These days, almost all commercial loans include an Assignment of Rents as part of the Deed of Trust or Mortgage. But what is an Assignment of Rents? Why is this such an important tool, and how are they enforced?
An Assignment of Rents (“AOR”) is used to grant the lender in a transaction a security interest in existing and future leases, rents, issues, or profits generated by the secured property, including cash proceeds, in the event a borrower defaults on their loan. The lender can use the AOR to step in and directly collect rental payments made by the tenant.
For an AOR to be effective, the lender’s interest must be perfected, which has a few fairly simple requirements. The AOR must be in writing, executed by the borrower, and recorded with the county where the property is located.
Including an AOR in the recorded Deed of Trust or Mortgage is the easiest and most common way to ensure the AOR meets these requirements should it ever need to be utilized.
It’s also worth noting that, in the context of a real estate transaction, an assignment of rents—whether general or specific—may be registered on title. This means the lender’s security interest becomes part of the public record associated with the property.
These steps help make sure the lender’s rights are established and enforceable if the borrower defaults, streamlining the process for stepping in to collect rents or profits.
General vs. Specific Assignment of Rents
So, what’s the actual difference between a general assignment of rents and a specific assignment of rents?
A general assignment of rents wraps up all current and future leases at the property. This means that no matter who’s renting, or when a new lease is signed, the lender’s rights under the assignment apply broadly to any and all rental income tied to the property.
By contrast, a specific assignment of rents only applies to certain leases or listed tenants detailed in the agreement. In other words, the lender’s security interest is limited to rent from particular parties, and doesn’t stretch to new leases created down the line.
Understanding this distinction is key when structuring or reviewing loan documents—especially if you expect the tenancy at a property to change hands over time.
Assignment of Rents and the Uniform Commercial Code
You might be wondering whether a security interest in an Assignment of Rents can also be filed using the UCC. The answer is sort of—lenders may perfect their interest in other personal property, such as proceeds, deposit accounts, or other personal property where rents may be held by filing a UCC-1 in the proper Secretary of State office, as well as recording the UCC-1 in the property records. Generally, however, this is not a necessary step to obtain or perfect an Assignment of Rents and would simply act as additional collateral for the lender, or help a lender obtain possession of the rents when enforcing an AOR.
When Does an Assignment of Rents Get Removed?
Typically, the assignment of rents remains tied to the property title for as long as the loan is active. It is only released once the loan secured by the Deed of Trust or Mortgage is fully paid off and the lender formally discharges the mortgage. At that point, the assignment is no longer needed, and it can be removed from the title—restoring the borrower’s full control over the property’s rental income.
When a borrower defaults, lenders can take advantage of AORs as an alternative to foreclosure to recoup their investment. With a shorter timeline and significantly lower costs, it is certainly an attractive option for lenders looking to get defaulted borrowers back on track with payments, without the potential of having to take back a property and attempting to either manage it or sell it in hopes of getting your money back out of the property.
AORs can be a quick and easy way for the lender to get profits generated by the property with the goal of bringing the borrower out of default. But lenders should carefully monitor how much is owed versus how much has been collected. If the AOR generates enough funds so that the borrower is no longer in default, the lender must stop collecting rents generated by the property.
Enforcement of an AOR can also incentivize borrowers to work with the lender to formulate a plan, as many borrowers rely on rental income to cover expenses related to the property or their businesses. Borrowers are generally more willing to come to the table and negotiate a mutual, amicable resolution with the lender to protect their investment.
A word of warning to lenders, though: since rental income is frequently used to pay expenses on the property, such as the property manager, maintenance, taxes, and other expenses, the lender needs to ensure they do not unintentionally hurt the value of the property by letting these important expenses fall behind.
This may hurt the lender’s investment as well, as the property value could suffer, liens could be placed on the property, or the property may fall into disrepair if not properly maintained. It is also important for lenders to be aware of the statutes surrounding the payment of these expenses when an AOR is being used, as some states’ statutes require the lender to pay certain property expenses out of the collected rents if requested by the borrower.
In addition to being shorter and cheaper than foreclosure, AORs can be much easier to enforce. In California, the enforcement of an AOR is governed by California Civil Code §2938. This statute specifies enforcement methods lenders can use and restrictions on use of these funds by the lender, among other things. Under CA Civil Code §2938(c), there are 4 ways to enforce an AOR:
- The appointment of a receiver;
- Obtaining possession of the rents, issues, profits;
- Delivery to the tenant of a written demand for turnover of rents, issues, and profits in the correct form; or
- Delivery to assignor of a written demand for the rents, issues, or profits.
One or more of these methods can be used to enforce an AOR. First, a receiver can be appointed by the court and granted specific powers related to the AOR, such as managing the property and collecting rents. They can have additional powers, though; it just depends on what the court orders. This is not the simplest or easiest option, as it requires court involvement, but this is used to enforce an AOR, especially when borrowers or tenants are uncooperative.
Next is obtaining possession of the rents, issues, and profits, which is exactly as it seems; lenders can simply obtain actual possession of these and apply the funds to the loan under their AOR.
The third and fourth options each require delivery of a written demand to certain parties, directing them to pay rent to the lender instead of to the landlord. Once the demand is made, the tenant pays their rent directly to the lender, who then applies the funds to the defaulted loan.
These are both great pre-litigation options, with advantages over the first two enforcement methods since actual possession can be difficult to obtain, and courts move slowly with high costs to litigate. The written demands require a specific form to follow called the “Demand To Pay Rent to Party Other Than Landlord”, as found at CA Civil Code §2938(k).
There are other notice requirements to be followed here, so it is essential to consult with an experienced attorney if you are considering either of these options. California Civil Code §2938 specifically provides that none of the four enforcement methods violates California’s One Action Rule nor the Anti-Deficiency Rule, so lenders can confidently enforce their AORs using the above methods with peace of mind that they are not violating other California laws.
How Fortra Law Can Help
Whether you are looking to originate a new loan or you are facing a default by your borrower, understanding what an Assignment of Rents is and how it operates can be extremely beneficial.
Enforcing an AOR can be an easier option than foreclosure and can help promote a good relationship with your borrower when handled correctly. If you have any questions about AORs or need further details on how to enforce them, Fortra Law is here to help. Contact our team today to get started.
