishes his professional practice
which has suffered so much because of the effect of the recession. Well I do not consider that being
within the words of Section 36 , I do not consider that, however one turns it round to be, to say, that
means that Mr. Julien is likely to be able, within a reasonable period, to remedy the default which
has occurred."
The final case referred to is Cheltenham and Gloucester Building Society v Grant 1994. This is a case
which bucked the trend in allowing an application under section 36 to succeed even though the
evidence was pretty slight. Mr Grant had been divorced and had had the matrimonial home
transferred to him as part of the divorce settlement. He gave up work to look after his 6 year old son
and so arrears built up on his mortgage. He was in receipt of income support and interest payments
on the mortgage were made by the DSS but were £147 short each month. Mr Grant told the Court
that he believed himself to be highly regarded in the concrete repair industry and would have no
difficulty finding employment in the future once his son was at secondary school. And here the judge
took a very liberal view, it is thought motivated by judicial compassion for a difficult situation and
made an order for possession, which however wasn't to be enforced without leave of the Court and
was subject to review at the end of the year. The lender appealed on the basis that this was an
unreasonable exercise of the Court's discretion under section 36. When the case went to the Court
of Appeal, the Court made clear that it disliked the decision but felt that as the judge's exercise of
the discretion could not be regarded as plainly wrong, it couldn't interfere with the decision.
However, the way in which the Court of Appeal manifested its dislike indicates that it is unlikely to
be followed as a case.
Track/Slide 32
I want to know consider the section 36 criteria in a case where the borrower recognizes that they
are not going to be able to remain in the property but want to sell it themselves