What Do Mortgage Covenants Mean?
Given the relative high price of a home, it’s no surprise that many buyers make use of mortgage loan to enable their purchases. In real estate, a person taking out a mortgage loan is known as the mortgagor while the entity making a mortgage loan to a borrower is known as the mortgagee. When mortgagors take on their mortgage loans they must also make certain guarantees to their mortgagees, known as “covenants,” to receive their loans.
Covenants as Mortgagor Guarantees
The term “covenants” is a part of the conveyance of real estate when a buyer purchases real property, such as a home, using a mortgage loan. Mortgage loan contracts require mortgagors to covenant, or guarantee, certain items to their mortgagees or lenders. For instance, mortgage borrowers are required to guarantee that they will lawfully own the properties, that they have the right to mortgage the properties to obtain their loans, and that no competing title claims exist.
Covenant Enforcement and Loan Covenants
A covenant or guarantee in a mortgage is held by law to have “full force, meaning and effect,” and it is legally enforceable between a mortgage contract’s signatories. A different type of mortgage covenant is also frequently referred to as a “loan covenant,” and most types of formal loans contain them. Loan covenants in a mortgage allow the lender to set out specific rules a borrower must follow in order to keep the loan from being foreclosed, for example.
What Does Mortgage Covenants Mean?
The mortgage document is a contract between you and your lender — with your home hanging in the balance. It is important not only to read, but to understand the mortgage covenants. If you violate them, intentionally or not, the lender can declare the loan in default, leaving you out on the street.
Affirmative covenants are actions you promise to perform during the term of the loan. First and foremost, you agree to pay the loan. That’s a given. You will pay your taxes and keep the property in good condition. You will keep a current insurance policy in the amount of the loan naming the lender as mortgagee. If you own the property under a business, such as under an LLC, you will maintain operations or notify the lender when you stop. You will also let the lender know immediately of any judgments, liens or pending litigation. You will also provide updated financial information as requested, to show that you can still pay the loan.
The opposite end of the spectrum, negative covenants describe what you agree not to do. You will not sell or transfer ownership of the property without the bank’s knowledge and consent. If the bank inserts a negative borrowing pledge, you can’t get any other loans using your house as collateral. In the case of a business, you will not make any loans or advances to a person or business without consent. You also agree not to let your the ratio of your income to your debt payments fall below a certain level. In other words, you’re agreeing not to borrow more than the lender is comfortable with.
Loan covenants, both affirmative and negative, are outlined in your loan documents, specifically the mortgage and loan agreement. Each type will be covered in its own section. For example, Section 3 will be “Affirmative Covenants.” Section 3.1 will be “Promise to Pay.” The text will detail the terms of payment under the loan. It will continue in this format in naming all the covenants. It is important to read and understand the covenants before signing the document. Once you sign, it is essentially written in stone and can’t be changed without approval from the lender.
If you violate a covenant, the lender informs you in writing. Depending on the severity and scope of the violation, it may even declare the loan in default. If you are in violation of a covenant, it is important to contact your loan officer immediately to work out a plan to cure the violation. For example, if you’ve become delinquent, you may need a temporary reduction or postponement in payments to bring the loan current. Whatever the case, be willing to work with the lender or you can end up out on the streets after it forecloses.
Covenant Legal Definition:
A written document in which signatories either commit themselves to do a certain thing, to not do a certain thing or in which they agree on a certain set of facts.
Related Terms: Restrictive Covenant , Quiet Enjoyment
In Wein II, Justice Beasley of the Court of Appeals of North Carolina adopted these words:
“The word covenant means a binding agreement or compact benefiting both covenanting parties.
“Covenants accompanying the purchase of real property are contracts which create private incorporeal rights, meaning non-possessory rights held by the seller, a third-party, or a group of people, to use or limit the use of the purchased property.
“Judicial enforcement of a covenant will occur as it would in an action for enforcement of `any other valid contractual relationship.”
The person extending a covenant is called a covenantor and the receiver, a covenantee.
They are very common in real property dealings and are used to restrict land use such as amongst shopping mall tenants or for the purpose of preserving heritage property.
For example, a covenantor to a mortgage commits himself to pay the mortgage if the mortgagor defaults. A person buying a property may find that there is a covenant prohibiting dog ownership on title.
In Patch, Justice Burgess of the Supreme Court of Vermont made the very useful distinction as follows:
“Covenants are agreements or promises of two or more parties that something is done, will be done, or will not be done, and are characterized by the type of burden they impose: an affirmative covenant calls for the covenanter to perform an act, while a negative covenant requires the covenanter to refrain from performing one.
“Negative covenants that limit the uses that can be made by the owner or occupier of land are also called restrictive covenants.”