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In this article, the authors review some key considerations when financing digital mortgage assets, review the status of a financing party of electronic versions of home equity lines of credit as opposed to electronic versions of traditional home mortgage loans, and review some of the opportunities presented by the 2022 Uniform Commercial Code amendments as they relate to the financing of digital mortgage assets.
MORTGAGE LENDING AND THE DIGITAL TRANSFORMATION
For reasons going back to 17th Century English law and the Statute of Frauds, mortgage lending in the United States traditionally has been a business transacted and recorded on paper. Financing of mortgage assets therefore has been premised in part upon the existence and content of those papers: what do they say, who signed them, and where are they now? This has been important both for traditional home mortgage loans (comprised of a promissory note and a mortgage1 ) and for home equity lines of credits, or HELOCs (comprised of a line of credit agreement and a mortgage). To maintain focus on the largest portion of originations, this article will focus on these traditional home mortgage loans and HELOCs, and leave for another day a discussion of the interesting variants that have emerged, including home equity investment contracts of various types.
More recently, mortgage lending – and therefore financing of mortgage assets – has been undergoing a digital transformation as more lenders and borrowers opt for electronic versions of mortgage loan documents. An earlier article by two of the authors2 looked at the background of these developments, but to recap briefly they are grounded in the statutory enforceability of electronic contracts provided by the laws3 on electronic transactions known as UETA4 and ESIGN.5 No mortgage lender would extend credit to a mortgagor if they were not certain that the contract memorializing that loan, or the instrument recording the lender's interest in the real estate, was enforceable. The statutory basis for enforceability therefore is the most fundamental requirement for this digital transformation. For convenience, this article refers to the electronic version of a traditional home mortgage loan as an "eNote" and the electronic version of a HELOC as an "eHELOC."
eNOTES AND eHELOCS: WHAT ARE THEY AND HOW ARE THEY CREATED?
Traditionally, homeowners in the United States have signed their mortgage documents at an attorney's or title agent's office. And while many readers will be generally familiar with the process of closing a home mortgage loan, a closer look at what happens at a closing is worthwhile as it informs an understanding of digital mortgage assets. For a traditional home mortgage loan, the homeowner will sign a promissory note that memorializes key terms of the loan including the names of the borrower and the lender, how much was borrowed, what the borrower's obligations are for payments of interest and principal, and details of the property that is to secure the loan. The homeowner will also sign a mortgage, the effect of which is to grant the lender a lien on the homeowner's land and improvements (i.e., the home), and which typically contains other agreements by the mortgagor such as those relating to obligations to pay property taxes and maintain hazard insurance for the benefit of the lender, and to ensure the lender's lien priority on the real estate. The mortgage must be notarized – that is, a notary public confirms the identity of the person signing the document, and seals the document accordingly with his or her stamp and attesting to the due notarization. After the closing, the promissory note is shipped to the lender's document custodian by the closing agent, along with a copy of the mortgage, and the mortgage is submitted by the closing agent for recordation in the local land registry. Once the mortgage has been recorded, the original or a copy of the document showing the title office's stamp or other evidence of recordation is returned to the lender's document custodian.
Note the role of the closing agent and the benefit of having all parties in the same office at the same time: all of the documents are signed, the notary public is present and able to undertake his or her role, and the documents can be collected and managed by the closing agent on behalf of the mortgage lender.
How to translate those integrated processes into a digital closing? Amid all the misery and instability it caused, the COVID 19 pandemic fueled a strong move towards transacting business in ways that minimized personal contact and, specifically in the context of mortgage lending, a movement by 49 of the 50 states to allow for remote online notarization, or RON.6 This move to RON in particular, combined with the availability of vendor platforms with easy to follow user interfaces and back end integration to data vaults, has allowed for a wider adoption of digital closings. An eNote closing now mimics a traditional closing, as shown in Table 1.
Table 1
| Traditional Paper Closing | Electronic Closing |
| All parties go to the office of the lender's closing agent | All parties use an online closing platform arranged by the lender |
| Borrowers sign an original promissory note | Borrowers electronically sign a promissory note |
| Borrowers sign an original mortgage | Borrowers electronically sign a mortgage |
| The mortgage is notarized by inspecting the borrowers' ID and the notary applying a seal to the mortgage | The mortgage is notarized by RON, which requires inspecting the borrowers' ID and the notary electronically applying a seal to the mortgage |
| Documents are collected by the closing agent. The original promissory note is shipped to the lender's custodian. The mortgage is submitted by the closing agent for recordation, either electronically or in person, depending on the jurisdiction | Documents are automatically encrypted and uploaded to a data vault. The promissory note is available for inspection by the lender's custodian but remains in the data vault. The mortgage is submitted by the closing agent for recordation, either electronically or in person, depending on the jurisdiction |
An eHELOC closing is essentially the same, except that instead of a promissory note being electronically signed, the line of credit agreement is electronically signed. There are, however, key differences between eNotes and eHELOCs, and some of these will be identified and discussed in more detail below.
Footnotes
1 In some states, a deed of trust rather than a mortgage is used to perfect an interest in real estate. Although there are differences in form between the two approaches, in substance they have the same effect and accordingly for the sake of simplicity we will use the term "mortgage" to indicate the applicable state law security instrument, regardless of whether it is in the form of a mortgage or a deed of trust.
2 The Promise and Potential of Blockchain and New UCC Article 12, 141 BANKING L.J. (Apr. 2024).
3 New York has its own law relating to electronic transactions, known as the Electronic Signatures and Records Act or "ESRA." ESRA, and the published regulations thereunder, work differently from the mechanisms in UETA and ESIGN that are the subject of this article, but under New York Law 9 CRR-NY 540.5 "[a]n electronic record used by a person shall have the same force and effect as those records not produced by electronic means." Therefore, with some exceptions that are outside the scope of this article, New York has a statutory basis of enforceability for electronic contracts that mirrors UETA and ESIGN.
4 Published in Official Text by the Uniform Law Commission in 1999, and subsequently adopted in 49 of the 50 states (with variations in some cases).
5 The Electronic Signatures in Global and National Commerce Transactions Act (codified at 15 U.S.C. §§ 7001-31).
6 A review of RON is beyond the scope of this article, but as of the time of writing, only Georgia had no provision for RON.
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Originally published by The Banking Law Journal
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