Equitable interest is a concept that is part of the everyday life of a real estate professional.
Whether you’re buying and selling properties or you’re a real estate agent, you’ll want to have a deep understanding of this idea.
Below, we’ll discuss not only equitable interest but also the concepts you must understand along with it like legal title and equitable title.
Let’s get started.
1. What is equitable interest?
It’s a broad term that covers an interest established through principles of fairness, rather than the true legal assignment of ownership.
This type of interest can typically be overridden by legal ownership.
The only way to have equitable interest enforced is by the Court.
Let’s look more closely at this.
During the buyer-seller transaction, the seller still holds the title (which is key to legal ownership), but the buyer has a legal interest in the property.
The name given to this legal interest before the ownership is passed between them via the title is called equitable interest.
This is the most common way that we see the concept.
2. What is legal title?
Legal title is the true and enforceable ownership of a property.
It cannot be easily overridden.
A legal title carries with it the many responsibilities of maintaining, using, and controlling a piece of property.
But it also comes with many rights.
These rights may include (but not always):
Possession and control
Right of disposition
If your name appears on the deed, then you have legal title of the property.
This is the “apparent” ownership or ownership that is documented on paper.
However, your ownership of the property is not complete if someone else has equitable title.
Equitable title has the ability to restrict some of the ways that you can use and enjoy the property.
Read the next section for more information on equitable title.
3. What is equitable title?
Equitable title refers to the ability to use and enjoy the property, but is not “true ownership.”
Anyone with equitable ownership could not argue that he or she was the legal owner or possessor of the property in court.
In order to do this, a legal title is required.
Still, having equitable title does grant the person more consistent control over the property.
Because someone with equitable title has the rights of “benefiting from” and “enjoying” the property, this often comes with the responsibility of financing it.
Additionally, equitable title gives the holder the right to acquire formal legal title and the right to access the property.
When purchasing any property, it is important to gain equitable title as well as legal title.
This comes with the right to obtain full ownership and property interest in the future.
Equitable title establishes the person’s financial interest in the property.
This is why a property investor can hold equitable title and list a property without having legal title.
However, they cannot actually sell the property.
To understand this, keep reading.
We’ll discuss common situations where legal and equitable title interact.
4. What are situations when legal and equitable title interact?
Depending on where you live, ownership laws are not always black and white.
The property seller may not always be the legal possessor of the piece of real estate according to the deed.
The law may allow the equitable title and the legal title to belong to two separate parties.
One situation in which legal and equitable title becomes divided is with a land contract.
In this case, the seller provides financing for the buyer through a payment plan.
Instead of recording a deed transferring title to the buyer, the seller will execute a contract with the buyer outlining the payment terms and the rights of both parties.
For the duration of the contract, the seller will retain legal title while the buyer has equitable title.
That is the buyer has the right to possess the property and the duty to maintain it.
At the end of the loan term, the deed will transfer full title to the buyer so that they will hold legal and equitable title.
Another common scenario where legal and equitable title overlap is when dealing with a trust.
A trust is a legal arrangement in which one party (the trustee) holds property on behalf of another party (the beneficiary).
In this scenario, an individual will acquire a property and then record a deed transferring legal title of the property to their trust.
The terms of the trust are dictated by the trust documents, which will delineate the identity of the trustee and beneficiary.
Often, the property owner will assign themselves as the beneficiary, but sometimes they may list a child or other family member.
They may also choose to serve as trustee themselves or appoint a third-party.
When the transfer to the trust occurs, the trustee becomes the legal owner and has the right to sell the property (subject to terms of the trust) as well as the obligation to maintain the property and defend it in court if necessary.
On the other hand, the beneficiary has beneficial interest in the trust (i.e. equitable title), including rights to the profits and income coming from the property held by the trust.
Trusts are used because transferring legal title upon the passing of a trustee is easier with a trust than when legal title is held by an individual.
This is because the probate process can be skipped when a trust is involved.
5. How does equitable interest impact who can sell the property?
Often, people come into contact with equitable interest because someone is listing a property they don’t own.
Actually, these listings will likely be on a local listing website rather than the MLS, but it opens up the question of equitable interest.
It’s often true that only the owner of a property can sell it…unless you have equitable interest in a property.
In these cases, equitable interest comes in a variety of forms:
purchase and sale contract
an option contract
a contract for deed
a lease option contract
an approval letter for a short sale
When you find someone listing a property they don’t legally own, they are most likely a wholesaler.
Wholesalers typically sell a property after they execute a purchase and sale agreement.
This allows them to become the equitable interest holder and advertise the property instead of buying it outright.
When the investor has a prospective buyer who agrees to sign a purchase and sale agreement, he himself signs it as the seller.
The contract will contain a clause that stipulates that the sale is contingent on his purchase of the property.
Sometimes, the investor can assign his original purchase contract with the seller to the investor’s end-buyer, and the end-buyer actually closes by taking over the investor’s responsibility for the original contract.
The end-buyer will ultimately purchase the property and the wholesaler will earn an assignment fee.
Keep in mind that, unlike realtors, investors do not earn a commission.
Rather, they work to find buyers through marketing attempts, and having equitable interest helps them to do so.
Buying properties, taking a financial risk, and selling them to buyers pays off in the end.
Many investors also rehab and transform neighborhoods throughout this process as well.
6. I’m confused…what is the investor “selling” in the last example?
In the last section, the investor is selling his contractual interest in the property to a second buyer.
Even though the parties haven’t closed yet, the investor is able to sell his equitable interest, and this is why he’s able to list the property now when he wasn’t before.
However, not all states like when investors (or anyone for that matter) do this.
The Texas Real Estate Commission has recently adopted an “equitable interest” rule that’s intended to keep unlicensed people from practicing real estate brokerage.
This rule does not mean that holders of equitable interest cannot sell their interest in the property, but they must be very careful to accurately disclose what is being sold.
Here are some general guidelines:
If you’re representing the original buyer:
You must make sure that you disclose to any potential buyers that your client is selling an option or assigning an interest in a contract.
They must know that they do not have the legal title to the property.
This disclosure can be either verbal or written and must be made anytime that you market the property on your client’s behalf.
Any potential buyers and your client must be made aware of this.
If you’re representing the second buyer:
Make sure that you disclose to your client that the original buyer is selling an option or assigning an interest in a contract.
This means that the original buyer does not have the legal title to the property.
Again, this disclosure can be verbal or written, and all parties must be aware of what each party is buying and selling.
If you’re the original buyer and are now offering to sell your contractual interest:
Then you must disclose to potential buyers that you are selling an option or assigning an interest in a contract (either verbally or in writing).
Every time you market the property, this disclosure must be made.
This also applies in any situation when you are acting on behalf of a spouse, parent, child, business entity that you own more than 10%, or a trust in which you are the trustee or your spouse, parent, or child is a beneficiary.
If you are an unlicensed buyer that is attempting to sell his contractual interest in a property:
You must disclose the nature of the interest.
Again, this must be in writing or verbally to any potential buyers.
As an unlicensed buyer, you must make this disclosure every time you market a property.
While the concepts of equitable title, legal title, and equitable interest may seem straightforward on the surface, studying the critical details can allow you to make the right decisions when it comes to purchasing a property.
Understanding the distinction between legal and equitable title can help you make an informed purchase.
Have any questions?
Let us know in the comments.
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Disclaimer: we are not lawyers, accountants or financial advisors and the information in this article is for informational purposes only. This article is based on our own research and experience and we do our best to keep it accurate and up-to-date, but it may contain errors. Please be sure to consult a legal or financial professional before making any investment decisions.