Lien vs. Mortgage: Asset Encumbrances Explained

A lien and a mortgage are both legal claims against a property, allowing creditors to take ownership if debts are not repaid. But there are some key differences that homeowners and buyers should understand.

The main difference between a lien and a mortgage lies in their purpose and process. A mortgage is a specific type of voluntary lien used to finance real estate purchases, involving extensive bank underwriting. In contrast, general liens can secure various debts and can be imposed with less process, either voluntarily or involuntarily.

What is a Lien?

A lien is a legal claim or charge against an asset, often real estate or a vehicle, to secure repayment of a debt. The lien attaches to the property as collateral until the underlying financial obligation is satisfied. 

Liens can be voluntarily granted or involuntarily imposed. For example, a mechanic’s lien is placed on a vehicle when auto repairs are completed but not yet paid for. This “involuntary” lien gives the mechanic legal rights over the vehicle as incentive for the customer to pay the bill.

On the other hand, homeowners often voluntarily grant lien rights on their property when taking out a mortgage loan. This gives the bank recourse if the borrower defaults on payments.

What is a Mortgage?

A mortgage is a very common type of voluntary lien used to purchase real estate. The mortgage lender provides financing for the buyer to cover the home purchase price, and in exchange, the buyer grants the lender a lien against the property. 

This lien gives the mortgage lender the legal right to foreclose and sell the home if the borrower fails to repay the loan. For the borrower/homeowner, the mortgage provides access to financing that allows them to buy and live in the property.

With 88.5 million residential mortgages in the United States, mortgages are the most prevalent type of lien for homeowners. The average mortgage balance is $436,700, according to Federal Reserve data.

How Does a Lien Work?

When a lien is registered against a property, it appears on the title records and essentially transfers legal ownership rights from the borrower to the creditor. If the borrower satisfies their debt obligation, the lien is released and clear title/ownership is fully restored. 

But if the debt goes unpaid, the lien empowers the creditor to seize and sell the property through foreclosure to recover what they are owed. Lien positions are prioritized – those registered earlier get repaid first.

For example, if a home has a mortgage lien and a separate mechanic’s lien, the mortgage holder has first claim on any foreclosure sale proceeds.

How Does a Mortgage Work?

A mortgage lien works the same way, securing repayment of the loan used to purchase the home. When the mortgage is in place, the lender holds the legal title while the borrower maintains ownership rights by making timely payments.

This continues until the 30-year loan balance is fully paid off, at which point the lender releases their lien and the homeowner gains full unencumbered ownership. If mortgage payments stop, the lender can foreclose to get repaid by selling the house.

Banks carefully underwrite mortgages prior to approval, reviewing factors like income, debts, and credit score to ensure borrowers can reliably make payments over the long-term.

Differences Between a Lien and a Mortgage

While mortgages are a very common form of lien, there are some key differences between general liens and mortgages:

1. Purpose

The purpose of a mortgage is specifically to finance real estate purchases. General liens have broader purposes like securing repayment of various debts.

2. Rights of the Creditor

Mortgage lenders have stricter foreclosure procedures defined by law. Holders of other types of liens (like mechanics) have more flexibility in seizing and selling collateral.

3. Impact on Property Ownership

Mortgages allow the borrower to purchase and live in a home before full repayment. Other liens are usually placed after purchase.

4. Legal Process Involved

Obtaining a mortgage involves extensive bank underwriting and documentation. But other liens can be imposed fairly easily without much process.

Similarities Between a Lien and a Mortgage

While they serve different primary purposes, mortgages and general liens have several similarities:

1. Both are Legal Claims

Mortgages and liens both represent a legal claim rather than full ownership. The property owner maintains rights as long as debt obligations are satisfied.

2. Both Can Lead to Foreclosure

If regular payments stop, the lien holder can foreclose on the property’s title regardless of whether it’s a mortgage or other lien. 

3. Both Require Repayment to Remove the Claim

The lien or mortgage encumbrance remains in place until the borrower makes full repayment. Only then is the creditor’s claim removed.

In 2022, there were approximately 1.1 million foreclosures in the United States, according to RealtyTrac data. This has declined significantly from the 2010 peak of 2.9 million foreclosures.

Can a Property Have Both a Lien and a Mortgage?

Yes, it is possible for a property to be subject to multiple lien encumbrances including mortgages and other lien types. 

For example, a homeowner with an existing mortgage could subsequently have mechanic’s liens or tax liens placed against their home if bills go unpaid. Each of these liens has its own claim priority.

Borrowers should be cautious about allowing multiple liens to build up, as it adds complexity in the event of a foreclosure and makes the property more difficult to sell. Too many liens also hurts the owner’s credit standing.

What Happens When You Pay Off Your Mortgage But Still Have A Lien?

If other lien claims remain after a mortgage is fully paid off, the home still cannot be sold free and clear. Any outstanding liens would need to be settled before the owner regains clear title without any creditor claims.

The lien holders retain legal rights on the property until the associated debts are resolved. Paying off the mortgage does not automatically release or subordinate other lien encumbrances.

How to Remove A Lien From Your Property?

There are a few options for homeowners with liens seeking to remove the claims:

• Pay off the debt – If financially able, paying the mechanic, tax bill, HOA fees, etc. directly removes the associated lien.
• File bankruptcy – Liens can sometimes be discharged through bankruptcy. Not all lien types are eligible, and a bankruptcy stays on your credit history.
• Negotiate – The lien holder may be open to negotiating a settlement for a lesser payoff amount if you have a good history of making regular payments on the debt.
• Wait for expiration – Liens are not necessarily indefinite. Expiration timeframes depend on state laws and the type of lien. 

Removing a lien improves the borrower’s financial standing and can make it easier to obtain credit and sell or refinance the property.

How to Avoid Liens When Buying A House With A Mortgage?

For home buyers utilizing a mortgage, there are steps that can be taken to prevent liens from popping up later:

• Review title records carefully to check for existing claims against the property.
• Understand state laws regarding homestead exemptions that offer some protection from certain liens.
• Maintain insurance coverage as required by the lender to prevent lapses.
• Make mortgage and tax payments on time every month to avoid related liens.
• Keep property maintained and associations fees current to avoid liens.
• Set aside reserves for unexpected expenses that could otherwise result in liens from unpaid bills.

Following these best practices helps new homeowners keep their property clear of additional lien encumbrances beyond the mortgage.

Conclusion

In summary, mortgages and liens have distinct purposes but work similarly by registering a legal claim against an asset. Both can lead to foreclosure if the secured debts are not repaid. Understanding the differences is helpful for both homeowners leveraging their property and buyers making real estate purchases with financing. Proper maintenance helps keep properties free of unnecessary liens beyond the mortgage.