Power of Sale - Pros and Cons
In a mortgage contract, the power of sale is the lender's right to sell the mortgaged property if the borrower fails to pay their debt on time. In this context, power of sale property is referred to any real estate that has been put up for auction so that it may be sold to the benefit of the lender. However, not all sale proceeds must go to the mortgagee - if there is any sum remaining after the satisfaction of the debt, it will be granted to the debtor. For example, if a property is sold at $100 000, and the debt to be returned is only $60 000, after the subtraction of the auction sale costs, let’s say $5 000, the borrower will receive $35 000 from the sale of their property.
Although the power of sale is most often part of mortgage documents (in which case it is called contractual power of sale), this needs not always be so. Thus, the Canadian Mortgages Act considers a second type of power of sale, which is not included in the mortgage contract but can still be exercised if the mortgagor has defaulted for a period of three or more months.
Both of these types are started in the same way - the holder of the power of sale sends a notice to the borrower and any other interested party (subsequent encumbrances, statutory lien gilders, etc.) after 15 days of the default have passed.
In the relevant Canadian legislation, the power of sale coexists and serves as an alternative to another practice for mortgage debt satisfaction, the judicial sale, from which it differs in three key aspects:
• The extent to which the court is involved is different. In the power of sale procedure, there is virtually no involvement on the part of court i.e. upon default, the lender can declare the mortgaged property for sale, without first having to make a court appeal. With the judicial sale, on the other hand, the court is a part of the whole debt recovery process: it orders the property to be sold, confirms its sale, and hears any application for a deficiency judgment;
• The power of sale and judicial sale differ in the manner of initiation. Whenever there is an applicable power of sale, sending a notice to the borrower is enough to start the sale of their property. However, upon a judicial sale clause, a lawsuit against the defaulting party must be filed before any further action takes place;
• The way in which a deficiency judgment is sought is different in both mortgage debt satisfaction practices (the deficiency judgment is a ruling which confirms that the sale of the mortgaged property was not enough to fully satisfy the mortgagee). If there is a power of sale, the mortgagee must start an action after the sale, whereas with a judicial sale, the deficiency judgment is a part of the main action, i.e. the suing of the borrower.
Real estate buyers have somehow been conditioned to think that buying a property listed under a power of sale arrangement represents an opportunity for a real deal.
I’ve noticed some REALTORS® capitalizing on this belief by advertising special websites to find out about these listings and, I’ve seen REALTORS® advertising the power of sale status right in their property ads for a listing. The truth is, it does make the phone ring. But should it?
While there are different remedies a lender can access when there is default on a mortgage loan, the most common one by far in Canada is where lenders exercise their right – that is their power, to sell a property when default has occurred. After following a strict prescribed set of rules about notice to the home owner and other interested parties, lenders can use their power to sell the property. Note, they do not take ownership.
What many buyers don’t know is that the homeowner who defaulted is still responsible for any shortfall in the balance of the debt owing. That’s right: A lender who sells a property for less than the outstanding debt, may sue the owner of the property for the shortfall.
And here’s the rub: The owner of the property may sue the lender if they can prove that the sale was made for less than the value of the property.
So, the lender has an obligation to sell the property for fair market value or, they risk being sued by the homeowner. Unlike the homeowner, the lender does not have emotional discretion or motivation. The lender will have had property appraisals done and this will become the guideline for them as it is justifiable in a court of law. If a property is not then sold for that amount or more in a reasonable period of time, they may begin to slowly reduce the price in small increments until a sale occurs.
For a buyer, this means that while they may feel they got a “deal,” chances of this are about the same, or sometimes worse than with an owner sold property.
Beyond price, there are other potential risks or downsides buyers should be aware of. Almost all lenders have their own schedules of terms that must be included in any Agreement of Purchase and Sale. For instance, in no cases will they give any warranties with respect to the condition of the property. Heck, they have usually not even seen it! They can also not include any chattels such as appliances or window coverings that may be present in the property as they have no claim on the ownership of those. They may be there on the closing date or maybe not. The schedule usually also includes something a bit scary for buyers and that is, a right of redemption by the owner. This means that at any time, the owner can bring the mortgage back into good standing in which case the sale is called off. In reality, this very rarely happens as the home owner would have mounting legal costs associated with the power of sale proceedings that they would also need to pay.
In any case, I would always recommend that potential buyers of these properties should speak with their lawyer about the contract. No one else, including a REALTOR®, is qualified to give you legal advice.
There are things that you can do to reduce your risk including have a home inspection, making enquiries with the municipality about outstanding work orders, zoning or pending special assessments, checking health unit records for information about wells and septic systems if it is a rural property, performing a search of title for surveys or other pertinent documents and so on. Your REALTOR® and lawyer should be your partner in this fact-finding mission.
A short discussion on Power of Sale and Foreclosure in Canada
Unfortunate end of a mortgage - When a borrower fails to meet his or her mortgage commitments then the lender may consider the borrower to be in default. The lender then can start taking certain actions as defined in Law. Following are an outline of what happens. It is better that you seek legal advice if you need proper information on these matters.
In Ontario it is mostly Power of Sale process which is enforced. The details are generally defined in the standard charge terms. In the United States you would often read in the news, lenders are taking action of foreclosure. In Canada usually it is to sell the property under Power of Sale. While both are fairly complicated legal process there are significant differences between them.
Below are the descriptions of both
Power Of Sale
Power of Sale is a provision which allows the lender the power to sell the property when the borrower defaults the mortgage. In this process the ownership changes hand after the sale is complete. When selling by Power of Sale, the lender will still have some obligations to the mortgagor. When selling under Power of Sale the following may occur:
- Ownership: The ownership of the property does not change hands till the subject property is sold.
