What Is the Difference Between a Legal and an Equitable Mortgage?

A legal mortgage is a formal mortgage or deed of trust: a signed document that pledges your home as security for a loan, meets your state's legal requirements, and is normally recorded in the county land records. An equitable mortgage is a transaction that is not a proper mortgage on paper, such as a deed that looks like a sale or a mortgage with a signing defect, but that a court treats as a mortgage because the parties meant the property to secure a debt. In both cases the borrower can keep the property by paying the debt, and the lender has to foreclose to take it; the difference is that an equitable mortgage usually has to be proven in court first.

What makes a mortgage "legal"?

In the United States, a home loan is secured by a mortgage or a deed of trust, a similar document that names a trustee who can sell the home if you default. It becomes a legal mortgage when it is in writing, signed, and properly executed under state law. The lender then records it with the county. For how the loan and the security document fit together, see what a mortgage is.

Recording is not what makes the mortgage binding between you and the lender. It protects the lender's place in line by telling later buyers and lenders the debt exists. Under New York's recording law, for example, an unrecorded conveyance loses to a later buyer who pays value in good faith and records first.

A legal mortgage also spells out the lender's remedies. Many deeds of trust contain a power of sale, which lets the trustee sell the home without a lawsuit after a default if the state allows it. California's Civil Code section 2924 permits that kind of sale, subject to notice and timing rules. In states or loans without a power of sale, the lender files a foreclosure lawsuit; see the steps in a judicial foreclosure.

What is an equitable mortgage?

State law and court decisions recognize several common patterns:

• A deed given as security. You sign a deed transferring your home to someone who lends you money, with an understanding that you get the home back when you repay. Florida Statutes section 697.01 says any conveyance made to secure the payment of money is a mortgage and is subject to the same foreclosure rules. New York Real Property Law section 320 says a deed that appears to be intended only as security must be treated as a mortgage, even though it reads as an outright sale. California law says the same of any transfer made only as security.
• A sale and leaseback. You sell the home to an investor and rent it back with an option to buy it back, often to stop a foreclosure. If the evidence shows the deal was really a loan secured by the home, the same laws let a court treat the investor as a lender holding a mortgage. The Federal Trade Commission warns that "rescue" deals asking you to sign over the deed are a common scam, that the transfer does not remove your existing mortgage, and that the buyback terms are often unaffordable.
• A defective mortgage. The California Supreme Court held in Coast Bank v. Minderhout that if a mortgage or deed of trust is defectively executed, an equitable mortgage will be recognized, and that the document does not have to use the word "security" if the parties' intent to create one is clear. The court in that case affirmed a judgment ordering foreclosure and sale of the property.

How do the lender's rights and foreclosure differ?

There is an extra issue to prove. With a legal mortgage, the security is already in writing, and the lender follows the foreclosure steps your state sets for a court case or an out-of-court sale. With an equitable mortgage, someone first has to ask a court to declare that the transaction was a loan secured by the property, and the other side can dispute it.

Foreclosure goes through a court. Once a court finds an equitable mortgage, the lender's remedy is foreclosure, not simply keeping the property. In Coast Bank, the remedy was a court-ordered foreclosure sale. A lender holding only an equitable mortgage has no recorded power of sale to use for an out-of-court sale.

The borrower keeps the right to redeem. Because the deal is treated as a mortgage, you can generally keep or recover the home by paying what you owe before the foreclosure is complete. See what redemption is for how that right works and when it ends.

Later buyers can cut off the claim. Florida's statute says a security deed is not treated as a mortgage against a buyer or lender who paid value without notice of the arrangement. New York's section 320 says the person holding a security deed gets no benefit from recording it unless the written agreement showing it is only a mortgage is recorded with it. If the person who took your deed sells or borrows against the home, act quickly.

What to do if this applies to you. Keep every document and payment record from the deal, and talk to a real estate attorney in your state before the other party sells, borrows against, or tries to evict you from the home. A HUD-approved housing counselor can help with the underlying mortgage.

What does "registered mortgage" mean?

The term comes from countries where land ownership is recorded in a central government register rather than by recording deeds in county offices. In England and Wales, a legal mortgage of a freehold is made by "a charge by deed expressed to be by way of legal mortgage" under the Law of Property Act 1925. If the land is registered, the Land Registration Act 2002 says the charge does not operate at law until it is registered with HM Land Registry. A registered charge is the legal mortgage there. Until registration is complete, the lender does not hold a legal mortgage, so its position is weaker than a registered lender's.

U.S. readers can treat "registered" as roughly equal to "recorded," though county recording works differently from a central title register. If you hold property in another country, check that country's land registry rules for what makes a mortgage registered.

For the conventional loan rules that apply once a mortgage is in place, see the requirements of a Fannie Mae or Freddie Mac loan.