Mortgages/security devices - Application of subrogation and suretyship principles

Learning Outcomes

After reading this article, you will be able to explain how subrogation and suretyship principles apply to mortgages and security devices. You will understand when subrogation arises, the rights of sureties and guarantors, and how these doctrines affect mortgage priorities and enforcement. You will be able to apply these rules to MBE-style questions involving mortgage refinancing, payment by third parties, and disputes between lenders.

MBE Syllabus

For the MBE, you are required to understand how subrogation and suretyship principles affect the rights and priorities of parties involved in mortgages and security devices. This includes:

• Recognizing when subrogation arises in mortgage and security contexts.
• Identifying the rights of sureties and guarantors upon payment of a debt secured by a mortgage.
• Determining the effect of subrogation and suretyship on mortgage priorities and enforcement.
• Applying these doctrines to disputes between original and subsequent lenders, mortgagors, and third parties.
• Understanding the impact of payment, refinancing, or discharge by a third party on the enforceability and priority of security interests.

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

1. Which party is entitled to subrogation after paying off a prior mortgage on a property?
   1. The mortgagor
   2. A subsequent lender who pays off the prior mortgage to protect its own security interest
   3. The original mortgagee
   4. A volunteer with no interest in the property
2. If a surety pays the debt secured by a mortgage, what is the surety’s right regarding the mortgage?
   1. The surety is discharged from all obligations
   2. The surety is subrogated to the rights of the mortgagee
   3. The surety has no claim on the mortgage
   4. The surety must file a new mortgage
3. When does equitable subrogation most commonly arise in mortgage law?
   1. When a mortgagor pays off their own mortgage
   2. When a third party pays a mortgage to protect their own interest
   3. When a mortgagee assigns the mortgage to another lender
   4. When a mortgage is foreclosed

Introduction

Subrogation and suretyship are equitable doctrines that play a significant role in mortgage and security device law. These principles determine who may enforce a mortgage after payment by a third party, how priorities are affected, and what rights a surety or guarantor acquires after satisfying a secured debt. Understanding these doctrines is essential for resolving disputes between lenders, mortgagors, and third parties on the MBE.

Key Term: Subrogation The substitution of one party for another, allowing the paying party to assert the rights and remedies of the original creditor, especially after paying a debt secured by a mortgage.

Key Term: Surety A person or entity who agrees to be responsible for another’s debt or obligation if the primary obligor defaults, and who may have rights against the debtor or security after payment.

Types of Subrogation in Mortgages

Subrogation in mortgage law most often arises in two contexts: (1) when a subsequent lender pays off a prior mortgage to protect its own security interest, and (2) when a surety or guarantor pays the debt secured by a mortgage.

1. Equitable Subrogation

Equitable subrogation allows a party who pays off a prior mortgage (to protect their own interest) to step into the shoes of the original mortgagee. This prevents unjust enrichment of the debtor and preserves the priority of the original mortgage for the paying party.

• Most commonly, a refinancing lender who pays off an existing mortgage is subrogated to the rights and priority of the paid-off mortgage, unless doing so would prejudice intervening interests.
• Subrogation is not available to a mere volunteer who pays the debt without any interest to protect.

2. Legal Subrogation (Suretyship)

When a surety or guarantor pays the debt secured by a mortgage, the surety is subrogated to the rights of the mortgagee. The surety may enforce the mortgage against the debtor or claim reimbursement.

• The surety may foreclose the mortgage or require the debtor to repay the amount paid.
• The surety’s rights are limited to the extent of payment and subject to any defenses the debtor could have asserted against the original creditor.

Priority and Subrogation

Subrogation can affect the priority of security interests. If a subsequent lender pays off a prior mortgage, the lender may claim the same priority as the paid-off mortgage, even if there are intervening junior liens, unless those junior lienholders would be prejudiced.

• Courts may deny subrogation if the paying party had actual knowledge of intervening liens and intended to take a new mortgage with lower priority.
• Subrogation is favored to prevent unjust enrichment and to fulfill the reasonable expectations of the parties.

Suretyship and Security Devices

A surety who pays a debt secured by a mortgage is entitled to enforce the mortgage against the debtor. The surety may also seek reimbursement or indemnity from the debtor.

• If the surety is compelled to pay, the surety may use the mortgage as security for repayment.
• The surety’s right to subrogation arises automatically upon payment.

Worked Example 1.1

A homeowner borrows $200,000 from Bank A, secured by a first mortgage. Later, the homeowner borrows$50,000 from Bank B, secured by a second mortgage. Bank B pays off Bank A’s mortgage to protect its own interest. What is Bank B’s position?

Answer: Bank B is subrogated to the rights and priority of Bank A’s mortgage. Bank B may enforce the mortgage as if it were Bank A, and its interest takes priority over any junior liens that arose after Bank A’s mortgage but before Bank B’s payment, unless subrogation would prejudice those junior lienholders.

Worked Example 1.2

A company’s debt is guaranteed by a surety. The company defaults, and the surety pays the debt, which was secured by a mortgage on the company’s property. What can the surety do?

Answer: The surety is subrogated to the rights of the mortgagee and may enforce the mortgage against the company to recover the amount paid. The surety may foreclose the mortgage or require reimbursement from the company.

Exam Warning

Subrogation is not automatic for a volunteer who pays a mortgage without any interest to protect. Only parties with a legal or equitable interest—such as subsequent lenders or sureties—are entitled to subrogation.

Revision Tip

On the MBE, always identify whether the paying party had an interest to protect. If so, subrogation is likely; if not, subrogation will usually be denied.

Key Point Checklist

This article has covered the following key knowledge points:

• Subrogation allows a party who pays a mortgage to assert the rights of the original mortgagee.
• Equitable subrogation most often benefits subsequent lenders or parties with an interest to protect.
• Sureties who pay a debt secured by a mortgage are subrogated to the mortgagee’s rights.
• Subrogation can preserve the priority of the paid-off mortgage for the paying party.
• Subrogation is not available to mere volunteers.
• Sureties may enforce the mortgage or seek reimbursement from the debtor after payment.

Key Terms and Concepts

• Subrogation
• Surety