Copyright 2008, Blake, Cassels & Graydon LLP
Originally published in Blakes Bulletin on Real Estate Morgage Enforcement, October 2008
The mortgage security documentation and the Mortgages Act (Ontario) provide the lender with rights and remedies in the event of default by a borrower. Judicial interpretation, however, should also be considered when looking at the lender's broad enforcement rights contained in the standard form of mortgage used by most lenders.
The following summarizes the obligations of the lender when selling under private power of sale.
- The lender is not a trustee of a power of sale for the borrower. The lender is entitled to have regard primarily to its interest; however, the lender is not at liberty to have regard solely to its own interests or to sacrifice the mortgaged property.
- In exercising a power of sale, the lender is required to act bona fide and take reasonable precautions to obtain a proper price.
- The lender need not delay the sale in the hope of an improvement in market conditions; however, in one case, it was held that the lender has an obligation to mitigate its loss by selling an asset sooner rather than later.
- The lender has an obligation to behave as a reasonable person would behave in the realization of its own property.
- The lender is required to give due consideration to the best means of publicizing the sale of the mortgaged property, whether through newspapers, trade journals or multiple listing services.
- The lender should put up a "for sale" sign at the mortgaged property.
- The sale of the mortgaged property by the lender at a price just sufficient to cover the amount of outstanding mortgages on the mortgaged property may, in certain circumstances, amount to a "reckless disregard of the borrower's interests".
- After having obtained appraisals, the lender must keep the market value set forth in the appraisals in mind as a benchmark and must not disregard the appraisals and accept an offer well below the appraised value.
- If the sale yields funds in excess of the amount owed under the mortgage, the lender must hold the surplus in trust for the borrower or subsequent encumbrancers.
In view of the foregoing, although the lender is not a trustee, the lender has obligations imposed upon it approaching those of a fiduciary and what may appear to be an advantageous sale to the lender may not stand up to court scrutiny at a later date.
Regardless of the price, the lender cannot sell the mortgaged property to itself. However, in the absence of fraud, a subsequent encumbrancer may purchase the mortgaged property from the first lender and, in so doing, acquire absolute title in the same way as would an arm's-length third party purchaser. A borrower may also purchase from the lender, but such a purchase operates only as a redemption of the first mortgage, and the borrower cannot set up such a purchase against its second-ranking lender. One co-borrower may purchase the lands from the lender as long as the exercise of the power of sale is bona fide. Where a lender sells to an independent corporate purchaser in which the lender has an interest, the lender has an additional onus of establishing the fairness of the transaction and the transaction is voidable at the instance of the borrower if the lender fails to discharge such onus. A mortgage sale to a lender's brother and a sale to the lender's spouse have been upheld by the courts.
Generally speaking, appraisals are very useful in establishing the market value of the mortgaged property. If the price at which the mortgaged property is sold is contested, the lender's position can be defended on the basis of the appraisals.
When retained, the appraiser should be fully informed as to the nature of the mortgaged property, including the legal description, available financing, zoning, particulars of rents, easements and legal restrictions.
The appraisal obtained should include a reference to the uses to which the mortgaged property may be put, the appearance of the mortgaged property and the approximate costs of putting the mortgaged property into a marketable condition, where appropriate.
In obtaining appraisals, the appraiser should be instructed to determine an appraised value based on the "true market value". An appraisal made on the assumption that a sale would take place as a "fast sale" occurring within 60 to 90 days is not appropriate.
In general, two appraisals appear to be satisfactory, as long as they both independently come to approximately the same market value. After the appraisals have been received, it may be prudent to advise the borrower and subsequent encumbrancers of the market value set forth in the valuations and indicate the lender's intention to proceed to list the mortgaged property through a multiple listing service, with an asking price of approximately five to 10 per cent in excess of the higher or the average of the two valuations obtained.
Listing Agreements and Offers
Unless specifically permitted to do so in the mortgage, the lender should not list the mortgaged property for sale with its own real estate division or affiliate.
The lender should instruct the listing real estate brokers that, wherever possible, all offers should provide for a period of at least five to seven days for acceptance. Additionally, the lender's solicitor should confirm that the mortgage permits a sale by credit before allowing the lender to enter into a listing agreement specifying a willingness to take back a mortgage as part of the consideration relating to the purchase and sale transaction. The listing should make reference to the mortgaged property being sold under power of sale. The agreement of purchase and sale should include an acknowledgement by the purchaser that the lender is selling the mortgaged property pursuant to a mortgage registered in favour of the lender.
The lender is not entitled to enter into an agreement of purchase and sale for at least 35 days after the notice of sale has been given. The execution of an agreement of purchase and sale by the lender has been held to contravene Section 42 of the Mortgages Act (Ontario) as a "further proceeding" during the notice period, even if the agreement is conditional upon non-redemption by the borrower.
The purchase agreement should not include the usual phrase which obligates the seller to discharge any existing mortgages. The clause should be confined to prior encumbrances only, unless agreed to be assumed by the purchaser as a part of the transaction. In a power of sale, subsequent encumbrances are extinguished by operation of law and, accordingly, there is no need for the lender to impose on itself a positive obligation to discharge subsequent encumbrances. Furthermore, the mortgage under which the mortgaged property is being sold is not discharged. Care should also be taken to include in the purchase agreement as "permitted encumbrances" any restrictive covenants and easements which the lender is unable to extinguish as a result of the power of sale.
Special thought should be given to adjustments for arrears in realty taxes, condominium expenses, utilities and arrears under prior mortgages. From the lender's point of view, it would be preferable not to advance any further funds and to have these items adjusted on closing or, alternatively, paid out of the proceeds due on closing.
Unless the lender has additional security charging the chattels on the mortgaged property, the usual chattels clause and any references to chattels should be deleted from the purchase agreement.
The purchaser will generally require vacant possession of the mortgaged premises on closing. If the lender has taken possession of the mortgaged property, the lender will be in a position to promise this. If the lender has not taken possession, the agreement should contain provisions in favour of the lender for appropriate extensions of the closing date if the lender is unable to obtain possession of the mortgaged property by the closing date.
When an offer is received, it may be prudent from the lender's point of view – if time permits – to advise the borrower and subsequent encumbrancers of the offer and its particulars and to indicate that the lender is prepared to accept the offer unless a compelling reason not to do so is given within a specified time.
If the mortgaged property is being sold at a price less than the amount owed on the mortgage, it would be advantageous for the lender to leave open the right of the borrower to redeem until the closing date.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.