Risks In Transferring Mortgage Property By Deed Without Lender Permission

By: Lance T. Denha, Esq.

There are several situations where you may need to change title to real estate. To name a few examples, property owners may need to sign a quit claim deed to remove an ex-spouse, add a new owner (such as a new spouse) to the deed, remove a deceased owner from title, prepare a deed to avoid probate, transfer property to a living trust or transfer property to an LLC or other business entity.

In each of these situations, a Deed will be required to change the title to the property. But what if the property is already subject to a mortgage? Do you need permission from your bank or other lender in order to transfer the property? The answer depends on the type of transfer.

A due-on-sale clause is a provision in a mortgage document that requires the full balance of the loan to be paid in full if the property is transferred to anyone else. Although due-on-sale clauses were designed to apply when the property is sold to an independent third party, they apply to any transfer of real estate to a new owner. Even if the new owner is a trust or business that you own, the due-on-sale clause could be triggered.

Due-on-sale clauses are common. You will find them in almost all mortgages for residential real estate in the United States. It is always up to the lender to decide whether to enforce a due-on-sale clause. If your lender decides to enforce the due-on-sale clause (a process known as calling the loan), the lender can force you to repay the loan in full or risk losing the property in foreclosure. However, historically this is a drastic measure that can been used by lenders, but not so often. As long as the mortgage is paid, most banks will not complain or seek to enforce the due-on-sale clause. And if the mortgage is not paid, the bank will foreclose regardless of the due-on-sale clause.

Because most lenders do not actively seek to enforce due-on-sale clauses when the property has not been actually sold, many homeowners do not worry about getting lender permission when they deed the property to their trust or business or add or remove a family member. As long as it is not concealed, transferring the property without lender permission is not illegal. However, be aware that it does create a technical possibility that the lender could enforce the due-on-sale clause. There could be good business reasons from the Lender to do so.  For example, in a rising interest rate environment, a Lender may call the loan with any technical default to obtain a larger interest rate so that it can re-lend the money at a higher interest rate. Unless an exception applies (see below), a transfer creates at least a remote possibility that the lender could call the loan.

The following are all situations where the lender cannot call a loan based on a due-on-sale clause:

• No Due-on-Sale Clause– There is no general right to call loans absent an authorizing provision in the loan documents. If the mortgage does not have a due-on-sale clause, the lender cannot call the loan.
• Junior Mortgages– The creation of a second mortgage is not a transfer that triggers a due-on-sale clause. An exception exists for “the creation of a lien or other encumbrance subordinate to the lender’s security instrument which does not relate to a transfer of rights of occupancy in the property.”
• Transfer to Surviving Joint Tenant–The lender cannot call the loan if your property passes to a surviving joint owner by right of survivorship.
• Transfer by Inheritance –If a relative inherits property at your death, the lender cannot use the due-on-sale clause to call the loan.
• Transfer to Spouse or Child –A lender cannot enforce a due-on-sale clause for “a transfer where the spouse or children of the borrower become an owner of the property.” This protects transfers to your spouse or children.
• Transfer on Divorce – If you transfer the property as part of a divorce, the lender cannot call the loan as “a transfer resulting from a decree of dissolution of marriage, legal separation agreement, or from an incidental property settlement agreement, by which the spouse of the borrower becomes an owner of the property.”
• Transfer to Living Trust– An exemption also exists for the transfers to living trusts for estate planning purposes, as long as the borrower is a beneficiary of the trust with ongoing right to occupy the property.

These exceptions protect homeowners that transfer property for estate planning or other personal reasons. Note, however, that transfers to business entities are not included in this list. A transfer to an LLC or other form of business could still trigger a due-on-sale clause, even if you continue to own the property indirectly through our ownership of 100 percent of the business after the transfer.

Please note the decision of whether to request lender permission depends on your risk tolerance. Lenders have no incentive to approve transfers and often will simply not respond when asked for permission. For these reasons, some property owners may hesitate to make a transfer without obtaining Lender consent, while others will roll the dice and hope they don’t crap out.