What Is an Encumbrance?
How Do Encumbrances Work?
An encumbrance in real estate refers to a non-owner or third party’s claim against the use of a property. It restricts the owner’s ability to transfer the title of a property, thus preventing a buyer from enjoying the full rights of ownership. For example, an encumbrance may limit access to a property or prohibit any construction or use of specific items on the property.
Encumbrances may be financial, like mortgages or liens, or legal and personal responsibilities, like easements and other property use restrictions. An encumbrance can hinder the free use and transferability of a property until the owner resolves the issues with the other party.
An encumbrance may also affect the marketability of real estate because it can decrease the property’s value. Therefore, understanding the true value of any real estate asset requires careful examination of all encumbrances attached to it.
Encumbrance vs. Lien
Encumbrances and liens are two terms that directly relate to property ownership. In general, all liens are considered encumbrances, but not all encumbrances are liens. This is because encumbrances are not always monetary, such as a claim against a property by a third party or non-owner that includes property use restrictions.
Meanwhile, a lien is a type of encumbrance that refers to a legal and monetary claim against a property meant to protect the interests of creditors and ensure payment for the property owner’s debts. It is a form of secured interest that gives creditors the right to seize property if the owner fails to pay off debts or satisfy the lien.
When a property owner has a lien attached to their property, the lienholder or creditor has some claim or right to part of the property’s value. Property owners must resolve all liens before they can successfully close any real estate transactions.
Types of Liens
There are several types of liens depending on how they were created or what they cover.
A lien falls under two broad categories: general and specific. A general lien applies to all the debtor’s personal and real properties, while a specific lien affects only one property or a specified portion.
Two kinds of liens also describe the creation of a lien: voluntary and involuntary liens. Voluntary liens are those to which the property owner willingly agrees, usually involving a contract between a creditor and a debtor. Involuntary liens do not require the owner’s approval, often taken by government agencies or granted by courts.
In general, there are several specific types of liens:
- Mortgage liens. The most common type of voluntary real estate lien, mortgage liens are taken by lenders when they loan to a borrower.
- Tax liens. Federal, state, or local governments may impose this involuntary and specific lien against a property when the owner fails to pay real estate taxes. If the owner cannot pay the tax liens, the government may sell the property at a tax auction to recoup the amount they were owed.
- Mechanic’s liens. Also known as materialman’s liens, these are placed on the real estate asset if the owner fails to pay a contractor or subcontractor who performed work on the property. Vendors who supplied materials for the construction job can also file mechanic’s liens.
- Judgment liens. These are claims against a person’s property that arise due to a lawsuit. A judge can award this type of lien when a property owner loses a lawsuit and fails to pay the winner. If the property owner cannot satisfy the judgment lien, the creditor or lienholder can file for foreclosure or have the property sold as payment for the debt.
Other Types of Encumbrances
Besides liens, several other types of encumbrances may apply to real estate. Here are some of the most common.
Also known as a restrictive covenant, this type of encumbrance details the rules and limitations about how a property can be used or the kinds of structures that can be built on it. These restrictions maintain certain standards for the use of a property and protect property values.
Deed restrictions are typical in new property developments where the developers or management company sets rules to prevent the homeowner from making specific changes to the property. Some examples of deed restrictions include limiting parking areas, maintaining uniformity for residential or business purposes, and prohibiting the use of a satellite dish. In historic districts, deed restrictions bar property owners from changing historical elements of a property.
This type of non-financial encumbrance refers to the legal right of a non-owner or third party to use a particular parcel of land for their own benefit. An example is allowing utilities to put up holes or run electric wires and pipelines across properties. Another involves sharing the use of a driveway or access to or across a part of the property.
This encumbrance transfers with title, which means that when the property is sold, the easement remains in place and does not have to be negotiated with the new property owner.
Encroachment happens when one party has a physical structure (e.g., a fence, tree, shed, driveway, or building) that crosses over the boundary lines onto an adjacent property. The encroachment creates an encumbrance on the two parties involved until they can resolve it.
A surveyor usually discovers these encumbrances during a survey or inspection of the property’s boundary lines and the location, size, and shapes of the buildings on the lot before a sale.
The property owner whose land has been impinged upon may sue for damages or require the removal of the encroachment.
A license is an encumbrance that applies when property owners grant another individual a right to use their property. Good examples of licenses include allowing a neighbor to park a car on the property or store some things inside the garage. This privilege can be terminated at any time and does not transfer with the sale of the property.
How to Deal With Encumbrances in Real Estate
A property title search helps stakeholders uncover vital information about a property, including any claims and encumbrances against it.
A property title search is initiated before the seller and buyer close a deal. The title search may take anywhere between a few hours to about 14 days, depending on the age, location, and transactions related to the property.
Individuals may go to the local clerk’s office to conduct a title search on public records themselves. However, in most cases, an attorney or title company performs the title search, as they are more familiar with the complexities of real estate requirements, records, and indexing.
Encumbrances can be removed on a property, but the resolution may require a legal process based on the number and type of claims. For properties with liens, the owner must pay off all debts and file a lien release with a county recorder. Replotting property lines or removing a structure from the adjacent property may also resolve an encumbrance.
A deed of reconveyance signifies removing an encumbrance and conveys a clear title to the property owner.
However, note that restrictions like easements, setbacks, and zoning are features of the land and cannot be removed.
Encumbrance is a general term that refers to any claim against the use of a real estate asset by someone other than the property owner. Liens are the most common, but several types of financial and non-financial encumbrances exist, including deed restrictions and easements.
Encumbrances cloud the property title and may hamper sales, affect the transfer of property ownership, and decrease property value. Removing and resolving encumbrances may require a legal process depending on the number and types of encumbrances attached to the property. Land-use restrictions are encumbrances that cannot be removed.
A thorough property title search serves as due diligence and allows individuals to examine public records and determine all encumbrances attached to a property.
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