Theories of Title: Possession, Rents, and Related Considerations

1.  Restatement (Third) of Property (Mortgages)
–    Title Theory: Legal title with the mortgagee until the mortgage is satisfied or foreclosed.
–    Lien Theory: Mortgagee is regarded as owning a security only and both legal and equitable title remain in the mortgagor until foreclosure.
–    Intermediate Theory: Legal and equitable title remain in the mortgagor until a default, at which time legal title passes to the mortgagee.
2.  Most jurisdictions adopt the lien theory.
–    Mortgagee may obtain possession by means other than foreclosure, such as consent of the mortgagor, peaceable possession after an invalid foreclosure, or if mortgagor abandons the property.  The possession must be by virtue of the security interest and not as tenant or agent of the mortgagor.
–    For residential mortgage transactions, the ULSIA stipulates that possession may only be accomplished through judicial proceedings.
3.  Mortgagee possession without a judicial proceeding after default may be acceptable
for the purpose of applying the rent and profits to discharge of the mortgage debts (not to prevent impairment of their security).  Even if the deed of trust grants a reasonable right of entry for inspection, the entry must be reasonable and securing the property without need will not be allowed.
4.  Even if the mortgagee has the right to take possession, he should consider his rights
and liabilities before doing so – duty to maintain and preserve the property.  Until the mortgagee has foreclosed, however, he is not the owner and must act with due regard to the interests of the junior encumbrancers and the holder of the equity of redemption.
5.  Dover Mobile Estates v. Fiber Form Products, Inc. (Cal. 1990): A lease providing
itself to be subordinate to any encumbrances shall be terminated upon any foreclosure.  A lease can be subordinate by either being later in time or by contract.  Lessee interests are particularly important if the lessee is a commercial business.
–    Leases prior to a mortgage are superior in most states because a lessee in possession is ample notice of the tenant’s rights.  They cannot be extinguished by foreclosure of the mortgage.  In title and intermediate theory states, a mortgagee can demand payment of rent from a tenant since default of a mortgage conveys title, creating a “privity of estate” link.
–    Leases that are junior to a mortgage can be extinguished by foreclosure.  In some states, it MUST be extinguished by foreclosure.  There is no privity of estate between the mortgagee and the lessee, so mortgagee cannot compel the tenant to remain and pay rent to him.  If the mortgagee wishes to continue the lease, an assignment of rents is the preferable solution.
–    Commercial lease setting:
1.    Subordination agreement
2.    Nondisturbance agreement
3.    Attornment – if title is transferred, tenant still owes the purchaser rent and terms under the lease as if he were the original landlord.
–    If there are conflicting provisions in a lease and a mortgage, if the mortgage is senior to the lease, its provision trumps the lease counterpart provision.