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[Music] hello and welcome to profit Ailes property video number 41 I'm your host Dale Whitman in this video we're going to study the doctrine of equitable conversion a doctrine that applies whenever there is a contract for the sale of real property now what equitable conversion says is a little hard to believe it says that when an enforceable contract of sale is formed the nature of the parties interests in the property change now here's a little diagram with a vendor and a purchaser who have entered into a contract of sale what equitable conversion tells us is that as soon as that contract becomes specifically enforceable the vendors interest is converted into personal property even though they still have legal title to the land they are regarded as having personal rather than real property on the other side of the transaction as soon as the contract becomes specifically enforceable the purchasers interest is treated like it was already real property now notice that this happens even though the contract still executory we haven't at a closing yet the vendor still has legal title the purchaser has no legal title at all but we think of the purchaser as still having an interest in real property just by virtue of the contract being enforceable now here are some terms that it's helpful to learn in understanding equitable conversion the first term is that the purchaser after equitable conversion occurs is said to have equitable title in a way it's almost as if the purchaser had already become the owner of the property even though obviously they're not the legal owner yet they don't have legal title because the deed hasn't been delivered to them yet the legal title of course is still in the vendor but often the course will say the vendor has a bare or naked legal title meaning that for many purposes they're not treated as being the owner of the property anymore all of this is said to follow from the fact that the parties could get specific performance of the contract there's an old maxim equity that says equity considers to have been done that which ought to be done now that strikes me as a perfectly silly statement but in this context what it means is that for many purposes it is as though the title to the property had passed to the purchaser even though legal title hasn't passed a closing hasn't occurred and no deed has been delivered to the purchaser yet the conversion only occurs when the party who's claiming a conversion could get specific performance of the contract and what that means is that if there are any conditions precedent to that party's duty to perform those conditions have been satisfied for example the purchaser often in a contract will have a condition that they don't have to buy the property if they can't get a mortgage commitment or can't get financing and so if that condition hasn't been satisfied yet then so far as the purchaser is concerned there is no equitable conversion yet likewise on the vendor side the vendor normally has to have marketable title or some other quality of titles specified in the contract but the default is a marketable title well if the vendor doesn't have marketable title yet then equitable conversion will not have occurred so far as the vendor is concerned equitable conversion is in many ways a perfectly silly doctrine professor Tiffany once put it this way the introduction of the theory of equitable conversion appears to be entirely unnecessary and it's calculated to confuse rather than clarify the matter under discussion I certainly agree with that one conclusion we might reach from that is that the courts ought to apply equitable conversion only when it makes sense only when it comports with the intention of the parties unfortunately the courts tend to apply equitable conversion in a rather mindless fashion and often will apply it when it certainly does not comport with the intention of the parties so it's a mischievious doctrine and one that frankly we'd be better off without nevertheless we seem to be stuck with it why do we care if equitable conversion has happened not while there are two big categories of cases the first one consists of what we might call characterization issues by that we mean we're asking the question is this parties interest consider to be real property or personal property for the purpose of resolving some legal issue we'll talk about some of those issues in just a moment but that's the first big category of cases characterization cases the other big category is risk of loss cases suppose something bad happens to the property between the time the contract is formed and the time it's performed at the closing as the purchaser still have to complete the purchase and pay the full price the most obvious example is suppose there's a fire and the building on the property burns down does the purchasers still have to pay the full price for the property and by the charred embers so to speak that's a risk of loss issue an equitable conversion tends to govern those risk of loss issues we'll take a look at several of them shortly - we said that the first big category of cases are characterization cases we can list a few examples of those suppose someone gets a judgment against either the vendor or the purchaser after the contract has been entered into judgments become Lin's on real property and so equitable conversion will help us determine whether a vendors or a purchasers interest is real property a second example is what happens if somebody dies during the executor II period of the contract either the vendor or the purchaser might die well equitable conversion will help us figure out where the property goes upon the death of a party to the contract third there are often taxation issues some taxes apply to real property some taxes apply to personal property so characterizing a vendors or a purchasers interest as real or personal property can resolve who has to pay some taxes there may be other statutes that apply only to real property or only to personal property and therefore we may need to characterize the vendors or the purchasers interest as real or personal property for purposes of those statutes the second major category of cases under equitable conversion are the risk of loss cases and we've already mentioned the first of those the property might be damaged by a fire or other casualty during the executory period of the contract and the question is whether the purchaser still has to by second the property might be taken by the government in eminent domain during the executor II period who has to stand the loss if the government doesn't pay the full value of the property the property might be rezone the property might be subject to a change in building or housing codes that add or detract from its value all of these are cases in which there is potentially a loss to the value of the property and the question is which of the parties has to absorb or stand that loss the vendor or the purchaser well we're going to begin by closely examining a couple of the characterization issues the first characterization