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PROPERTY: Vendor's Purchase-Money Mortgage Priority over Third-Party Purchase-Money Mortgage

The Lawletter Vol 36 No 2, September 30, 2011

Alistair Edwards, Senior Attorney, National Legal Research Group

A "purchase-money mortgage" is a mortgage given to a vendor of real estate or to a third-party lender to the extent that the proceeds of the loan are used to acquire title to the real estate or construct improvements on the real estate.

In real estate transactions, it is common for a vendor of real estate to convey title to the purchaser, receive part of the purchase price in cash, and take back a mortgage on the real estate to secure a promissory note for the balance of the purchase price.  Such a mortgage is frequently referred to as a "vendor purchase money mortgage."  In an alternative and more common form of the transaction, third party institutional financing is used to "cash out" the vendor. In this situation, the vendor receives part of the purchase price in cash from the purchaser and the balance in cash from a third party lender who takes the purchaser's promissory note secured by a mortgage on the purchaser's newly acquired real estate.  This type of mortgage is usually termed a "third party purchase money mortgage."  Some land transactions utilize both types of purchase money mortgages.  This section focuses on the priority accorded purchase money mortgages of either type over other liens or claims arising through the purchaser that antedate the purchase money transaction, and also on the priority relationship between the two types of purchase money mortgages.

Restatement (Third) of Property:  Mortgages § 7.2 cmt. a (1997 & Westlaw current through Apr. 2011).  According to the Restatement and the laws of many jurisdictions, "[a] purchase money mortgage, whether or not recorded, has priority over any mortgage, lien, or other claim that attaches to the real estate but is created by or arises against the purchaser‑mortgagor prior to the purchaser-mortgagor's acquisition of title to the real estate."  Id. § 7.2(b).

However, what happens with respect to priority when a borrower gives a purchase-money mortgage to a vendor and a purchase-money mortgage to a third party?  The Restatement provides that priority must be given to the vendor.

A purchase money mortgage given to a vendor of real estate, in the absence of a contrary intent of the parties to it and subject to the operation of the recording acts, has priority over a purchase money mortgage on that real estate given to a person who is not its vendor.

Id. § 7.2(c).

Recently, the Oklahoma Court of Civil Appeals in American Bank of Oklahoma v. Wagoner, 2011 OK CIV APP 76, ___ P.3d ___, followed the Restatement rule and held that in the absence of an agreement to the contrary, the vendor's purchase-money mortgage had priority over the bank's third-party purchase-money mortgage, even though the bank was first to file, where both the bank and the vendor had knowledge of each other's mortgages at the time they were executed.  There, the court commented:

The undisputed facts show that Bank and the Wagoners each made purchase money mortgages to Borrowers as part of the same transaction, both had notice of the other's mortgage, and they made no agreement for one of the mortgages to have priority.  Bank's is a third-party purchase money mortgage and the Wagoners' is a vendor's purchase money mortgage.  We adopt the rule set out in the Restatement (Third) of Property (Mortgages) § 7.2(c), which gives the vendor's purchase money mortgage priority under the facts of this case.

Id. ¶ 24.

It should be noted that other courts have rejected the rule set forth in the Restatement regarding the priority of competing purchase-money mortgages.  See Estate of Skvorak v. Sec. Union Title Ins. Co., 89 P.3d 856 (Idaho 2004) (third-party purchase-money mortgage for amount of down payment on 200-acre timber property took priority over vendor purchase-money mortgage for balance of purchase price, which was created as part of same continuous transaction, where third-party purchase-money mortgage was recorded first).

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