- Use of a relator: A relator may be used depending upon the jurisdiction.
- Proceedings goes to the owner: Extra money is given back the homeowner, in case of a shortfall the owner is responsible.
- No Fire Sale: The sale is normally done fast but no fire sale. The offers from the buyers should be carefully examined. The homeowner may request an accounting.
- Default Insurence Claim: The lender may not be able to get the full money back. If the property in insured against default then the lender can make a claim and the insurer will pay the lender and sue the homeowner for that amount.
Foreclosure is a legal proceeding where a lender gets a court order to takeover the property. There are strict rules of foreclosure. In a foreclosure ownership goes to the lender. The title to the property is registered in the name of the lender who accepts the property as a full payment of the loan. In a foreclosure sale the following are generally observed.—
- Ownership: The lender becomes the owner
- Price is not important: Lender pay less attention to the price.
- No negotiations required: The lender does not need to negotiate with prospective buyer.
- Profit or loss all to lenders: Any extra money belongs to the lender, so as any loss.
- Rights: The mortgagor has the right to have the property sold by judicial sale.
- Right of owner is limited: The owner may request for an accounting before the final order for foreclosure
Power of Sale
Borrower remains the title holder
Property gets transferred in the name of the lender
Property sold using a relator most of the times
Property sold in auction most of the times
Borrower remains responsible for any losses the lender may have
Borrower is no more responsible for any loss of the lender
Any extra money from the sale goes to borrower
Any extra money from the sale stays with the lender
Buying a power of Sale in Toronto?
Please read this article to learn the true facts;
I have written about power of sale properties in Toronto before and I have had an overwhelming demand by my readership to continue to touch upon this subject further.
First, let me begin by asking you a few questions. Raise your hand if you believe that when buying a power of sale that you are purchasing the property below the true market value? And second; once the purchase is in place and the deal has been negotiated between the bank and yourself that you can now call the movers and start making preparations to move into your newly purchased home once the deal is closed? Hopefully you won’t be too shocked to learn that if you raised your hand that you are absolutely in correct! Please feel free to sit down and take a moment if need be. I say this due to the fact of all the stigma that is attached with buying a power of sale in Toronto and the general public’s refusal to come to terms with the facts. The pros and cons can be discussed in great lengths and debated as well, I will start the debate by going on the record as saying “I don’t find any pros but I can see tons of cons”(please feel free to click here to read an article written by Bernie Jankowski Barrister and Solicitor) which will reaffirm my position.
As I said earlier in this article that this subject can be debated endlessly but allow me to explain in a nutshell. There are 3 main reasons to stay away from buying a power of sale in Ontario.
1. - The property must be sold at market value and NOT for the amount that is outstanding
2. - Where is As is
3. - The mortgagor’s right to Redeem
There are many differences between a power of sale and a foreclosure and this where I believe that the general public has a huge misunderstanding of those differences. Without diving to deeply into another subject that is foreclosure as this a subject entirely on its own that I will be writing about very soon. Just note this that a power of sale must be sold for true market value as the lender must oblige according to the provincial mortgage act. The mortgagor (owner) of the property has the right to any equity if any from the proceeds of the transaction. Here is an example; assume that Property “A” has a first charge with lender “A” for the amount of 300k and the subject property market value at the time the sale is being enforced by the lender is estimated at 500K. Its lender “A” responsibility to sell the property for close to 500k as the mortgagor as the right to the remaining funds from the sale, in this easy example that amount would be 200k. Now assume that lender “A” sold the property for just the outstanding loan amount plus its costs to enforce the sale then the mortgagor (owner) of the property would have the right to seek damages from the lender. It’s also important to note that Canadian banks are in business to earn a profit and that they are not seeking to profit from anyone’s misfortune. Lenders do not like bad PR (public relations) this is one of many reasons why Canadian banks opt to power of sale a property rather then foreclose as their counter parts do south of the border.
Where is, As is- This is a term that you will hear more often than not when dealing in this type of transaction and it simply means that the lender will not warrant anything regarding the state of the property from the time you see it to the time of possession. A simple example of As is would be; assume that the property is furnished with appliances at the time the submits an offer to purchase, and on the date of closing those appliances are no longer on site at the time of possession even though they were included in the agreement of purchase and sale. In this instance then the buyer is out of luck, so I hope the buyer has taken into account that their budget hopefully included new appliances.
The mortgagor always has rights, and one of those rights is the RIGHT TO REDEEM! In the event that owner of the property has come up with the necessary funds that are in default then they can take the property back from the lender. The mortgagor has this right throughout the process but loses its right to redeem if the lender has entered into a binding agreement of purchase and sale agreement with a buyer. This is when it can become very tricky! Most lawyers that I have spoken with about this subject agree that this is how they interpret the act, and I stress most lawyers. Some lawyers argue that the right exists up to the moment of closing on an accepted agreement of purchase and sale. My opinion is through tons of real life situations that the mortgagor has indeed lost its right once the property has been sold, but here is the twist. Remember when I stated that banks do not like bad PR? Well this is why any reputable lender would allow the mortgagor the right to redeem up until the very last moment possible.
So if you’re one of those buyers that have bought a power of sale and have yet to complete the transaction, don’t call the moving company until you actually have the keys in your hand, and make sure you have a backup plan in the event the mortgagor does in fact redeem!
Remember that as a buyer you are negotiating with the bank for the purchase of the property and not the property owner! And the bank has a legal obligation according to the provincial mortgage act to sell