issue we want to talk about has to do with judgments and judgment liens so we need to know a little more about the way judgments work if a plaintiff Sue's the defendant and gets a money judgment against that defendant in many states that judgment automatically becomes a Lin on all of the defendants real estate in the county where the judgment is docketed so every piece of real estate in that county that's owned by the defendant automatically becomes subject to this judgment Lin other states saying well just getting the judgment isn't quite enough the plaintiff also has to take an abstract of the judgment just a single sheet of paper typically and recorded in the real estate records and in that way they get a Lin on the real estate but either way whether it's necessary to record an abstract of the judgment or not the point is that the Lin only attaches to the real property of the defendant judgments don't become lens on personal property they own become lens on real-estate so suppose the defendant owns some real estate that is under a contract of sale when the lien attaches now the defendant might be either party to the contract it might be either the vendor or the purchaser so let's suppose it's a judgment against the purchaser well under equitable conversion the purchasers interest is considered to be real property so virtually all the states agree that the judgment lien will attach to the purchasers interest in the land under that contract you might ask whether that has any real value after all the purchase price still has to be paid we haven't had a closing yet so the purchase price still hasn't been paid but it's still possible that the property will be worth more than the remaining purchase price for example part of the purchase price might already have been paid in the form of earnest money or if this is an installment contract it might have been paid in the form of regular installment payments by the purchaser to the vendor that have already been made another possibility is that the property will have gone up in value since the contract was entered into in any of those situations the property is worth more than the remaining purchase price and so to that extent the land has value to the plaintiff who is obtaining the land now on the other hand suppose there's a judgment against the vendor who's entered into a contract to sell their real estate logically under equitable conversion we would say the Lyne should not attach to the vendors interest at all because under equitable conversion the vendors interest has been converted to personal property and judgment lien is only attached to real estate however that's really been too much for some courts to accept and so the cases on this are actually sweat and about half the states do allow the land to attach to the vendors interest in the property even though equitable conversion would say it's personal property and not real estate that's really inconsistent with the whole concept of equity conversion now let's take a look at another characterization issue which is devolution upon the death of a party let's suppose the vendor owns real estate puts it under contract and then dies before the sale closes let's assume when the vendor dies the vendor leaves a will and the will says I leave my personal property to John and my real estate to Mary the question is who gets the real estate that's subject to this contract if the vendor dies before the sale is complete well Mary of course as the taker of the real estate under the will gets the bare legal title but she is obligated to give it up at the closing she's got to sign a deed conveying it to the contract purchaser when the closing occurs and if she doesn't want to do that voluntarily the court will order to do it under a decree of specific performance so Mary gets legal title but it really doesn't do her any economic good at all on the other hand who gets the purchase price when the sale is completed and the answer is it passes to John as personal property so in other words the benefits of the contract are treated as personal property and John is the person who was left the personal property under the decedent's will even if it was a specific device for example if he said I leave my house to Mary the device is considered to be a deemed what that means is that the vendor doesn't have the house anymore because equitable conversion takes it away from it and Mary doesn't get to keep the house or it doesn't get any money from the house when the sale occurs so Mary is basically out of luck in economic terms and John gets the economic benefits you can see then that the doctrine of equitable conversion is quite significant in determining who benefits from this real estate if it's under contract when the vendor dies now I want you to notice that this result very often is likely to defeat the vendors intentions suppose for example the will was executed after the contract was signed and suppose the will even specifically mentions this particular piece of real estate as going to Mary or suppose this land is the only real estate the vendor owned so when he said I leave my real property to Mary he surely must have meant that Mary would get this particular parcel of real estate is it likely the the vendor really intended john to receive the economic benefits of the sale I think not but that is the usual result under equitable conversion so equitable conversion turns out to be a kind of a mindless doctrine that doesn't pay proper attention to the probable intentions of the parties now let's change the facts and assume that instead of the vendor it's the purchaser who dies and we'll consider what happens to the purchasers property assume the purchaser leaves of will that says I leave my personal property to John and my real estate to Mary well the first question is who gets the land when the contract closes who actually becomes the owner of the real estate when the closing occurs and the answer of course is Mary the reason is that at the time of the purchasers death equitable conversion had already happened and it made Mary the owner of the real property so she just continues to be the real property when legal title passes on the other hand who's going to pay the purchase price for the property when the closing occurs well the answer is that under the old common law principle of exoneration the payment of the purchase price comes out of the personal property of the estate and John of course is the person who's receiving the personal property so John's estate will be depleted to pay the purchase price exoneration required as the personal property estate to pay off all of the decedent's debts fortunately a number of states have repealed the doctrine of exoneration it's probably in its last gasp but it still does apply in a number of states so we get the rather unfair result that Mary gets the real estate and John pays for it even though John gets no benefit from it at all it's hard to believe that would have been the intent of the purchaser but that is the result that equitable conversion leaves us with now we're going to turn our attention to