What happens if a lender returns, or reconveys, a Deed of Trust to a Borrower? Can a Borrower remain liable for an unpaid loan even if a Deed of Trust (or mortgage) is reconveyed to the Borrower?
Many years ago this question was addressed in a California court case. In that case, two partners received a loan of $1,552 from a lender. The two partners signed a Promissory Note. The partners also signed a mortgage (which is similar to a Deed of Trust). This mortgage provided the lender with a security interest in property that was owned by the partners.
The First Partner repaid $35 to the lender (and that was all that he paid). The lender then released his mortgage on the Property so that the Property could be sold. The Property was sold for $800, and this amount was paid to the lender. The Second Partner thereafter paid off the remaining loan balance through a combination of payment and providing labor. (This means the Second Partner paid about $717 to the lender). The Second Partner then asked the Second Partner for reimbursement, because the First Partner had only paid $35, but the Second Partner had paid $717.
The First Partner refused to reimburse the Second Partner, in part because the mortgage had been released. The First Partner claimed that the debt to the lender was fully discharged by the release of the mortgage, and that therefore the First Partner had no further liability on the loan.
The Court ruled that a release of a mortgage does not automatically discharge a loan. (This means a borrower can get their mortgage released, but such a borrower may still owe money to a lender unless the lender also releases the borrower from liability on the loan).
This is an old case. It might seem like $800 is a low price for a sale of property. That’s because property prices were much lower when this case was decided. The Promissory Note in this case was signed by the two partners shortly after gold was discovered in California – the Promissory Note was signed in 1850, and the court’s opinion was published in 1854. The case was decided by the California Supreme Court, and is reported as Sherwood v. Dunbar (1854) 6 Cal. 53.
The Sherwood case discusses a general principle of real estate law, but the correct application of this law to any given situation requires the kind of skills employed by an attorney. Issues regarding a release of borrower liability under a loan, a Promissory Note, a mortgage or a Deed of Trust are complex. It would be easy for borrower to misunderstand the legal principles involved in such a release or when such a release is actually effective. Lending laws and Real Estate laws are complex. Borrowers faced with questions or issues involving loans or real property security instruments should consult an attorney and a tax professional.