The Differences Between Legal & Equitable Mortgages

Legal and equitable mortgages operate in a similar fashion, but one is granted by law and one is granted in equity, or fairness. The differences between the two become most prominent in foreclosure, or when some form of dispute erupts over the property. Those with specific questions about any type of mortgage should seek legal or professional help.

The relationships in any type of mortgage are fairly similar. One party needs money, and in order to raise it, he gives a second party some sort of interest in the property he owns. The second party then keeps this interest in the property until the first party pays off his debt. The second party doesn't actually have complete ownership rights to the property, only an interest known as a "security interest" so long as the first party lives up to his side of the agreement.

A legal mortgage is one created under law. Every jurisdiction has its own statutory requirements for legal mortgages. Typically, the party offering real estate is known as the "mortgagor." The party offering money is known as the "mortgagee." In most states, the transfer of interest to the mortgagee gives the mortgagee the right to take the property only if the mortgagor fails to pay as promised. However, a few states' laws hold that a mortgage is an actual transfer of title, and the mortgagee is the legal owner of the property until the mortgagor pays off his debt.

Equitable mortgages are relationships that don't meet a jurisdiction's legal mortgage requirements. When an arrangement looks like a mortgage and smells like a mortgage, some jurisdictions' courts, known as courts of equity, will recognize the arrangement as a mortgage even though it isn't a legal mortgage. In such cases, courts will usually look for the basic elements of a mortgage: a debt from one party to another for an amount significantly less than the land is worth and some sort of promise to return the land upon payment. If the court finds these elements, the arrangement will then be treated as a mortgage under law.

Generally, the difference between legal and equitable mortgages only becomes critical when both types of mortgage exist on the same piece of property. In this situation, if the mortgagor goes into default on the loan and foreclosure proceedings begin, the legal mortgagee will have first rights to the property, ahead of the equitable mortgage-holder. Equitable mortgagees also won't have priority over an innocent (meaning, unaware of the equitable mortgage) buyer who purchases the property.