the other big set of issues under equitable conversion what we call the risk of loss issues in these cases we're asking what if something bad happens to the property between the time the contract becomes enforceable and the time of the closing who's going to stand the loss or damage if the property's value is reduced if the property is damaged during the executory period of the contract does the buyer have to complete the purchase and pay the full price and the answer to that under equitable conversion is yes amazing as that may seem contrary to common sense as it may seem why is this the law well it's because of equitable conversion but it certainly does not agree with the common expectations of the parties most people who sign a contract to buy real estate assume that they're not responsible for bad things that happen to it until they have legal title but equitable conversion says as soon as the contract is signed they become responsible for the property can you change this by contract well the answer is not only you can but almost every printed form contract will change it and say that the risk of loss remains on the vendor and if you're drafting a contract from scratch it is almost certainly something that you want to put in your contract to say that the purchaser won't have the risk of loss until either they take possession of the property or until legal title passes if we were to imagine what a common risk of loss type caused in a contract would look like it would be something like this first of all the cause probably will divide damages to the property between relatively small amounts and relatively larger amounts and it might do that by either fixing a dollar amount or a percentage of the selling price of the land a common break point might be 10% of the purchase price so let's suppose that we have a cost of repair that exceeds that percentage or dollar amount it's a big loss in other words what the cause might say is that the seller has to notify the buyer of the laws and then state whether the seller agrees to make the repairs necessary to return the property to its previous condition or not if the seller does not agree to make the repairs then the buyer usually would have the choice of either electing to rescind the contract resetting a return to their earnest money and walking away from the contract or proceeding with the purchase and either getting an assignment of the insurance proceeds or an abatement of the purchase price in the amount of the loss the insurance proceeds just provide a convenient way for figuring out what the size of that abatement might be if the cost of repair is relatively smaller let's say less than 10% of the total purchase price of the land then the seller would have an obligation to repair before the closing or as soon as practicable after the closing and of course the buyer wouldn't have any loss at all resulting from the repair so you can see that under this cause either way whether it's a big loss or a small loss the seller does have the risk of loss which is exactly where the parties normally expect it to be there is an act put out by the commissioners on uniform laws back in 1935 it was intended to reverse the common risk of loss result that we get from equitable conversion a result that as we've seen is really quite unfair and contrary to the party's expectations this act has only been adopted in about a dozen states what and it only applies if neither legal title nor possession has been transferred to the purchaser so if those facts are true then what the Act says that if all or a material part of the property is destroyed or if it's taken in eminent domain the purchaser can rescind and get restitution of any part of the purchase price that they have paid for example they could get their earnest money back now there are some weaknesses in this act it's quite limited it doesn't define what a material part of the property is that has to be destroyed in order for the actor to be triggered and it also doesn't say whether the purchaser might want to elect to proceed with the purchase and get an abatement of the purchase price instead of rescinding and getting their earnest money back some courts have had to weigh in on that point and their answers have generally been that the purchaser does have that choice but the act itself doesn't cover it so it's not a great act but still it is pretty helpful in situations where equitable conversion would otherwise give us the bizarre result of the purchaser having the risk of loss now we need to think a little about the effect of fire insurance or other casualty insurance on this situation let's suppose the vendor does have a policy of fire insurance on the property that's usually true most people carry insurance on their property either because they think it's a good idea or because their mortgage lenders require them to do it so now let's suppose that the insurance company is faced with paying a bill because of a fire on the property that occurred during the executor period of the contract and the insurance company says oh we don't have to pay that the reason is that fire insurance is a contract of indemnity and the vendor who's the insured party here doesn't have any loss to indemnify the reason is the purchaser under equitable conversion is going to have to pay the vendor or the full contract price for the property so the vendor doesn't have any loss and therefore even though there's a fire we don't have to pay on that fire well well that argument work it certainly will not the courts would say that would unjustly enriched the fire insurance company they've been receiving premiums for covering the risk of fire they've darn well got to cover it so they do have to pay off now this puts the vendor in an interesting position the vendor says gee this is one of the best fires I ever had I can both collect from the fire insurance company and also make the purchaser pay me the full price for the property because equitable conversion says the purchaser has the risk of loss well that argument worked well the answer is no if the vendor can collect on the fire insurance the vendor is going to be required by the courts to abate the purchase price by the amount of the insurance proceeds so ultimately the benefit of the fire insurance does flow through to the purchaser which only makes sense on the other hand a purchaser can't count on this happening because there's no absolute assurance that the vendor will have any fire insurance or that the insurance will be adequate to cover the loss so it's still a great idea for the purchaser to put a cause in the contract of sale reversing the normal equitable conversion result and providing as we saw in the clause we've been through a few minutes ago that the risk of loss is back on the bend or until either the purchaser has taken possession or legal title has passed well that's the end of prop tails property video number 41 on equitable conversion in video number 42 we'll take up the operation of the recording acts if you have questions or comments email prof dale 0 1 at gmail.com thank you for watching you